Bridging the Week by Gary DeWaal


Bridging the Week by Gary DeWaal: September 23 – 27, and September 30, 2019 (Speculative Limits; Twice Is Not Necessarily Better; Anonymous ATS; Let the Sunshine In)

Alternative Trading Systems    Bitcoin Ecosystem    Bridging the Week    Compliance Weeds    Initial Public Offerings Including Private Placements    Managed Money    Manipulation    My View    Policy and Politics    Position Limits    Whistleblowing   
Published Date: September 29, 2019

Both the Commodity Futures Trading Commission and the Chicago Board of Trade settled related disciplinary actions for speculative position limits violations. The CFTC sanctioned the trading firm while the CBOT sanctioned the firm’s trader. The CFTC’s action was based on two incidents, including one event that was addressed by a CBOT disciplinary action over two years ago. Separately, the Securities and Exchange Commission penalized an alternative trading system operator that promised anonymity but allegedly disclosed subscribers’ names. And there is a new twist in the ongoing fallout from the CFTC’s enforcement settlement with two food giants. As a result, the following matters are covered in this week’s edition of Bridging the Week:

  • CFTC Sanctions Trading Firm, CBOT Penalizes Individual Trader for Soybean Products Speculative Position Limits Violations (includes My View); 
  • ATS Failure to Keep Identities of Subscribers Secret as Promised Results in US $2.1 Million SEC Penalty (includes Compliance Weeds); 
  • Appeals Court Delays District Court Consideration of CFTC Contempt Charges and Promises Public Filings Absent Law or Executive Privilege (includes My View); and more.

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Article Version

Briefly:

  • CFTC Sanctions Trading Firm, CBOT Penalizes Individual Trader for Soybean Products Speculative Position Limits Violations: ARMKAT LLC agreed to settle charges brought by the Commodity Futures Trading Commission that it violated speculative position limits in two soybean products’ futures contracts traded on the Chicago Board of Trade on two occasions – one in 2016 and the other in 2018. 

According to the CFTC, ARMKAT violated the spot month limit (1) for December 2016 soybean oil futures by 360 contracts beginning the first day the relevant spot month limits went into effect at the close of business on November 29, 2016, and (2) for August 2018 soybean meal futures by 155 contracts on the second day the applicable spot month limits were in effect on July 31, 2018. On each occasion, ARMKAT liquidated its violative positions the next trading day. The firm resolved the CFTC’s charges by agreeing to pay a fine of US $140,000.

Separately, the CBOT resolved a disciplinary action against E. Davison Massey, the trader for ARMKAT, for the firm’s purported soybean meal futures speculative position limit violation on July 31, 2018. Mr. Massey consented to pay a fine of US $40,000 and disgorge US $16,560.05 that purportedly represented the amount of profit he realized when liquidating his violative positions. Mr. Massey also agreed to a 10-day all CME Group exchanges’ access ban. 

In June 2017, Mr. Massey settled a separate disciplinary action with the CBOT related to ARMKAT’s alleged November 2016 speculative position limit violation involving soybean oil futures contracts. In connection with that matter, Mr. Massey agreed to pay a fine of US $30,000 and serve a 10-day all CME Group exchanges’ access prohibition. (Click here for details in the article “CME Clearing Member Settles Charges for Allegedly Not Retaining Required Audit Trail of Direct Access Client; Two CBOT Members Settle Charges Related to Purported Position Limit Violations” in the June 11, 2017 edition of Bridging the Week.)

My View: Although the CFTC named the trading firm, while the CBOT named the firm’s trader, it is not clear what is the societal benefit for parallel civil enforcement actions emanating from the identical fact patterns – particularly where one-half of the CFTC action is based on an incident addressed by the CBOT in a disciplinary action over two years ago.

Although speculative position limits are a very important tool under applicable law to help ensure competitive markets, these matters involving ARMKAT and Mr. Massey appear to be discrete incidents that were quickly addressed. It is not clear how the public interest is served by the CFTC employing scarce resources to bring and resolve a “pile-on” enforcement action.

  • ATS Failure to Keep Identities of Subscribers Secret as Promised Results in US $2.1 Million SEC Penalty: TMC Bonds LLC resolved charges with the Securities and Exchange Commission that, from at least January 2016 through June 2018, it held itself out as an anonymous trading platform for certain taxable and non-taxable fixed-income securities, when it was disclosing the identities of certain subscribers to other subscribers without their consent. TMC is a registered broker-dealer and operates as an alternative trading system. The firm was acquired by the Intercontinental Exchange as of July 23, 2018.

The SEC claimed that, during the relevant time, TMC’s marketing and operating procedures generally noted that its subscribers’ identities would remain confidential. However, alleged the SEC, on approximately 2,600 occasions, TMC employees disclosed identities of certain firms attempting to trade on the firm’s platform; these firms were large retail broker-dealers. The SEC said that, in most cases, disclosure of the retail broker-dealer was made when the opposite side failed to confirm a transaction timely. TMC purportedly disclosed the names to facilitate confirmation because other platform subscribers “were generally more willing to trade with retail brokerage firms than other professional traders.”

The SEC charged that TMC failed to notify its subscribers that its platform was not totally anonymous, and failed to amend filings with it to correct prior disclosure that its ATS was anonymous. The SEC also claimed that TMC’s written supervisory procedures only addressed anonymity and subscriber confidentially in general terms, and the firm’s training on the matter was also deficient.

TMC agreed to pay a fine of US $2.1 million to resolve the SEC’s enforcement action. In accepting this settlement, the SEC acknowledged the firm’s numerous remedial measures, including upgrading its procedures and providing compliance training regarding the firm’s anonymity policy, and its cooperation with the SEC’s investigation.

Compliance Weeds: To be effective, a registrant’s policies and procedures should reflect the precise businesses conducted by the firm. Generic procedures are typically not useful. The more specific procedures are, the more likely they will be helpful. Moreover, training too should be aligned with the actual business conducted by a firm. An effective tool for training is using interactive techniques that engage participants based on fact patterns that employees have or may realistically address that amplify important legal or regulatory principles. The challenge is always conveying useful information in a manner that is actually absorbed by the intended audience.

  • Appeals Court Delays District Court Consideration of CFTC Contempt Charges and Promises Public Filings Absent Law or Executive Privilege: A federal court of appeals stayed all district court activity related to a claim by Kraft Foods Group, Inc. and Mondelez Global LLC that the Commodity Futures Trading Commission violated a mutual gag order included in a settlement of an enforcement action by the CFTC against the two food giants. 

Additionally, the appeals court ordered that all papers filed before it be made public as of October 1 absent an express statute or “recognized privilege” that requires confidentiality. The appeals court also ordered the defendants to file a response by October 7 to a petition for mandamus filed by the CFTC on September 13 and invited the judge in the district court action – the Hon. John Blakey – to provide his own response to the CFTC’s petition “if he so chooses.” (A party may seek a writ of mandamus to compel a government agency or court to correct alleged prior unlawful conduct.) 

In response, the district court cancelled all pending deadlines and hearings, including an evidentiary hearing on October 7 at which three CFTC commissioners, including Chairman Heath Tarbert, and the Director of the Division of Enforcement were instructed to attend.

The defendants claimed that the CFTC violated the gag order included in the settlement order resolving the CFTC's enforcement action charging the two firms with manipulating or attempting to manipulate the price of the December 2011 wheat futures contract traded on the Chicago Board of Trade and cash wheat and their agreement to pay a fine of US $16 million. The defendants claimed the CFTC immediately violated the gag order when it published a press release, a formal statement, and a statement by two commissioners contemporaneously with its August 15 publication of the consent order of settlement. (Click here for details regarding this dispute in the article “Contempt and Sanctions Hearing Against the CFTC Arising From Manipulation Complaint Settlement Delayed to October 2” in the September 2, 2019 edition of Between Bridges.)

My View: It appears we may soon finally gain comprehensive insight into the CFTC’s defense to defendants’ allegations regarding the Commission’s purported breach of the mutual gag order contained in the settlement order. This is how it should be. Pleadings regarding alleged wrongful actions or inactions of government agencies should not be shielded from sunlight absent compelling reason. Partial redaction of documents is preferred to complete secrecy, if necessary.

More Briefly:

  • New CFTC DSIO Head Promises Stronger Relationship With Enforcement While DOE Chief Lauds Efficacy of Parallel Actions With Other Enforcement Authorities: In two public appearances last week, Joshua Sterling, new head of the Commodity Future Trading Commission’s Division of Swap Dealer and Intermediary Oversight, indicated that “strengthening our relationship with the Division of Enforcement with a more focused approach to referrals” was among his priorities. Aiming to implement a regulatory program to strengthen markets’ “resilience and integrity,” improve the “regulatory experience” for market participants and “be tough” on lawbreakers, Mr. Sterling described components to achieve his goals. These included undertaking thematic reviews of registrants concentrating on “selected key issues”; assessing the usefulness of existing data to determine how it could be made more useful; issuing more general guidance as opposed to letters to specific parties; being more focused and programmatic in referring matters to the Division of Enforcement, and using inputs from DSIO’s examination, reporting, enforcement referral and guidance program to determine what rule amendments should be proposed (if any). Mr. Sterling also disclosed that DSIO staff is currently working with futures commission merchants to assess whether current restrictions regarding the investment of customer funds should be expanded. 

Separately, James McDonald, Director of the Division of Enforcement, proclaimed his support for parallel enforcement activities before the Practising Law Institute’s White Collar Crime 2019 program. He particularly noted the “specialized expertise” that CFTC staff can bring to the Department of Justice in connection with potential violations of commodities laws. He indicated that the CFTC has express unique authorities that could supplement DOJ activity, including authority to seek emergency asset freezes and trading and registration bans. He also lauded parallel actions with other civil authorities, like the Securities and Exchange Commission, and with self-regulatory organizations. However, he indicated that the CFTC acting alone will continue to constitute the vast majority of its cases.

(Click here to access a recent Katten publication “A New CFTC Captain at the Helm” focusing on the potential CFTC regulatory and enforcement agenda under new Chairman Heath Tarbert and his mostly new leadership team.)

  • Issuance of New ETFs Quicker Under SEC’s Amended New Rules: The Securities and Exchange Commission adopted a new rule that will enable open-end exchange-traded funds that satisfy certain conditions to come directly to market without first obtaining certain relief from the Commission in order to operate as investment companies as currently required. As a condition of such ability, ETFs will be required to identify daily portfolio holdings, net asset value and market price, among other information, on their websites. Eligible ETFs will also have to daily identify on their website the ETF’s medium bid-ask spread over the prior 30 calendar days. Under the new rule, ETFs will be permitted to accept or release customized baskets of securities in connection with the creation or redemption of ETF shares by authorized participants that do not match the makeup of the ETF’s overall portfolio, provided they adopt policies and procedures that contain certain enumerated elements.
     
  • Testing the Waters Approved by SEC for All Issuers: All issuers will soon be able to reach out to certain institutional investors through oral and written communications to assess interest in a potential new offering of securities prior to filing registration statements with the Securities and Exchange Commission. This “test the waters” authority currently exists solely for emerging growth companies. The SEC’s new rule will be effective 60 days after its publication in the Federal Register.
     
  • Whistleblower to Receive US $7 Million From CFTC for Tip Despite Information Not Being “Particularly Significant”: The Commodity Futures Trading Commission agreed to pay US $7 million to a whistleblower for information that led to a successful enforcement action. Although the whistleblower provided the CFTC with relevant original information, the CFTC noted that the information was not “particularly significant.” Moreover, the whistleblower provided limited assistance to the Commission because the individual “could not provide specifics . . . and did not understand how the violations under investigation worked.” Four other persons also sought recovery from the CFTC for the same matter; their requests were denied.
     
  • NY DFS Enforcement Action Against Crypto Exchange and Related Stablecoin Stayed by NY Appellate Court: A New York appellate court stayed all legal proceedings by the Office of the New York Attorney General against companies associated with the management of Bitfinex, a cryptoasset exchange, and its associated stablecoin, tether. The Supreme Court, Appellate Division, stayed the lower court proceeding pending a hearing and determination on the defendants’ appeal. In April 2019, the NY AG obtained an ex parte order from a New York State court prohibiting companies associated with Bitfinex and tether from accessing, loaning or encumbering in any way US dollar reserves supporting tether digital coins. The NY AG claimed that the same individuals ultimately own and operate all the companies. The NY AG applied for such order without giving respondents notice or an opportunity to object, claiming such emergency action was necessary because of the potential danger of respondents compromising tether’s supporting balances to help fund Bitfinex’s operations. (Click here for background in the article “NY Attorney General Sues Stablecoin Issuer and Related Companies for Purportedly Misusing Tethered Fiat Currency Without Customer Disclosure” in the April 28, 2019 edition of Bridging the Week.)

    In additional legal and regulatory developments regarding cryptoassets:

    • Swiss Regulator Publishes Guidance on Stablecoins: Switzerland’s Financial Market Supervisory Authority issued guidance indicating that Facebook’s Libra project would require a payment system license under its financial market infrastructure regulation and be subject to anti-money laundering requirements. In a supplement to the guidance FINMA indicated that stablecoins generally would be subject to different regulatory requirements in Switzerland depending on their specific purposes and characteristics. A stablecoin that provides a fixed redemption claim to a specific fiat currency would be subject to the country’s banking rules while a stablecoin providing a redemption claim linked to a basket of fixed currencies could be subject to banking laws or requirements related to collective investment vehicles depending on whether the underlying assets are managed for the account of token holders or for issuers. A stablecoin based on commodities is likely to not be a security if it “merely” evidences an ownership right; however, if the digital token solely evidences a contractual claim, it is more likely that the banking rules would apply (if underlying metals are involved) or securities or derivatives  (if other commodities are involved).

For further information

Whistleblower to Receive US $7 Million From CFTC for Tip Despite Information Not Being “Particularly Significant”:
https://whistleblower.gov/sites/whistleblower/files/2019-09/19-WB-05.pdf

Appeals Court Delays District Court Consideration of CFTC Contempt Charges and Promises Public Filings Absent Law or Executive Privilege:
/ckfinder/userfiles/files/Scan_2019-09-27%2010_20_58A.pdf

/ckfinder/userfiles/files/Docket%20Entries%20CFTC%20Kraft%20through%20Sept%2027(1).pdf

CFTC Sanctions Trading Firm, CBOT Penalizes Individual Trader for Soybean Products Speculative Position Limits Violations:

Issuance of New ETFs Quicker Under SEC’s Amended New Rules:
https://www.sec.gov/rules/final/2019/33-10695.pdf

ATS Failure to Keep Identities of Subscribers Secret as Promised Results in US $2.1 Million SEC Penalty:
https://www.sec.gov/litigation/admin/2019/34-87074.pdf

New CFTC DSIO Head Promises Stronger Relationship With Enforcement While DOE Chief Lauds Efficacy of Parallel Actions With Other Enforcement Authorities:

NY DFS Enforcement Action Against Crypto Exchange and Related Stablecoin Stayed by NY Appellate Court:
/ckfinder/userfiles/files/BitFinex%20Appellate%20Division%20Order.pdf

Swiss Regulator Publishes Guidance on Stablecoins:
https://finma.ch/en/~/media/finma/dokumente/dokumentencenter/8news/medienmitteilungen/2019/09/20190911-mm-stable-coins.pdf?la=en
https://finma.ch/en/~/media/finma/dokumente/dokumentencenter/myfinma/1bewilligung/fintech/wegleitung-stable-coins.pdf?la=en

Testing the Waters Approved by SEC for All Issuers:
https://www.sec.gov/rules/final/2019/33-10699.pdf

The information in this article is for informational purposes only and is derived from sources believed to be reliable as of September 28, 2019. No representation or warranty is made regarding the accuracy of any statement or information in this article. Also, the information in this article is not intended as a substitute for legal counsel, and is not intended to create, and receipt of it does not constitute, a lawyer-client relationship. The impact of the law for any particular situation depends on a variety of factors; therefore, readers of this article should not act upon any information in the article without seeking professional legal counsel. Katten Muchin Rosenman LLP may represent one or more entities mentioned in this article. Quotations attributable to speeches are from published remarks and may not reflect statements actually made. Views of the author may not necessarily reflect views of Katten Muchin or any of its partners or employees.


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