In an analysis published in The Risk Desk (formerly known as Energy Metro Desk), former CFTC Commissioner Sharon Brown-Hruska criticized the removal of the requirement to demonstrate price artificiality in attempted manipulation and disruptive trading practices cases. The CFTC argued in recent enforcement actions, that when establishing attempted manipulation by an accused party, the CFTC need show only that the accused intended to affect the price of a commodity, not that the accused intended to create an artificial price. This change in standards also affects the CFTC's interpretation of its new anti-manipulation authority under the Dodd-Frank Act for "disruptive trading practices."
This policy change, according to Dr. Brown-Hruska, jeopardizes legitimate trades entered into in order to take advantage of a trader's proprietary knowledge, and trades entered into in order to take advantage of perceived price anomalies. In both instances, lowering the burden of proof in the manner that the CFTC advocates may potentially penalize legitimate trading strategies that enhance the price discovery process. Dr. Brown-Hruska observes:
Policy changes always involve tradeoffs, and a lower burden of proof for manipulation cases creates the risk that the CFTC will pursue enforcement actions against market participants engaging in legitimate trading strategies that, due to circumstances, may be difficult to distinguish from manipulative behavior...The removal of the requirement to demonstrate price artificiality is particularly troublesome because, absent the creation of artificiality, there is usually uncertainty as to whether trading is actually intended to manipulate.
Dr. Brown-Hruska is currently a Vice President in the NERA's Securities and Finance Practice and the White Collar, Investigations and Enforcement Practice.
Click here to view an excerpt from the most recent issue of The Risk Desk, which is published biweekly by Scudder Publishing Group, an energy trade news publishing company based in Washington, D.C.
Commentary / Bob Zwirb
A primary concern of the Commodity Exchange Act is with trading that does "not reflect the legitimate forces of supply and demand," i.e., a "price distortion" or an "artificial price." See Volkart Bros., Inc. v. Freeman, 311 F.2d 52, #58 (5th Cir. 1962), and In re Indiana Farm Bureau Coop Ass'n Inc., CFTC Docket No. 75-14 (Dec. 17, 1982). This concern is embodied in the requirement of CFTC case law that specifies that in order to establish manipulation or attempted manipulation, it must be shown that the respondent "intended to effect an artificial price." In re Hohenberg Brothers, CFTC Dkt. No. 75-4 (Feb. 18, 1977). It is this intent to create an artificial price that is "the essence of manipulation." Indiana Farm Bureau.
The combined effect of the CFTC's recent efforts in this area, however, is to water down the market manipulation standard, by eliminating much of its essence; the necessity of showing that the respondent intended to create an artificial or distorted price. The value of Dr. Brown-Hruska's analysis is in her demonstration of how the application of this new standard may capture legitimate trading strategies that shouldn't fall under it.
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