In recent years, the Commodity Futures Trading Commission
("CFTC" or "Commission") has brought cases of
ever-greater significance, against respondents with greater name
recognition, for consistently increasing civil monetary penalties.
We expect these trends to continue despite budget or other resource
constraints the Commission may face in 2014. The Commission will
also seek to flex its new enforcement authority under the
Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010
("Dodd-Frank" or "the Act").1 That
being said, we do not expect the Commission to lessen its
traditional focus on enforcement actions concerning market
integrity. To the contrary, the Commission recently appointed a
Division of Enforcement alumnus as Director of the Division of
Market Oversight, suggesting that the Commission remains committed
to aggressive market integrity oversight. Finally, as it completes
Dodd-Frank implementation, the Commission will likely focus greater
attention on market structure issues, including high frequency
trading.
2013: Record Sanctions, Budget Challenges, and a Changing
of the Guard
By October 2013, the Commission had assessed a record $1.7 billion
in monetary sanctions, mainly from fines collected through LIBOR
manipulation settlements.2 Thus, as of October, the
Commission had collected more than eight times its
reported 2013 total budget of roughly $200 million, far in excess
of historical averages.3
However, the Commission commenced somewhat fewer enforcement
actions in 2013 than in 2012, though the total remains at
historically high levels.4 This trend mirrors slowdowns
at other financial regulatory agencies.5 One reason may
be budget constraints: Commission leaders and President Obama have
criticized the CFTC's budget as being far too low given the
agency's responsibility for regulating hundreds of trillions of
dollars in transactions.6
These budget concerns as well as leadership turnover have created
some uncertainty about the agency's 2014 enforcement
initiatives.7 In early January 2014, the CFTC received
less than a 10% budget increase to $215 million—$100 million
below President Obama's request to lawmakers.8
Further, with the departure of Chairman Gary Gensler and the
announced departure of Commissioner Bart Chilton, both of whom have
been considered aggressive supporters of expanding the agency's
authority, there is, at this point, no clear indication of the
Commission's enforcement or regulatory priorities in 2014.
While we expect that the Commission's budget issues and
personnel turnover may have a marginal effect on enforcement
activity, we also expect the Commission to continue
aggressively pursuing high-profile matters, including many in the
fraud and manipulation space, possibly in coordination with other
enforcement authorities. We have seen the signs of this continued
enforcement activity in our own practice.
Enforcement's Substantive Areas of Focus in
2013—A Look Back
In 2013, CFTC enforcement actions focused on several
substantive areas, which we anticipate will remain in the spotlight
in 2014. These include the following:
Benchmark Manipulation
The CFTC's most visible 2013 enforcement activity stemmed from widespread investigations into manipulation of benchmark interest rates by major financial institutions (e.g., LIBOR, EURIBOR). In its most recent such settlement, the CFTC ordered Coöperatieve Centrale Raiffeisen-Boerenleenbank B.A. ("Rabobank") to pay a $475 million civil monetary penalty to settle allegations that the bank submitted false information to manipulate the LIBOR and the EURIBOR.9 The Commission has pursued similar actions against several other major financial institutions and amassed penalties totaling more than $1 billion.10 Because of the public attention paid to these investigations, and the precedents set by the record penalties levied, we can expect CFTC Enforcement and other regulators to continue to aggressively pursue potential benchmark manipulation matters in 2014.11
As a result of the MF Global, Inc. and the Peregrine Financial Group, Inc. ("PFG") episodes involving the loss of hundreds of millions of customer funds that had been held in segregated accounts, the CFTC has made increasing the protection of customer funds a top enforcement and regulatory priority. This increased enforcement priority was exhibited in 2013 in the high profile actions brought against MF Global, its CEO Jon Corzine and Assistant Treasurer Edith O'Brien, PFG, PFG's owner, accountant, and bank.
Although MF Global has settled all charges against it,12 former CEO Corzine and Treasurer O'Brien are contesting the charges brought against them.13 As noted above, in the PFG matter,14 the CFTC also pursued separate enforcement actions against ancillary participants that had responsibilities with respect to customer funds, including PFG's accountant and PFG's bank, U.S. Bank National Association ("U.S. Bank").15 Then-Enforcement Director David Meister stated regarding the U.S. Bank action, "[a]s should be apparent from today's action, we will seek to hold a bank to account if it falls short on complying with customer fund protection obligations. Wasendorf stole vast sums of customer money, but his crimes do not excuse U.S. Bank from its own independent responsibilities."16
In addition to these high-profile actions, the CFTC brought actions against more than a dozen Futures Commission Merchants for violating segregation, secured, and net capital rules and related supervision and reporting failures.17 The volume of these cases is instructive for market participants looking ahead to 2014—it is critical for all parties to relevant transactions to review internal processes and to take steps to ensure that conduct is consistent with anti-misappropriation controls and customer fund segregation requirements.
New Enforcement Authority Under Dodd-Frank
Dodd-Frank ushered in sweeping expansions to the jurisdiction and enforcement powers of the CFTC.18 We expect to see continued focus on these areas as the agency exercises its new authority with new investigations and new theories of liability in 2014. Areas to watch include the agency's expanded jurisdiction over market participants' conduct (e.g., false statements, manipulation, and disruptive trading), the location of the conduct (e.g., cross-border activities and non-US market participants) and products (e.g., swaps and retail commodity transactions).
False Statements
Dodd-Frank expanded the CFTC's authority to pursue any false "statement of material fact made to the Commission in any context."19 Under this new authority, the CFTC has assessed penalties for false statements: in written responses to CFTC Enforcement inquiries and in false reports to the National Futures Association ("NFA");20 concerning customer segregated funds holdings in an NFA audit and in filings with the Commission;21 and in interviews during an enforcement investigation.22 CFTC Division of Enforcement Director Gretchen Lowe recently commented: "Witnesses in CFTC investigations must tell the truth. If they do not, the CFTC will not hesitate to take action to enforce [ ] Dodd-Frank's prohibition against providing false or misleading information and impose sanctions."23
Anti-Manipulation Authority—Rule 180.1
Section 753 of Dodd-Frank amended the Commodity Exchange Act § 6(c) to give the CFTC anti-manipulation enforcement authority similar to that of the SEC under § 10(b) of the Securities Exchange Act.24 In adopting Rule 180.1, which was in turn modeled after SEC Rule 10b-5, the Commission announced that it "will be guided, but not controlled, by the substantial body of judicial precedent applying the comparable language of SEC Rule 10b-5."25
Rule 180.1 is quite broad, covering not only manipulation, but attempts to manipulate.26 The rule also reaches not only conduct in connection with a purchase or sale, but also prohibits deceptive devices or contrivances in connection with any swap, cash contract, or futures contract.27 Thus, the new rule applies to conduct or attempted conduct in connection with activities well beyond the purchase or sale of a covered instrument (e.g., all of the payment and other obligations under a swap). While the CFTC may use the new rule to pursue more types of fraud and manipulation actions, the similarity between the rules also provides respondents with a large body of precedent from which to draw arguments and potential defenses.
In connection with the CFTC's announcement in October 2013 of an enforcement action under Rule 180.1, then-Enforcement Director Meister emphasized how the Commission is "now better armed than ever" with Rule 180.1, which he described as "a powerful new tool."28
Ponzi Schemes: We can expect the CFTC to continue to pursue commodities-related Ponzi schemes under the new anti-fraud and anti-manipulation authority found in Rule 180.1. Relying on this new authority, the CFTC obtained a consent order requiring a $23 million civil monetary penalty and $11,530,000 of restitution to defrauded investors against Atlantic Bullion & Coin and its owner for operating a multi-million dollar silver bullion Ponzi scheme.29
Anti-Disruptive Trading Practices
Dodd-Frank specifically delineated and prohibited certain types of "disruptive" trading practices.34 In May 2013, the CFTC issued interpretive guidance as to the meaning of these prohibitions.35 In its first case under the CEA's prohibition against "spoofing"—bidding or offering with the intent to cancel the bid or offer before execution—the CFTC obtained $2.8 million in civil penalties and disgorgement against Panther Energy Trading LLC and its principal for exploiting the false impression of trading interest created by the placement and immediate cancellation of large bids and offers in futures contracts.36 The Enforcement Division has expressed its intention to "police the market for this type of activity" and "bring charges against those who attempt to illegally game prices for their own advantage."37
Under Title VII, the Commission, traditionally responsible for regulating futures and options transactions, will now also regulate the majority of the swaps market.38 This expansion will subject a new subset of trading activities to CFTC scrutiny.
Retail Commodity Transactions Jurisdiction
Dodd-Frank expanded the CFTC's jurisdiction to include retail commodity transactions.39 In 2013, the CFTC obtained a preliminary injunction40 against Hunter Wise Commodities, LLC and eighteen other defendants, stemming from the CFTC's December 2012 complaint41 charging the defendants with operating a multi-million dollar fraudulent precious metals scheme by, inter alia, illegally offering off-exchange investments in physical metals to retail consumers.
Looking Ahead to 2014—Other Considerations
Based on recent comments and activities by the Commission and its current and former officials, other significant issues to watch in 2014 include the following:
High Frequency Trading
The CFTC announced in the fall of 2013 that it would devote significant attention to high frequency trading as it relates to the futures and derivatives markets. On September 12, 2013, the CFTC published a concept release regarding automated trading systems (ATSs) and risk controls (the "Concept Release"), in the wake of several disruptive events associated with automated trading.42 According to the Concept Release, which focuses particularly on the growing presence of ATSs and high frequency trading, the CFTC is interested in cataloguing current practices and obtaining comment on whether it should impose, through additional rulemaking, "measures intended to reduce the likelihood of market disrupting events and mitigate their impact when they occur."43 Market participants involved in high frequency trading should monitor any subsequent rule proposals in this area as the CFTC may consider requiring firms to institute new pre- and post-trade measures and controls, system safeguards, and other protections.44 Such rulemaking could later result in enforcement actions to the extent a firm's controls are deemed insufficient to prevent significant market disruptions.
The Commission has prioritized coordination with criminal authorities, with a reported "93% of the CFTC's major fraud cases" having a parallel criminal case.45 Such coordination may enable the Commission to focus its budget-constrained efforts on actions against institutions, while other authorities pursue criminal investigations against individuals.46 Indeed, the recent Rabobank investigation was conducted in concert with the DOJ, the Federal Bureau of Investigation, and Dutch, Japanese, and UK agencies.47 The $475 million civil penalty came in addition to a $325 million criminal penalty announced the same day by the DOJ,48 and the DOJ has subsequently filed criminal charges against three Rabobank traders.49
Admissions of Wrongdoing
Although the CFTC has secured admissions in certain notable cases in 2013,50 it remains unclear whether this will become the CFTC's standard procedure. It seems unlikely that the CFTC will adopt this as a uniform policy going forward. As former Enforcement Director Meister noted, the goals of the CFTC are still served by no-admit, no-deny settlements because "there is a degree of responsibility ... even when the defendant doesn't explicitly admit the underlying facts."51 However, inter-agency coordination in high-profile matters raises a question as to whether the CFTC will follow the SEC's new pursuit of more admissions of wrongdoing in settlements in cases involving the interests of both agencies.52
Conclusion
Dodd-Frank expanded the CFTC's enforcement authority to police manipulative and disruptive conduct, as well as new products. With the near-completion of the CFTC's rulemakings to implement the Act, there are now numerous new statutory and regulatory areas of potential enforcement actions. Over the past few years, particularly since the financial crisis, the CFTC exhibited a new assertiveness in the types of cases under investigation and the magnitude of the civil penalties assessed. The results of the Commission's new vigorous enforcement approach were clearly exhibited in 2013, when the agency levied record fines and issued several significant penalties under its new statutory authority. In addition to a continued pursuit of the more traditional-style inquiries under pre-Dodd-Frank authority, in 2014 we expect to see the Commission continue to aggressively investigate and pursue potential manipulation cases, particularly under its new authority. These matters could present new theories of liability under the new rules, and parties responding to an inquiry will need to carefully navigate a response, including being sensitive to the potential for parallel proceedings and demands for admissions of liability. Respondents would be well-served by consulting counsel with a broad range of regulatory enforcement experience before independently engaging with the agency in this uncharted area.
1 The Dodd-Frank Wall Street Reform and
Consumer Protection Act, Pub. L. No. 111-203, H.R. 4173 § 753
(July 21, 2010) (amending the Commodity Exchange Act (codified at 7
U.S.C. § 1 et seq.)). The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances. |