Bridging the Week by Gary DeWaal


Bridging the Week by Gary DeWaal: July 29 – August 2, and August 5, 2019 (Parallel Spoofing Charges; UK Regulator’s Digital Asset Perimeter)

Bitcoin Ecosystem    Block Trades and EFRPs    Bridging the Week    Cryptosecurities    Insider Trading    My View    Position Limits    Supervision    Trade Practices (including Disruptive Trading)   
Published Date: August 04, 2019

Both the Commodity Futures Trading Commission and the Chicago Mercantile Exchange brought and settled charges against a CFTC-registered floor broker, claiming he engaged in spoofing trading activity on the CME. The two regulators’ charges largely echoed each other. Separately, the United Kingdom’s Financial Conduct Authority finalized guidance setting forth which cryptoassets and related activities are likely within its regulatory perimeter. As a result, the following matters are covered in this week’s edition of Bridging the Week:

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Briefly:

The CFTC and CME each claimed that, during the relevant times, Mr. Cox entered “relatively” large bids or offers on one side of NASDAQ 100 and E-Mini S&P futures markets to encourage trading against smaller orders he placed on the other side of the markets. Both regulators claimed that Mr. Cox placed his larger orders with the intent to terminate them before execution.

To resolve the enforcement matters, Mr. Cox agreed to pay the CFTC a fine of US $150,000 and the CME a fine of US $50,000. He also agreed to a three-month trading prohibition on all CFTC-registered trading facilities, and a three-week access ban on all CME Group trading facilities – a period that overlaps the CFTC's trading prohibition.

Unrelatedly, the CFTC brought and settled an action against Curtis Dalton d/b/a Binary International for acting as a futures commission merchant without being appropriately registered, and offering off-exchange options and swaps contrary to law. The CFTC said such options and swaps had to be traded on or subject to the rules of a designated contract market. The CFTC alleged that from approximately October 2013 through May 2016, Mr. Dalton – acting in the name of Binary International – offered to enter into, entered into, and confirmed the execution of off-exchange binary options with retail persons that permitted investors to make predictive trades on the direction of the price movement of certain foreign currencies over designated time periods. Mr. Dalton resolved his CFTC action by agreeing to pay a fine of US $200,000 and never to solicit funds from any person for the purpose of trading commodity interests. 

My View: Less than two months ago, the CFTC and the Chicago Board of Trade brought and settled parallel enforcement actions against Eagle Market Makers, Inc. for purportedly engaging in prohibited wash sales on multiple occasions during the pre-open trading periods of various agricultural futures products. Eagle agreed to pay US $350,000 to resolve the CFTC matter and US $150,000 to settle the CBOT matter.

At the time, I questioned the societal benefit of both the CFTC and the CBOT bringing parallel enforcement actions where all activity occurred on the CBOT and the CFTC and the CBOT charged Eagle with the same offense – wash sales. Additionally, the CBOT charged Eagle with failure to supervise.

Here, both the CFTC and CME charged Mr. Cox with spoofing, albeit the CFTC claimed that such conduct occurred for a longer period than the CME. However, both regulators relied on the same basic facts for their claims, and the time of trading prohibitions imposed by each regulator overlapped.

My thinking in June 2019 has not changed: “The CFTC has limited resources, and it is likely best that it restrict its enforcement activity to matters for which it has unique jurisdiction or a policy rationale to make a powerful statement. Where there is overlapping jurisdiction with [a self-regulatory organization], the CFTC should otherwise defer to the SRO’s handing of an enforcement matter.”

The FCA initially proposed its guidance in January 2019. (Click here for background in the article “UK Financial Conduct Authority Proposes Guidance to Help Classify Cryptoassets; Says Cryptocurrencies and Utility Tokens Generally Outside Regulatory Perimeter” in the January 27, 2019 edition of Bridging the Week.) The FCA’s final guidance was issued after it received input from over 65 respondents.

Generally, the FCA concluded that cryptoassets that do not provide rights or obligations typically associated with shares, debt instruments or electronic money are not within its regulatory reach. These digital assets typically include what the FCA terms “exchange tokens” or virtual currency in many jurisdictions (e.g., tokens used as a means of exchange but which are not recognized as legal tender). However, certain activities involving exchange tokens will soon be subject to anti-money laundering requirements in the UK.

The FCA said that stablecoins – which it regards as a different type of cryptoasset than  an exchange token – are likely to be either regulated or unregulated depending on what rights or obligations a holder may have associated with ownership of such tokens. Generally, there are four types of stablecoins: fiat currency-backed; crypto-collateral-backed; asset-backed; and algorithmically stabilized. According to the FCA, depending on their structure, stablecoins backed by financial assets, physical assets or other cryptoassets might be regulated, if a token holder has any rights to the underlying assets or to payment or profits derived from the underlying asset. Otherwise, the stablecoin is likely unregulated, although soon, certain activities involving such tokens may also be subject to AML obligations in the UK.

Finally, the FCA said that cryptoassets akin to shares or debt instruments (i.e., security tokens) are likely within its regulatory perimeter, while digital tokens that are effectively “electronically stored monetary value” are likely subject to the UK’s e-money regime. Persons issuing their own security tokens are likely subject to prospectus, disclosure and other requirements, while other market participants transacting in security tokens and cryptoassets subject to e-money rules on behalf of others are likely subject to other requirements.

FCA provided many specific examples of characteristics of different cryptoassets and how they might be categorized in its guidance. The FCA also identified various potential market participants (e.g., wallet providers and custodians) and discussed how their activities involving different types of cryptoassets might bring them within the UK conduct regulator's oversight.

In other legal and regulatory developments involving cryptoassets:

My View: The FCA’s final guidance on which cryptoassets fit within its regulatory perimeter provides a succinct exposition of the different types of cryptoassets, and provides useful insight into how they might or might not fit within the regulator’s remit. In many cases, the FCA provides alternative examples of characteristics of a cryptoasset that are critical to such a determination in the form of “case studies” and concludes with a clear statement of the FCA’s legal conclusion (e.g., a token is likely regulated or unregulated).

To date, in the United States, the Securities and Exchange Commission has taken a different route  in explaining its thinking regarding cryptoassets that might constitute securities and be within its regulatory remit and market participants whose activities handling such cryptosecurities might implicate regulatory requirements. The SEC has generally offered high level advice, e.g., in the form of a so-called "Report of Investigation," or a "Framework" for investment contract analysis. However, other than in two no action letters and multiple enforcement actions, the SEC has not provided insight into its thinking as applied to specific factual circumstances. It would be helpful for the SEC to issue a document like the FCA's final guidance that not only provides its high level thinking, but its views as applied to various specific factual circumstances. 

(Click here for background regarding the SEC staff’s views in the article “SEC Staff Outlines Characteristics of Cryptoassets That Could Cause Them to Be Regarded as Securities” in the April 7, 2019 edition of Bridging the Week.

More Briefly:

For further information

Alleged Spoofer Agrees to Pay US $200,000 to Settle CFTC and CME Parallel Enforcement Actions:

Bank Fails to Have Lawsuit Dismissed Claiming It Improperly Reclassified Crypto Purchases as Cash Advances Without Adequate Disclosure:
/ckfinder/userfiles/files/Tucker%20v_%20Chase%20Bank%20MtD%20Opinion.pdf

Broker-Dealer Sanctioned US $1.25 Million for Failure to Conduct Background Checks on Over 10,000 Non-Registered Persons Over Seven Years:
http://www.finra.org/sites/default/files/Citigroup_AWC_072919.pdf

CFTC Insider Trading Enforcement Action Against Block Trade Execution Firm Transferred From New York to Texas:
/ckfinder/userfiles/files/CFTC%20v_%20EOX%20MtoTransfer.pdf

Issuing Position Limits Rules Among New CFTC Chairman’s Top Priorities:
https://www.foxbusiness.com/financials/why-the-cftc-is-the-most-important-regulator-youve-never-heard-of

Position Limits Disaggregation Relief Expiration Date Extended by CFTC:
https://www.cftc.gov/csl/19-19/download

SEC Commissioner Urges Nonexclusive Safe Harbor for Issuers of Digital Assets:
https://www.sec.gov/news/speech/speech-peirce-073019

UK Chief Financial Conduct Regulator Provides Final Guidance on Interface Between Cryptoassets and UK Regulatory Perimeter:
https://www.fca.org.uk/publication/policy/ps19-22.pdf

The information in this article is for informational purposes only and is derived from sources believed to be reliable as of August 3, 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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