FIVE BANKS TO PAY OVER $1.4 BILLION FOR ATTEMPTING TO MANIPULATE FOREIGN EXCHANGE BENCHMARK RATES

FROM:  U.S. COMMODITY FUTURES TRADING COMMISSION 
CFTC Orders Five Banks to Pay over $1.4 Billion in Penalties for Attempted Manipulation of Foreign Exchange Benchmark Rates

Citibank, HSBC, JPMorgan, RBS, and UBS Coordinated Trading with Other Banks in Private Chat Rooms in Their Attempts to Manipulate

Washington, DC – The U.S. Commodity Futures Trading Commission (CFTC) issued five Orders filing and settling charges against Citibank N.A. (Citibank), HSBC Bank plc (HSBC), JPMorgan Chase Bank N.A. (JPMorgan), The Royal Bank of Scotland plc (RBS) and UBS AG (UBS) (collectively, the Banks) for attempted manipulation of, and for aiding and abetting other banks’ attempts to manipulate, global foreign exchange (FX) benchmark rates to benefit the positions of certain traders.

The Orders collectively impose over $1.4 billion in civil monetary penalties, specifically: $310 million each for Citibank and JPMorgan, $290 million each for RBS and UBS, and $275 million for HSBC.

The Orders also require the Banks to cease and desist from further violations, and take specified steps to implement and strengthen their internal controls and procedures, including the supervision of their FX traders, to ensure the integrity of their participation in the fixing of foreign exchange benchmark rates and internal and external communications by traders. The relevant period of conduct varies across the Banks, with conduct commencing for certain banks in 2009, and for each bank, continuing into 2012.

Aitan Goelman, the CFTC’s Director of Enforcement, stated: “The setting of a benchmark rate is not simply another opportunity for banks to earn a profit. Countless individuals and companies around the world rely on these rates to settle financial contracts, and this reliance is premised on faith in the fundamental integrity of these benchmarks. The market only works if people have confidence that the process of setting these benchmarks is fair, not corrupted by manipulation by some of the biggest banks in the world.”

According to the Orders, one of the primary benchmarks that the FX traders attempted to manipulate was the World Markets/Reuters Closing Spot Rates (WM/R Rates). The WM/R Rates, the most widely referenced FX benchmark rates in the United States and globally, are used to establish the relative values of different currencies, which reflect the rates at which one currency is exchanged for another currency. FX benchmark rates, such as the WM/R Rates, are used for pricing of cross-currency swaps, foreign exchange swaps, spot transactions, forwards, options, futures and other financial derivative instruments. The most actively traded currency pairs are the Euro/U.S. Dollar, U.S. Dollar/Japanese Yen, and British Pound Sterling/U.S. Dollar. Accordingly, the integrity of the WM/R Rates and other FX benchmarks is critical to the integrity of the markets in the United States and around the world.

The Orders find that certain FX traders at the Banks coordinated their trading with traders at other banks in their attempts to manipulate the FX benchmark rates, including the 4 p.m. WM/R fix. FX traders at the Banks used private chat rooms to communicate and plan their attempts to manipulate the FX benchmark rates. In these chat rooms, FX traders at the Banks disclosed confidential customer order information and trading positions, altered trading positions to accommodate the interests of the collective group, and agreed on trading strategies as part of an effort by the group to attempt to manipulate certain FX benchmark rates. These chat rooms were sometimes exclusive and invitation only. (Examples of the coordinating chats are attached under Related Links.)

The Orders also find that the Banks failed to adequately assess the risks associated with their FX traders participating in the fixing of certain FX benchmark rates and lacked adequate internal controls in order to prevent improper communications by traders. In addition, the Banks lacked sufficient policies, procedures and training specifically governing participation in trading around the FX benchmarks rates; and had inadequate policies pertaining to, or sufficient oversight of, their FX traders’ use of chat rooms or other electronic messaging.

According to the Orders, some of this conduct occurred during the same period that the Banks were on notice that the CFTC and other regulators were investigating attempts by certain banks to manipulate the London Interbank Offered Rate (LIBOR) and other interest rate benchmarks. The Commission has taken enforcement action against UBS and RBS (among other banks and inter-dealer brokers) in connection with LIBOR and other interest rate benchmarks. (See information below.)

The Orders recognize the significant cooperation of Citibank, HSBC, JPMorgan, RBS, and UBS with the CFTC during the investigation of this matter. In the UBS Order, the CFTC also recognizes that UBS was the first bank to report this misconduct to the CFTC.

In related matters, the United Kingdom Financial Conduct Authority (FCA) issued Final Notices regarding enforcement actions against the Banks and imposing collectively penalties of £1,114,918,000 (approximately $1.7 billion), and the Swiss Financial Market Supervisory Authority (FINMA) has issued an order resolving proceedings against and requiring disgorgement from UBS AG.

The CFTC thanks and acknowledges the invaluable assistance of the U.S. Department of Justice, the Federal Bureau of Investigation, the Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System, the Federal Reserve Bank of New York, the FCA, and FINMA.

CFTC Division of Enforcement staff members responsible for these cases are Robert Howell, Jonathan Huth, Traci Rodriguez, Jennifer Smiley, David Terrell, Melissa Glasbrenner, Heather Johnson, Jordon Grimm, Elizabeth Streit, and Gretchen L. Lowe.

* * * * *

With these Orders, since June 2012, the CFTC has imposed penalties of over $3.34 billion on entities relating to acts of attempted manipulation, completed manipulation, and/or false reporting with respect to global benchmarks. See In re Lloyds’ Banking Group, PLC , CFTC Docket No. 14-18 (July 28, 2014)($105 million)(CFTC Press Release 6966-14); (In re RP Martin Holdings Limited and Martin Brokers (UK) Ltd., CFTC Docket No. 14-16 (May 15, 2014) ($1.2 Million penalty) (CFTC Press Release 6930-14); In re Coöperatieve Centrale Raiffeisen-Boerenleenbank B.A. (Rabobank), CFTC Docket No. 14-02, (October 29, 2013) ($475 Million penalty) (CFTC Press Release 6752-13); In re ICAP Europe Limited, CFTC Docket No. 13-38 (September 25, 2013) ($65 Million penalty) (CFTC Press Release 6708-13); In re The Royal Bank of Scotland plc and RBS Securities Japan Limited, CFTC Docket No. 13-14 (February 6, 2013) ($325 Million penalty) (CFTC Press Release 6510-13); In re UBS AG and UBS Securities Japan Co., Ltd., CFTC Docket No. 13-09) (December 19, 2012) ($700 Million penalty) (CFTC Press Release 6472-12); In re Barclays PLC, Barclays Bank PLC, and Barclays Capital Inc., CFTC Docket No. 12-25 (June 27, 2012) ($200 million penalty) (CFTC Press Release 6289-12). In these actions, the CFTC ordered each institution to undertake specific steps to ensure the integrity and reliability of the benchmark interest rates.

CFTC OBTAINS DEFAULT JUDGEMENT AGAINST TEXAS CORPORATION FOR FRAUD INVOLVING FOREIGN FOREIGN CURRENCY CONTRACTS

FROM:  U.S. COMMODITY FUTURES TRADING COMMISSION 

CFTC Obtains Default Judgment against Texas-Based Financial Robotics, Inc. for Fraudulent Forex Scheme

Federal Court Orders Defendant to Pay More than $3 Million in Restitution and a Monetary Penalty in CFTC Anti-Fraud Action

Washington, DC — The U.S. Commodity Futures Trading Commission (CFTC) today announced that Judge Lee H. Rosenthal of the U.S. District Court for the Southern District of Texas entered an Order of default judgment and permanent injunction against Defendant Financial Robotics, Inc. (FinRob), a Texas corporation. The court’s Order requires FinRob to pay restitution of $827,000 and a civil monetary penalty of $2,481,000. The Order also imposes permanent trading and registration bans against FinRob and prohibits it from violating provisions of the Commodity Exchange Act, as charged.

The Order, entered on October 9, 2014, stems from a CFTC Complaint filed on June 29, 2011 (see CFTC Press Release 6067-11). The Order finds that, from at least June 2008, FinRob, and its controlling person, Defendant Mark E. Rice, operated a fraudulent scheme that solicited approximately $1.7 million from one individual to trade leveraged off-exchange foreign currency contracts. According to the Order, Defendants falsely told their customer, among other things, that his investment was “risk free” and insured against loss and that the return of his principal was guaranteed. The Order further finds that Defendants misappropriated at least $576,000 of customer funds by transferring the money to unrelated Rice-controlled companies, and thereafter spending at least $404,000 of those funds for Rice’s personal and business expenses.

CFTC Previously Settled with Defendant Rice

Previously, on January 13, 2014, the court entered a Consent Order of permanent injunction against Defendant Rice, requiring him to pay a combined total of $1.5 million in restitution and a civil monetary penalty, among other sanctions, to settle the CFTC action (see CFTC Press Release 6828-14).

The CFTC cautions victims that restitution orders may not result in the recovery of money lost because the wrongdoers may not have sufficient funds or assets. The CFTC will continue to fight vigorously for the protection of customers and to ensure the wrongdoers are held accountable.

The CFTC thanks the National Futures Association, the British Virgin Islands Financial Services Commission, the Netherlands Authority for the Financial Markets, and the United Kingdom’s Financial Conduct Authority for their assistance.

CFTC Division of Enforcement staff members responsible for this case are Kevin Webb, Michelle Bougas, James Holl, III, and Gretchen L. Lowe.

FORMER CITIGROUP DIRECTOR TO PAY $500,000 FOR DEFRAUDING COMPANY

FROM:  U.S. COMMODITY FUTURES TRADING COMMISSION 

Federal Court Orders Former Citigroup Director, John Aaron Brooks, to Pay $500,000 for Defrauding Two Citigroup Companies by Mismarking and Inflating the Value of His Position in Ethanol Futures to Conceal His Trading Losses

Washington, DC –The U.S. Commodity Futures Trading Commission (CFTC) today announced that Judge Kimba M. Wood of the U.S. District Court for the Southern District of New York entered a Consent Order against Defendant John Aaron Brooks for defrauding Citigroup, Inc. and Citigroup Energy, Inc. (collectively, Citi) by mismarking and inflating the value of his position in ethanol futures in Citi’s proprietary account. Brooks currently resides in Houston, Texas.

The court’s Order requires Brooks to pay a $500,000 civil monetary penalty. The Order also permanently bans Brooks from registering with the CFTC; bans him for seven years from trading any CFTC-regulated products for or on behalf of others; and bans him for five years from trading, or having others trade, CFTC-regulated ethanol products on his behalf. The Order further permanently enjoins Brooks from violating the Commodity Exchange Act (CEA) and a CFTC Regulation, as charged.

The Order finds that from November 2010 through October 2011 (the Relevant Period), Brooks was employed by Citicorp North America Inc. and served as a Director in the commodities business of Citigroup, Inc. According to the Order, Brooks cheated and defrauded Citi by inflating and mismarking the value of his position in New York Mercantile Exchange (NYMEX) Chicago Ethanol (Platts) Futures contracts (NYMEX ethanol futures) in Citi’s proprietary account, by misrepresenting his profits and losses to Citi, and by knowingly offsetting and masking the losses in his other futures positions. The Order finds that, by this conduct, Brooks violated the anti-fraud provisions of the CEA and a CFTC Regulation.

Additionally, the Order finds that at the end of each trading day during the Relevant Period, Brooks knew or recklessly disregarded the fact that he was entering false values for NYMEX ethanol futures into Citi’s computer system. The total losses to Citi as a result of Brooks’s mismarking were approximately $42.4 million.

The court’s Order, entered on August 1, 2014, stems from a CFTC Complaint filed on September 27, 2013, that charged Brooks with, among other things, employing manipulative or deceptive devices and contrivances, cheating and defrauding, and concealing trading losses from a large commercial bank and its affiliate by inflating the value of NYMEX ethanol futures, in violation of the CEA and a CFTC Regulation (see CFTC Press Release and Complaint 6716-13).

CFTC staff members responsible for this case are Janine Gargiulo, Michael Geiser, Trevor Kokal, David Acevedo, Lenel Hickson, and Manal Sultan.

COURT ORDERS OWNERS, COMPANIES TO PAY $108 MILLION RELATED TO PRECIOUS METALS FRAUD SCHEME

FROM:  COMMODITY FUTURES TRADING COMMISSION 

CFTC Wins Fraud Trial against Hunter Wise Related Precious Metals Firms and Their Owners

Federal court orders Fred Jager, Harold E. Martin, Jr. and the Hunter Wise Companies to Pay over $108 Million in Restitution and Penalties

Court Calls Fraudulent Conduct “repeated, callous and blatant”

Washington, DC – The U.S. Commodity Futures Trading Commission (CFTC) today announced that on May 16, 2014, a federal court in Florida entered an Order finding in the CFTC’s favor following a trial against four Hunter Wise related companies and their owners on charges that they had fraudulently misrepresented the nature of precious metals transactions that resulted in millions of dollars in customer losses.

Hunter Wise Commodities, LLC, Hunter Wise Services, LLC, Hunter Wise Credit, LLC, and Hunter Wise Trading, LLC and the individuals running the companies, Fred Jager and Harold Edward Martin, Jr., have been ordered to pay, jointly and severally, $52.6 million in restitution to the defrauded customers, and to pay a civil monetary penalty, jointly and severally, of $55.4 million, the maximum provided by law.

“This result makes clear that the CFTC will aggressively act to protect customers from fraud. Customers are entitled to know the truth of how their hard-earned money is being used. Here, customers thought Defendants were purchasing precious metals on their behalf and they were not,” said Gretchen L. Lowe, Acting Director of the CFTC’s Division of Enforcement. “This is also another excellent example of how the CFTC is using its new enforcement authority under Dodd-Frank to go after fraudsters.”

The CFTC charged Hunter Wise, Martin, Jager, and others in December 2012 (see CFTC Press Release 6447-12, December 5, 2012). The Court entered a Preliminary Injunction against all of the Defendants on February 22, 2013 (see CFTC Press Release 6522-13, February 27, 2013). Defendants appealed that ruling, arguing that the CFTC lacked jurisdiction over the conduct at issue, and lost when the United States Court of Appeals for the Eleventh Circuit affirmed the lower’s court’s issuance of the preliminary injunction (see CFTC v. Hunter Wise Commodities, LLC, Case No. 13-10993, April 15, 2014).

In his 58-page Opinion and Order (see under Related Links), Judge Donald M. Middlebrooks of the U.S. District Court, Southern District of Florida, found that Jager and Martin knowingly defrauded more than 3,200 retail customers for more than 16 months, between July 2011 and February 2013.  The Court found that Jager and Martin’s fraudulent conduct was “repeated, callous and blatant.”

According to the Order, Hunter Wise orchestrated a multi-level marketing scheme in which so-called retail dealers served a sales function for Hunter Wise, soliciting customer accounts. The dealers advertised and claimed that they sold physical metals, including gold, silver, platinum, palladium, and copper, to retail customers on a financed basis, and forwarded customer funds to Hunter Wise, whose identity was not disclosed to the customers.

As explained in the Order, using marketing materials and training provided to them by Jager, Martin and other Hunter Wise employees, the dealers claimed to arrange loans for the purchase of physical metals, and advised customers that their physical metals would be stored in a secure depository. The Order finds that customers were then charged “exorbitant interest” on the purported loans and storage fees for the metal they thought they had purchased. In fact, the Order finds that neither Hunter Wise nor any of the dealers purchased any physical metals, arranged actual loans for their customers to purchase physical metals, or stored physical metals for any customers participating in their retail commodity transactions – in other words, there was “no metal at the end of the rainbow.” According to the Order, over 90 percent of the retail customers lost money.

The Court found that Jager and Martin knew that they were defrauding customers and violating the law. “[Jager and Martin] purposefully decided to risk criminal and civil liability by continuing Hunter Wise’s fraudulent and illegal operations. … The house cannot win when, in violation of the law, the game is rigged.”

The Court further found Martin and Jager’s proferred excuses for their conduct “implausible,” “disingenuous” and “highly unreasonable.” For example, the Court noted that Hunter Wise’s attorneys had advised them to change their business or shut down, so that Jager and Martin were keenly aware of the choices available to them and the possible criminal consequences of continuing to operate, to the extent that Martin wrote in an email to Jager, “With any luck we will have adjoining cells.”

In considering the appropriate penalties, the Court noted that the fraudulent scheme was “egregious and recurrent” and “calculated to deceive retail customers.” The Court held that the likelihood of future violations was “strong” given that Jager and Martin did not acknowledge any wrongdoing. Further, the “systematic and pervasive nature” of the fraud necessitated full restitution for all customers who lost money between July 16, 2011 and February 25, 2013.

In a separate Order, the District Court entered default judgments against C.D. Hopkins Financial Group, LLC, Hard Asset Lending Group, LLC, and their principal, Chadewick Hopkins (CD Hopkins Defendants), and Blackstone Metals Group, LLC and its principal Baris Keser (Blackstone Defendants). CD Hopkins Defendants were ordered to pay $1,158,278.78 in restitution and $3,474,000 in civil penalties. Blackstone Defendants were ordered to pay $617,818.93 in restitution and $1,853,000 in civil penalties.

The CFTC Division of Enforcement staff members responsible for this action are Carlin Metzger, Joseph Konizeski, Heather Johnson, Nancy Hooper, Jeff LeRiche, Peter Riggs, Jennifer Chapin, Thaddeus Glotfelty, Stephen Turley, Brigitte Weyls, Scott Williamson, Rosemary Hollinger, and Richard Wagner.

The CFTC thanks the Florida Office of Financial Regulation, the Florida Department of Agriculture and Consumer Services, and the United Kingdom Financial Conduct Authority for their assistance in this matter.

Recent CFTC Precious Metals Enforcement Actions

The CFTC has taken action against numerous precious metals telemarketing firms that unlawfully solicited precious metals orders from retail customers to be executed through Hunter Wise, including:

• London Metals LLC (CFTC Press Release 6680-13);

• Matthew Hall d/b/a Pacific Exchange Group (CFTC Press Release 6681-13);

• Lloyds Commodities LLC (CFTC Press Release 6850-14);

• Newbridge Metals, LLC (CFTC Press Release 6705-13);

• Joseph Glenn Commodities, LLC (CFTC Press Release 6542-13);

• Newbridge Alliance, Inc. & U.S. Capital Trust, LLC (CFTC Press Release 6903-14);

• Pan American Metals of Miami (CFTC Press Release 6653-13);

• Secured Precious Metals (CFTC Press Release 6503-13);

• Barclay Metals (CFTC Press Release 6503-13);

• Vertical Integration Group (CFTC Press Release 6824-14);

• Lions Wealth (CFTC Press Release 6729-13);

• Yorkshire Group (CFTC Press Release 6713-13);

• PGS Capital Wealth Management and Rockwell Asset Management (CFTC Press Release 6909-14);

• Empire Sterling Metals Corp. and I.P.M. Investments, Inc. (CFTC Press Release 6912-14); and,

• Palm Beach Capital LLC (CFTC Press Release 6931-14).

TWO MEN, COMPANIES ORDERED TO PAY OVER $3.3 MILLION RESTITUTION FOR ROLES IN ILLEGAL PRECIOUS METALS TRANSACTIONS

FROM:   COMMODITY FUTURES TRADING COMMISSION  
Federal Court Orders Two Florida Men and Their Companies to Pay More than $3.3 Million in Restitution and Penalties to Settle Charges Stemming from Role in Illegal, Off-Exchange Precious Metals Transactions

The CFTC Sued John King and Newbridge Alliance, Inc., and David A. Moore and United States Capital Trust, LLC, in Scheme Orchestrated by Hunter Wise Commodities, LLC

Washington, DC – The U.S. Commodity Futures Trading Commission (CFTC) today announced that on February 26, 2014, Judge Donald M. Middlebrooks of the U.S. District Court for the Southern District of Florida in Miami entered permanent injunction Orders against Florida residents John King and his company Newbridge Alliance, Inc. (Newbridge), and David A. Moore and his company United States Capital Trust, LLC (USCT), who the CFTC sued for their role in a multi-million dollar precious metals scheme orchestrated by Hunter Wise Commodities, LLC and related companies (Hunter Wise) (see related press release 6447-12 and Complaint.)

The Orders require King and Newbridge jointly to pay $750,515 in restitution to their customers and a $1.5 million civil monetary penalty, and Moore and USCT jointly to pay $380,664 in restitution and a $750,000 civil monetary penalty, respectively. The Orders also impose permanent solicitation, trading and registration bans against King, Newbridge, Moore, and USCT, and prohibit them from further violations of the Commodity Exchange Act (CEA) and CFTC regulations, as charged.

The Orders specify that the restitution payments are to be made to Melanie Damian, a court-appointed Special Monitor and Corporate Manager, in the name “Hunter Wise Settlement/Restitution Fund.” The Orders also impose permanent solicitation, trading and registration bans against King, Newbridge, Moore, and USCT, and prohibit them from further violations of the Commodity Exchange Act (CEA) and CFTC regulations, as charged.

The Orders find that from at least July 16, 2011 until February 25, 2013, Newbridge and USCT operated under the ownership and control of King and Moore respectively. Both Newbridge and USCT solicited retail customers to buy physical metals, such as gold, silver, platinum, palladium and copper, and then executed those transactions through Lloyds Commodities and Hunter Wise (see related press releases 6850-14 and 6522-13 and Orders).

According to the Orders, both Newbridge and USCT represented that customers could purchase physical metals for a small down payment (usually 25 percent) and finance the remainder of the purchase with a loan. Newbridge and USCT represented that physical metals were stored in “independent banks” or “federally regulated depositories.” In fact, these representations were false because neither Newbridge nor USCT possessed or had title to any physical metals. Additionally, according to the Orders, both Newbridge and USCT failed to disclose that the overwhelming majority of their customers lost money in connection with these transactions. As a result, Newbridge received over $750,000 in commissions and fees from retail customers, and USCT received over $380,000 in commissions and fees from retail customers, and the Orders require payment of those funds as restitution to customers.

Further, the Orders find that the transactions offered and entered into by Newbridge and USCT were not executed on a board of trade and were therefore illegal.

The CFTC’s litigation continues against Hunter Wise and its principals. The court issued an Order on February 19, 2014, finding that Hunter Wise had no actual metal to deliver to customers, and the Court held a trial on all remaining issues between February 26 and March 4, 2014. No ruling has been entered as of the date of this press release.

The CFTC appreciates the assistance of the Florida Office of Financial Regulation.

The CFTC Division of Enforcement staff members responsible for this case are Carlin Metzger, Heather Johnson, Brigitte Weyls, Jeff Le Riche, Peter Riggs, Thaddeus Glotfelty, Joseph Konizeski, Scott Williamson, Rosemary Hollinger, and Richard B. Wagner.

FOREX COMMODITY POOL OPERATOR CHARGED WITH FRAUD, MISAPPROPRIATION, AND REGISTRATION VIOLATIONS

FROM:  COMMODITY FUTURES TRADING COMMISSION 
CFTC Charges Dallas-based Steven Lyn Scott with Solicitation Fraud, Misappropriation, and Registration Violations in Connection with a Forex Commodity Pool Scheme

Washington, DC ­ The U.S. Commodity Futures Trading Commission (CFTC) filed an enforcement action March 19, 2014 against Defendant Steven Lyn Scott (a/k/a Stevon Lyn Scott) of Dallas, Texas, charging him with solicitation fraud, misappropriation of customer funds, and registration violations in connection with operating a fraudulent commodity pool scheme.

According to the CFTC Complaint, from at least January 5, 2009 and through at least March 30, 2011, Scott fraudulently solicited at least $1,146,000 from at least 43 pool participants to participate in pooled investment vehicles to trade in off-exchange agreements, contracts, or transactions in foreign currency (forex) on a leveraged or margined basis. Scott, directly and by word of mouth, allegedly solicited pool participants located in Texas and solicited at least some pool participants by email. Pool participants allegedly included Scott’s friends, family members, and other members of the general public.

Specifically, according to the Complaint, Scott solicited pool participants to participate in pooled investment vehicles in the name of an entity he owned and controlled, Stewardship Financial Exchange, Inc. In his solicitations, Scott allegedly guaranteed monthly returns between two percent and five percent to pool participants who entered into six-month contracts, purportedly generating such returns by pooling participants’ funds and trading in off-exchange forex transactions on a leveraged or margined basis.

However, instead of trading pool participants’ funds, Scott initially directly misappropriated 50 percent of pool participants’ funds by depositing their funds into his personal and corporate bank accounts, and then using the funds for personal expenses, the Complaint alleges. Scott then subsequently misappropriated the remaining funds throughout the relevant period by trading them in his personal trading accounts.

In soliciting actual and prospective customers, Scott allegedly omitted material facts, including but not limited to (1) that he failed to trade pool participants’ funds as promised, 2) that he misappropriated pool participants’ funds, (3) that he did not generate the monthly “profits” guaranteed to pool participants, and (4) that he was acting as a Commodity Pool Operator without being registered as such, as required by the Commodity Exchange Act and CFTC Regulations. Scott’s omissions were material and operated as a fraud or deceit upon pool participates, according to the Complaint.

In its continuing litigation against Scott, the CFTC seeks civil monetary penalties, restitution, disgorgement of ill-gotten gains, trading and registration bans, and a permanent injunction against further violations of the federal commodities laws, as charged.

The CFTC thanks the Office of the U.S. Attorney for the Northern District of Texas for its assistance in this matter.

CFTC Division of Enforcement staff responsible for this case are Jason Mahoney, Michael Amakor, George Malas, Timothy J. Mulreany, and Paul Hayeck.

CFTC COMMISSION O'MALIA'S SPEAKS ABOUT FINANCIALIZATION OF COMMODITY MARKETS

FROM:  COMMODITY FUTURES TRADING COMMISSION 
Keynote Address by Commissioner Scott D. O’Malia, 2014 Bank of Canada International Economic Analysis Workshop on Financialization of Commodity Markets

Impact of the Dodd-Frank Act on Commodity Futures and Swaps Markets

March 21, 2014

I want to thank Bahattin for inviting me to speak at this workshop. The topic of today’s workshop is “Financialization of Commodity Markets.” As we all know, commodity prices have experienced an unprecedented rise from the early 2000s. During this time, investors poured large amounts of investment capital into the commodity markets. As such, there has been much written about whether the increased presence of financial investors in the commodity markets led to higher commodity prices and volatility, the so-called “financialization of commodities” debate. Many of today’s distinguished panelists have and will offer their insights on speculative activity in the commodity markets and its relationship to the financialization of these markets.

I would like to use this speech to frame the discussion of the impact of the Dodd-Frank Act and Commission regulations on commercial end-users who have historically used the commodity futures and swaps markets for risk mitigation and hedging. In this regard, I will first discuss the importance of hedging in the commodity markets, especially given volatile commodity prices. Next, I will discuss the impact that Dodd-Frank and Commission reforms have had on hedging in the commodity markets, including the “futurization” of swaps. I will then discuss the potential impact on hedging of upcoming Commission rulemakings. Finally, I will touch on the importance of the Commission’s utilization of data in its oversight of the commodity markets.

Importance of Hedging in the Commodity Markets

It is important to remember that the futures markets originated as a way for buyers and sellers to hedge price risk in the grain markets.1 Today, notwithstanding investor participants in the commodity markets, participants from producers to manufacturers to commercial end-users continue to rely on the futures and swaps markets in order to hedge their commodity price risk, which is essential in order to operate, invest, and grow their businesses.

As we all know, commodity prices are not static. A good example of this price risk is natural gas. Even with the boom in natural gas production,2 this long and harsh winter reminds us that increased demand and supply disruptions can result in regional price spikes despite what seems to be an endless supply of natural gas. For example, the extreme cold temperatures this winter greatly increased demand and impacted production, storage, and transportation supplies for natural gas, causing cash prices in the Northeastern U.S. to hit record levels in late January.3 Chart 1 shows that ICE day-ahead cash prices for Northeast natural gas spiked to over $120 per million British thermal units at the end of January before falling back to more reasonable levels. The March – April natural gas spread has been similarly volatile this winter as shown in Chart 2. This spread widened to $1.208 on February 20 before narrowing. Given the increased demand and supply issues for natural gas, storage levels of natural gas are the lowest in 11 years as shown in Chart 3. As of March 7, working gas in storage was 49 percent below last year’s level and 46 percent below the five-year average.

Weather also brought the worst drought in decades to Brazil this winter, causing coffee crop losses of up to 30 percent.4 May coffee futures peaked at $2.0975 a pound on March 12, the highest level since February 2012.5 Weather is not the only factor that can cause volatility in commodity prices. The PED6 virus, which has killed an estimated 5 million pigs in the U.S,7 has sent lean hog futures prices to record highs.8 Even the Crimean conflict contributed to increased wheat and corn prices this month.9

Given the volatility in commodity prices, hedging is an important function in the commodity markets so that participants can efficiently operate their businesses. Chart 4 provides an example of a potential consequence when a business does not hedge its exposure.10 Unfortunately, in this example, Clean Currents closed its business because this past winter’s “extreme weather … sent the wholesale electricity market into unchartered territories” and Clean Currents did not hedge this exposure.11 In this regard, the Commission must be mindful of the impact of its rules on the cost of hedging for end-users so that they are able to engage in legitimate hedging activities. I will next discuss the impact of the Commission’s swaps rules on hedging in the commodity markets.

Dodd-Frank Impact on the Commodity Markets

As you know, over the past several years the Commission has been busy implementing the Dodd-Frank Act. The Commission has completed 68 final rulemakings and 8 exemptive orders and the Commission staff has issued approximately 172 no-action relief letters and 34 guidance and advisories. The Commission now has 98 provisionally registered swap dealers, 19 temporarily registered swap execution facilities, and 4 provisionally registered swap data repositories. In a rush to complete the rulemaking process, the Commission preferred speed over precision. As a result, the Commission’s swaps rules have introduced unnecessary complexity, vagueness, and costs into the markets, including the commodity markets. These consequences have, in certain instances, led some hedgers to seek out alternatives, such as swap futures. This trend is commonly referred to as the “futurization of swaps.”

On October 12, 2012, the joint CFTC-SEC rule defining the term “swap” became effective,12 which triggered compliance requirements for a number of Commission swaps regulations. To avoid compliance with burdensome and costly swaps regulations, customers of both CME and ICE demanded that the commodity markets move to listed futures instead of swaps. In response, on October 15, 2012, ICE converted its cleared energy swaps into futures and CME began listing energy futures contracts.

Following this shift, CME Group and Eris Exchange launched interest rate swap futures in December 2012.13 Singapore Exchange began offering commodity futures for trading in April 2013.14 ICE launched credit index futures in June 2013.15 Earlier this year, Greenwich Associates noted that “a clear trend exists towards growing demand for FX futures in lieu of traditionally bilateral FX derivatives.”16 Market participants have cited the complexity and cost of complying with the new swaps rules as major drivers to the futures markets.17 Unlike the swaps markets, the futures markets have clear rules and provide market participants with regulatory certainty.

The Commission’s unjustifiably complicated swap dealer definition18 and unjustifiably expensive compliance requirements for market participants that meet this definition is one example of a Commission rule that has pushed market participants to the futures markets. In addition to brokers, many other market participants, including energy, agricultural, and commodity firms have to worry about being subject to this definition. Rather than providing a bright line test for determining whether a market participant is a swap dealer, the rule broadly applies the swap dealer definition to all market participants and then provides some limited conditional relief, but only if participants navigate through the complex set of hedging factors on a trade-by-trade basis and fall below the $8 billion de minimis level.

In a few years, the $8 billion de minimis level will fall to $3 billion if the Commission does not vote to change the threshold. Earlier this month, I asked the Commission staff how many additional entities would have to register as a swap dealer if the de minimis level moved to $3 billion today. The Commission staff could not answer this question. If the Commission cannot determine if an entity falls within the swap dealer definition, how can it expect end-users to navigate this complex rule?

Think about this in another way. If the Commission cannot identify swap dealers, how can it enforce this rule? The Commission’s data rules do not require a market participant to flag a trade as a dealing trade or a hedging trade. So, how will the Commission conduct compliance and oversight of this rule regardless of the de minimis level? I suspect that the Commission will add all trades executed by a market participant and see how close the total is to the de minimis level, and then ask questions to determine whether the economic purpose of each trade was dealing or hedging. This solution will be a nightmare for both the Commission and the end-users.

To provide end-users greater certainty, I propose a modest fix that would allow end-users to exclude all cleared trades from the calculation towards the de minimis threshold. This fix would encourage end-users to clear their trades and would reduce regulatory compliance costs for those end-users who choose to do so.

Moreover, as I noted before, once an entity is subject to the swap dealer definition, the cost of complying with the swap dealer regulations is high. Swap dealers must comply with an array of complex and costly rules in areas such as minimum capital requirements, business conduct, and trade reporting – giving participants a strong incentive to stay away from being labeled as a swap dealer. Participants in the futures markets do not have to comply with such onerous rules.

The downside of futurization for participants in the commodity markets is reduced hedging flexibility because futures contracts, unlike swaps, cannot be individually tailored to meet specific risk needs. Given the volatility of prices in the commodity markets, and the different needs, risks, time horizons, and incentives for end-users in these markets, customized hedging is especially important.19 Because of the Commission’s rules, these participants will have to accept imperfect hedges, endure the higher cost of swaps, or forego hedging all together. All of these alternatives are unacceptable.

For example, smaller natural gas producers rely on customized hedging solutions to mitigate their exposure to volatile natural gas prices, which enables them to invest in their drilling programs.20 There are more than 120 natural gas delivery locations in the U.S., which can vary significantly from the Henry Hub benchmark price traded on exchanges.21 In addition, producers may need the flexibility to enter into long-dated hedges; however, approximately 80% of Henry Hub futures volume is traded within a two-year maturation date.22 The lack of delivery locations and liquidity in long-dated hedges in the futures markets requires customized hedging solutions in many cases.23 If end-users are forced to use swap futures because the cost of using swaps is too high, these participants will have a less perfect hedge, which could result in additional risk or reduced capital investment.24

Upcoming Changes to the Commodity Markets

There are several upcoming Commission rulemakings that will impact hedging in the commodity markets. First, the Commission is considering a proposed futures block rule that will limit the availability of block trades, especially for energy futures. Exchanges have facilitated the transition from swaps to futures in the commodity markets by establishing extremely low threshold sizes for block trades in futures contracts. These thresholds are unlikely to stay at these levels with a Commission futures block rule. It remains to be seen how Commission rules would affect futurization in the commodity and other markets and the cost of hedging to end-users.

Second, the OTC margin and capital rules for uncleared swaps will increase the cost of hedging. It is important to note that the effort to establish a margin regime for uncleared swaps is a global effort. In September 2013, the Basel Committee on Banking Supervision and the International Organization of Securities Commissions released their final policy framework on margin requirements for uncleared derivatives.25 These rules will spare end-users from mandatory initial and variation margin exchange. However, banks will be hit with new capital charges to offset the risk posed by OTC trades. Banks will pass these costs on to end-users. The Commission will need to finalize these rules, which will increase the cost of hedging for end-users in the commodity markets.

Third, the Commission staff is working on mandatory clearing determinations for additional interest rate swap contracts and non-deliverable forward (“NDF”) contracts. As I previously mentioned, it appears that there is already growing demand for FX futures in lieu of traditionally bilateral FX derivatives. Only time will tell if mandatory clearing and trading accelerate the move of NDFs to futures. While mandatory clearing for commodity swaps is likely a year or more away, commodity market participants should keep a close eye on clearing and trading in the interest rate, credit default, and NDF markets to determine how commodity markets may react in the future with the advent of mandatory clearing and trading. Commodity market participants should also watch for any impacts on the cost of hedging.

Finally, the position limits re-proposal has the potential to negatively impact end-users legitimate hedging activities. Setting position limits is not an easy task, especially with unusable data as I will discuss next. The Commission is supposed to stop excessive speculation and manipulation, but must also protect the essential price discovery process and hedging function in the markets. Unfortunately, the Commission’s position limits re-proposal may curtail end-users hedging activities as it scales back the bona fide hedging exemption. The current bona fide hedging exemption has been in effect since the 1970s and, from my understanding, has worked well in the markets. In developing a final position limits rule, the Commission must ensure that it does not impact longstanding and legitimate hedging activities.

Commission’s View into the Commodity Markets

I would like to next discuss the importance of the Commission’s utilization of data in its oversight of the commodity markets. Two fundamental goals of the Dodd-Frank Act were to increase the transparency and integrity of the swaps markets. To achieve these goals, Dodd-Frank required market participants to report information about each swap transaction to a swap data repository.26 The Commission promulgated swap data reporting rules and swap dealers began reporting their trades in December 2012.27

As important as data is, the Commission does not have a clear picture into the commodity swaps markets or financial markets, for that matter. Let me be clear. The data is extraordinarily difficult to use and the Commission is not utilizing this data effectively, or as it was intended. Without usable data, the Commission cannot conduct surveillance, set appropriate position limits, or analyze systemic risk in these markets. The swaps data is not merged with futures data and cannot be analyzed together. Despite the fact that market participants trade across markets and across jurisdictions with little effort; the Commission continues to struggle to develop its own oversight capacity, unless the Commission makes this a top priority.

However, I am pleased that the Commission is taking steps to improve the quality and consistency of its data. The Commission’s Technology Advisory Committee, which I chair, started to perform work on data harmonization back in 2011. Based on this effort, the Commission is currently working with the swap data repositories to harmonize the data within the credit asset class and will then move on to the interest rate asset class. Commodities, unfortunately, are well down the road.

In addition, based on my suggestion, the Commission formed a cross-divisional data team in January of this year to identify and fix our data problems. The Commission, based on the data team’s work, this past Wednesday put out for comment approximately 70 questions addressing several swap data reporting issues. Based on the comments and its own self-evaluation of the current reporting regime, the cross-divisional data team will make recommendations to improve swap data reporting to the Commission this summer.

I cannot emphasize enough how important it is for the Commission to improve its data quality and utilization so that the Commission has an accurate and complete picture of the swaps markets. Without this view, the Commission cannot surveil the markets for manipulation and other abusive trading practices. In addition, the Commission will not be able to set credible position limits or determine whether end-users are hedging or speculating. The Commission’s ability to perform vital risk analysis will also be compromised.

Conclusion

It is probably appropriate that I conclude my remarks by emphasizing that it is crucially important for the Commission to improve and effectively utilize its data so that the Commission develops a complete picture of both the swaps and the futures markets. In many respects, many of the questions regarding the impact of financialization on the commodity markets would be answerable if the Commission had a complete picture of market participants and their trading strategies.

In addition, the Commission must be mindful of the impact that its regulations have on the cost of hedging in the markets. This is especially true in the commodity markets where a wide range of participants hedge because of the volatility in commodity prices and specialized business needs. If the cost of hedging becomes too expensive, these participants may choose not to hedge or enter into less perfect hedges, which impairs efficient business operations.

Therefore, looking forward, the Commission must strive to issue clear, consistent, and cost effective rules that are informed by data and that do not interfere with hedging in the markets. Finally, the Commission must re-visit rules that have proved unworkable or overly burdensome. I am encouraged that the Commission has taken the first step by re-visiting its data rules. I encourage the Commission to not stop there and continue to re-visit rules that have impacted legitimate hedging activities.

Thank you very much for your time.

Note: Presentation is available under Related Links.

1 See Timeline of CME Achievements, available at http://www.cmegroup.com/company/history/timeline-of-achievements.html.

2 Annual Energy Outlook 2013, U.S. Energy Information Administration, April 2013, page 79, available at, http://www.eia.gov/forecasts/aeo/pdf/0383(2013).pdf. The EIA report shows an increase in natural gas production since the mid-2000s and predicts a further 44 percent increase in production from 2011 to 2040, with shale gas providing the largest source of growth.

3 Freezes hit U.S. natural gas output, California supply, Reuters, February 3, 2014, available at, http://www.reuters.com/article/2014/02/06/energy-natgas-weather-idUSL2N0LB1I420140206. Supply constraints also contributed to price spikes. Northeastern Winter Natural Gas and Electricity Issues, U.S. Energy Information Administration, January 7, 2014, available at, http://www.eia.gov/special/alert/east_coast/pdf/energy_market_alert_Jan_7_2014.pdf.

4 Rains to end Brazil coffee drought, but damage done, Reuters, February, 13, 2014, available at http://www.reuters.com/article/2014/02/13/brazil-coffee-rains-idUSL2N0LI1DY20140213.

5 Coffee, sugar fall on producer selling, cocoa eyes expiry, Reuters, March 14, 2014, available at http://www.cnbc.com/id/101494777.

6 Porcine epidemic diarrhea virus.

7 Pork Industry Launches Three-Prong Strategy to Stem PEDV Spread, National Pork Board, March 11, 2014, available at, http://www.pork.org/News/4575/PorkIndustryLaunchesThreeProngStrategytoStemPEDVSpread.aspx.

8 Is virus-inflated U.S. hog market bubble about to burst?, Reuters, March 14, 2014, available at, http://www.reuters.com/article/2014/03/14/us-usa-pork-hogs-analysis-idUSBREA2D1YW20140314.

9 Wheat jumps 2 pct on U.S. weather, Ukraine concerns, Reuters, March, 14, 2014, available at, http://www.reuters.com/article/2014/03/14/markets-grains-idUSL3N0MB3CX20140314.

10 See Clean Current’s website, available at, http://www.cleancurrents.com/; Clean Currents turns off its lights after January’s polar vortex spiked energy prices, The Washington Post, February 3, 2014, available at, http://www.washingtonpost.com/business/capitalbusiness/clean-currents-turns-off-its-lights-after-januarys-polar-vortex-spiked-energy-prices/2014/02/03/8f9cde1e-8cf6-11e3-98ab-fe5228217bd1_story.html.

11 Id.

12 Further Definition of “Swap,” “Security-Based Swap,” and “Security-Based Swap Agreement”; Mixed Swaps; Security-Based Swap Agreement Recordkeeping, 77 FR 48208 (Aug. 13, 2012).

13 Deliverable Interest Rate Swap Futures, CME Group, available at, http://www.cmegroup.com/trading/interest-rates/files/dsf-overview.pdf. Eris Exchange to Launch New, Margin-Efficient Interest Rate Swap Futures, Eris Exchange, December 5, 2012, available at, http://www.erisfutures.com/EE/Eris_Exchange_to_Launch_New_Margin_Efficient_Interest_Rate_Swap_Futures.pdf.

14 SGX to Introduce Iron Ore Futures as Investors Bet on China, Bloomberg, April 5, 2013, available at, http://www.bloomberg.com/news/2013-04-05/sgx-to-introduce-iron-ore-futures-as-investors-wager-on-china.html.

15 Credit Index Futures on ICE, available at, https://www.theice.com/credit.jhtml.

16 Futurization of FX Derivatives, Greenwich Associates, January 14, 2014, available at, https://www.greenwich.com/greenwich-research/research-documents/greenwich-reports/2014/jan/is-spl-futfx-2013-gr. Why Regulatory Changes Will Drive FX Trading Volume to Futures, kevinonthestreet, January 14, 2014, available at, http://kevinonthestreet.com/why-regulatory-changes-will-drive-fx-trading-volumes-to-futures/.

17 Id. Futurization: Dodd-Frank Drives Swaps-to-Futures Migration, futuresINDUSTRY, January 2013, available at, http://www.futuresindustry.org/futures-industry.asp?iss=209&a=1531. Swaps Futurization Means Added Choice, Market Media, March 12, 2014, available at, http://marketsmedia.com/swaps-futurization-means-added-choice/.

18 Further Definition of “Swap Dealer,” “Security-Based Swap Dealer,” “Major Swap Participant,” “Major Security-Based Swap Participant,” and “Eligible Contract Participant,” 77 FR 30595 (May 23, 2012).

19 The Role of Banks in Physical Commodities, HIS Global Inc., 2013, at pages 4-5.

20 Id. at 24-25.

21 Id. at 24.

22 Id. at 25.

23 Id.

24 Id.

25 Basel Committee on Banking Supervision and Board of the International Organization of Securities Commissions, Margin requirements for non-centrally cleared derivatives, September 2013, available at, http://www.bis.org/publ/bcbs261.pdf.

26 Sections 727 and 728 of the Dodd-Frank Act. Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. 111-203, 124 Stat. 1376 (2010).

27 17 C.F.R. parts 43, 45, and 46.

FLORIDIAN FINED FOR MAKING FALSE AND MISLEADING STATEMENTS DURING CFTC INVESTIGATION

FROM:  COMMODITY FUTURES TRADING COMMISSION 
CFTC Orders Sean R. Stropp to Pay $250,000 Penalty to Settle Charges of Making False and Misleading Statements During a CFTC Investigation

Washington, DC — The U.S. Commodity Futures Trading Commission (CFTC) today issued an Order filing and settling charges against Sean R. Stropp (Stropp), formerly of Jupiter, Florida. Stropp is ordered to pay a $250,000 civil monetary penalty for making false and misleading statements of material fact, and omitting material facts, to CFTC staff during a CFTC Division of Enforcement (DOE) investigation. The Order enforces the false statements provision of the Commodity Exchange Act (CEA), which was added by the 2010 Dodd-Frank Act.

In addition to the $250,000 civil monetary penalty, the Order requires Stropp to cease and desist from violating the relevant provision of the CEA and permanently prohibits him from, directly or indirectly, engaging in trading on or subject to the rules of any registered entity.

According to the Order, Stropp provided DOE staff a signed and notarized financial disclosure statement in connection with the CFTC’s investigation into potentially unlawful sales of off-exchange leveraged metals contracts by Stropp and his company Barclay Metals, Inc. (Barclay). In his statement, Stropp falsely represented that the statement included all his known assets and that the statement was true, correct, and complete, per the Order. Further, the Order finds that Stropp omitted material facts from the statement, including both his control of, and his spouse’s ownership interest in, another entity selling leveraged metals contracts and his ownership and control of two of that other entity's bank accounts.

CFTC DOE Acting Director Gretchen Lowe commented, “Lying or failing to disclose material information during a CFTC investigation is unacceptable, and those who do so must bear the consequences.”

CFTC Previously Settled with Stropp

On January 28, 2013, the Commission issued an Order finding that Stropp, Barclay, and others engaged in illegal, off-exchange metals transactions in violation of the CEA (see CFTC press release 6503-13, January 28, 2013).

Related Criminal Action

On August 20, 2013, the Manhattan (New York) District Attorney’s office announced Stropp’s indictment for operating a fraudulent investment scheme through the undisclosed leveraged metals entity at issue in the Order. According to the indictment, the scheme allegedly resulted in millions of dollars of customer losses. Stropp pleaded guilty to the charges on February 4, 2014 and was sentenced to one to three years in prison in New York, where he is currently incarcerated.

CFTC DOE staff responsible for this action are Jenny Chapin, Jeff Le Riche, Steve Turley, Charles Marvine, Rick Glaser, and Richard Wagner. The CFTC thanks the Manhattan District Attorney’s Office for its assistance.

TESTIMONY OF CFTC ACTING CHAIRMAN WETJEN REGARDING BUDGET AND OVERSIGHT

FROM:  COMMODITY FUTURES TRADING COMMISSION 
Testimony of Acting Chairman Mark P. Wetjen Before the U.S. House Appropriations Subcommittee on Agriculture, Rural Development, Food And Drug Administration, and Related Agencies

March 6, 2014

Good morning, Chairman Aderholt, Ranking Member Farr and members of the Subcommittee. Thank you for inviting me to today’s hearing on the FY 2015 President’s Budget request for the Commodity Futures Trading Commission (“Commission” or “CFTC”).

Under the Commodity Exchange Act, the Commission has oversight responsibilities for the derivatives markets. These markets, which have been in existence for centuries, have taken on particular importance to the U.S. economy in recent decades and as a consequence have become enormously vast, measuring hundreds of trillions of dollars in notional value. They are critical to the effective functioning of the U.S. and global economies.

At their core, the derivatives markets exist to help farmers, producers, small businesses, manufacturers and lenders focus on what they do best: providing goods and services and allocating capital to reduce risk and meet main street demand. Well-regulated derivatives markets facilitate job creation and the growth of the economy by providing a means for managing and assuming prices risks and broadly disseminating, and discovering, pricing information.

Stated more simply, through the derivatives marketplace, a farmer can lock in a price for his crop; a small business can lock in an interest rate that would otherwise fluctuate, perhaps raising its costs; a global manufacturer can lock in a currency value, allowing it to better plan and grow its global business; and a lender can manage its assets and balance sheet to ensure it can continue lending, fueling the economy in the process.

Essentially, these complex markets facilitate the assumption and distribution of risk throughout the financial system, and for that reason alone, it is critical that these markets are subject to appropriate governmental oversight.

Mr. Chairman, Ranking Member, and Committee members, I do not intend the testimony that follows to sound alarmist, or to overstate the case for additional resources, but I do want to be sure that Congress, and this committee in particular, have a clear picture of the potential risks posed by the continued state of funding for the agency. When not overseen properly, irregularities in these markets, or failures of firms intermediating in them, can severely and negatively impact the economy as a whole and cause dramatic losses for individual participants. The stakes, therefore, are high.

The CFTC’s Responsibilities have Grown Substantially in Recent Years

The unfortunate reality is that, at current funding levels, the Commission is unable to adequately fulfill the mission given to it by Congress: to prevent disruptions to market integrity, protect customer assets, monitor and reduce the build-up of systemic risk, and ensure to the greatest extent possible that the derivatives markets are free of fraud and manipulation.

Recent increases in the agency’s funding have been essential and appreciated. They have not, however, kept pace with the growth of the Commission’s responsibilities, including those given to it under the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”).

Various statistics have been used to measure this increase in responsibilities. One often-cited measure is the increase in the gross notional size of the marketplace now under the Commission’s oversight. Other measures, though, are equally and perhaps more illustrative.

For instance, the trading volume of CFTC-regulated futures and options contracts was 3,060 million contracts in 2010 and rose to 3,477 million in 2013. Similarly, the volume of interest rate swap trading activity by the 15 largest dealers averaged 249,564 swap events each in 2010, and by 2012, averaged 332,484 each (according to International Swaps and Derivatives Association (“ISDA”) data). Those transactions, moreover, can be executed in significantly more trading venues, and types of trading venues, both here and abroad. In addition, the complexity of the markets, its products and sophistication of the market tools, such as high frequency trading techniques, has increased greatly over the years.

The notional value of derivatives centrally cleared by clearinghouses was $124 trillion in 2010 (according to ISDA data), and is now approximately $223 trillion (according to CFTC data from swap data repositories (“SDRs”)). That is nearly a 100 percent increase. The expanded use of clearinghouses is significant in this context because, among other things, it means that the Commission must ensure through appropriate oversight that these entities continue to properly manage the various types of risks that are incident to a market structure dependent on central clearing. A clearinghouse’s failure to follow international guidelines and the Commission’s regulations, now more than ever, could have significant economic consequences.

The amount of customer funds held by clearinghouses and futures commission merchants (“FCMs”) was $177 billion in 2010 and is now over $225 billion, another substantial increase. These are customer funds in the form of cash and securities deposited at firms to be used for margin payments made by the end-users of the markets, like farmers, to support their trading activities. Again, Commission rules are designed to ensure customer funds are safely kept by these market intermediaries, and a failure to provide the proper level of oversight increases the risk of certain practices by firms, including perhaps operational risks or fraud. In fact, recent events in the FCM community have led to the temporary or permanent loss of more than a billion dollars of customer funds.

The total number of registrants and registered entities overseen directly by the Commission, depending on the measure, has increased by at least 40 percent in the last four years. This includes 99 swap dealers, two major swap participants (“MSPs”), FCMs, clearinghouses, trading venues and SDRs.

In addition, the CFTC oversees more than 4,000 advisers and operators of managed funds, some of which have significant outward exposures in and across financial markets. It is conceivable that the failure of some of these funds could have spill-over effects on the financial system. In all cases, investors in these funds are entitled to know their money is being appropriately held and invested.

The Commission also directly or indirectly supervises another approximately 64,000 registrants, mostly associated persons that solicit or accept customer orders or participate in certain managed funds, or that invest customer funds through discretionary accounts. Although it leverages the resources of the self-regulatory organizations (“SROs”), the Commission itself must oversee these registrants in certain areas and provide guidance and interpretations to the SROs with a total staff of only 644 employees currently onboard, less than 10 percent of the number of registrants under its purview.

By almost any measure, in fact, the portfolio of entities that the Commission is charged with overseeing has expanded in size and risk dramatically over the last half decade. The intermediaries in the derivatives markets are by and large well-run firms that perform important services in the markets and for their customers. But as a collective whole, these firms can potentially pose risks, even significant risks, to the financial system and the individuals operating within it. Those relying upon these firms deserve assurances that such firms are supervised by an agency capable of meaningful oversight.

The FY15 Request Prioritizes Examinations, Technology and Market Integrity, and Enforcement

The FY 2014 appropriation of $215 million was a modest budgetary increase for the Commission, lifting the agency’s appropriations above the sequestration level of $195 million that has posed significant challenges for the agency’s orderly operation. As directed by Congress, the agency has submitted to Congress a FY 2014 Spend Plan outlining the agency’s allocation of current resources, which reflects an increased emphasis on examinations and technology-related staff.

The President’s FY 2015 budget request also reflects these priorities and highlights both the importance of the Commission’s mission and the potential effects of continuing to operate under difficult budgetary constraints.

The request is a significant step towards the longer-term funding level that is necessary to fully and responsibly fulfill the agency’s core mission: protecting the safety and integrity of the derivatives markets. It recognizes the immediate need for an appropriation of $280 million and approximately 920 staff years (“FTEs”) for the agency, an increase of $65 million and 253 FTEs over the FY 2014 levels, heavily weighted towards examinations, surveillance, and technology functions.

In this regard, the request balances the need for more technological tools to monitor the markets, detect fraud and manipulation, and identify risk and compliance issues, with the need for staff with the requisite expertise to analyze the data collected through technology and determine how to use the results of that analysis to fulfill the Commission’s mission as the regulator of the derivatives markets. Both are essential to carrying out the agency’s mandate. Technology, after all, is an important means for the agency to effectively carry out critical oversight work; it is not an end in itself.

In light of technological developments in the markets today, the agency has committed to an increased focus on technology and is requesting a 17 percent increase in technology funding, or approximately $7 million, over FY 2014 solely for IT investments. The Commission’s FY 2014 Congressional Spending Plan already reflects that priority. The agency, in fact, reprogrammed $7.9 million from salaries and expenses to enhance technology investments.

In my remaining testimony, I will review three of the primary mission priorities for FY 2015.

Examinations

The President’s request would provide $38 million and 158 FTEs for examinations, which also covers the compliance activities of the Commission. As compared to FY 2014, this request is an increase of $15 million and 63 FTEs.

I noted earlier that the Commission has seen substantial growth in, among other things, trading volumes, customer monies held by intermediaries in the derivatives markets, and margin and risk held by clearinghouses. Examinations and legal compliance oversight are perhaps the best deterrents to fraud and improper or insufficient risk management and, as such, remain essential to compliance with the Commission’s customer protection and risk management rules.

The Commission has a direct examinations program for clearinghouses and designated contract markets, and it will soon directly examine swap execution facilities (“SEFs”) and SDRs. However, the agency does not at this time have the resources to place full-time staff on site at these registered entities, even systemically-important clearing organizations, unlike a number of other financial regulators that have on-the-ground staff at the significant firms they oversee. The Divisions of Market Oversight and Clearing and Risk collectively have 47 total examinations positions in FY 2014 to monitor, review, and report on some of the most complex financial markets and operations in the world.

The Commission today also performs only high-level, limited-scope reviews of the nearly 100 FCMs and 99 swap dealers holding over $225 billion in customer funds. In fact, the Commission has a staff of only 35 examiners to review these firms and analyze, among other things, over 1,200 financial filings each year. This staff level is less than the number the Commission had in 2010, yet the number of firms requiring its attention has almost doubled. Additionally, although it has begun legal compliance oversight of swap dealers and MSPs, the Commission has been able to allocate only 14 FTEs for this purpose. This number is insufficient to perform the necessary level of oversight of the newly registered swap dealer entities.

In FY2014, the Commission overall will have a mere 103 staff positions dedicated to examinations of the thousands of different registrants that should be subject to thorough oversight and examinations. The reality is that the agency has fallen far short of performance goals for its examinations activities, and it will continue to do so in the absence of additional funding from Congress. For example, as detailed in the Annual Performance Review for FY 2013, the Commission failed to meet performance targets for system safeguard examinations and for conducting direct examinations of FCM and non-FCM intermediaries. The President’s budget request appropriately calls on Congress to bolster the examinations function at the agency, and it would protect the public, and money deposited by customers, by enhancing the examinations program staff by more than 66 percent in FY 2015.

Moreover, if Congress fully funds the President’s request, the Commission can move toward annual reviews of all significant clearinghouses and trading platforms and perform more effective monitoring of market participants and intermediaries. Partially funding the request will mean accepting a certain amount of operational risk in the derivatives markets as the Commission is forced to forego more in-depth financial, operational and risk reviews of the firms within its jurisdiction and as such be reactive and not proactive to firm or industry risk issues.

Technology and Market Integrity

The FY 2015 request also supports a substantial increase in technology investments relative to FY 2014, roughly a 17 percent increase to supplement the more than 62 percent overall increase in data acquisition, analytics, and surveillance staff to make use of these investments. The $50 million investment in technology will provide millions of dollars of new and sophisticated analytical systems that will assist the Commission in its efforts to ensure market integrity.

The President’s FY 2015 budget request supports, in addition, 103 data-analytics and surveillance-related positions in the Division of Market Oversight alone, an increase of more than 98 percent over the FY 2014 staffing levels. Market surveillance is a core Commission mission, and it is an area that depends heavily on technology. As trading across the world has moved almost entirely to electronic systems, the Commission must make the technology investments required to collect and make sense of market data and handle the unprecedented volumes of transaction-level data provided by financial markets.

Effective market surveillance, though, equally depends on the Commission’s ability to hire and retain experienced market professionals who can analyze extremely complex and voluminous data from multiple trading markets and develop sophisticated analytics and models to respond to and identify trading activity that warrants investigation. The FY 2015 investment in high-performance hardware and software therefore must be paired with investments in personnel that can employ technology investments effectively.

In addition to the agency’s direct oversight responsibilities, the CFTC continues to prioritize the data and technology infrastructure needs across the Commission. The President’s FY 2015 Budget requests significant increases in both dollars and staff dedicated to these needs. Data, and the ability to analyze and report data, are more important than ever in the derivatives markets, and in the CFTC’s ability to oversee these markets. The CFTC must aggregate various types of data from multiple industry sources and across the futures and swaps markets. The increasing complexity and volume of this incoming data, moreover, requires significantly more powerful hardware, such as massively parallel processing systems to support analytics. Moving forward, the Commission will continue to improve information technology and management capabilities in the areas of data management to support analytics, statistical processing, and market research.

Enforcement

The President’s FY 2015 request would provide $62 million and 200 FTEs for enforcement, an increase of $16 million and 51 FTEs over FY 2014.

In its role as a law enforcement agency, the Commission’s enforcement arm protects market participants and other members of the public from fraud, manipulation and other abusive practices in the futures, options, cash and swaps markets, and prosecutes those who engage in such conduct. In FY 2013, the Commission filed 82 enforcement actions, bringing the total over the past three fiscal years to 283, and obtained orders in FY 2013 imposing more than $1.7 billion in sanctions.

The cases the agency pursues range from sophisticated manipulative and disruptive trading schemes in markets the Commission regulates, including financial instruments, oil, gas, precious metals and agricultural products, to quick strike actions against Ponzi schemes that victimize investors. The agency also is engaged in complex litigations related to issues of financial market integrity and customer protection. By way of example, in FY 2013, the CFTC filed and settled charges against three financial institutions for engaging in manipulation, attempted manipulation and false reporting of LIBOR and other benchmark interest rates.

Such investigations continue to be a significant and important part of the Division of Enforcement’s docket. Preventing manipulation is critical to the Commission’s mission to help protect taxpayers and the markets, but manipulation investigations, in particular, strain resources and time. And once a case is filed, the priority must shift to the litigation. In addition to drawing time and resources at the Commission, litigation requires additional resources, such as the retention of costly expert witnesses.

In 2002, when the Commission was responsible for the futures and options markets alone, the Division of Enforcement had approximately 154 people. Today, the CFTC also has anti-fraud and anti-manipulation authority over the vast swaps market, and it oversees a host of new market participants. In addition, the agency is also now responsible for pursuing cases under our enhanced Dodd-Frank authority that prohibits the reckless use of manipulative or deceptive schemes. Notwithstanding these additional responsibilities, there are currently only 149 members of the enforcement staff. The President’s budget request brings this number to 200, and more cops on the beat means the public is better assured that the rules of the road are being followed.

In addition to the need for additional enforcement staff and resources, the CFTC also believes technology investments will make our enforcement staff more efficient. For instance, the FY 2015 request would support developing and enhancing forensic analysis capabilities to assist in the development of analytical evidence for enforcement cases.

A full increase for enforcement means that the agency can pursue more investigations and better protect the public and the markets. A less than full increase means that the CFTC will continue to face difficult choices. It is not clear that we could maintain the current volume and types of cases, as well as ensure timely responses to market events.

Other FY 2015 Priorities: International Policy Coordination & Economic and Legal Analysis

The President’s FY 2015 request would provide $4.2 million and 15 FTEs that would be dedicated to international policy, a decrease of $41,000 and no increase in FTE over FY 2014. This allocation should not be misconstrued to mean that international coordination is not a priority for the Commission.

The global nature of the swaps and futures markets makes it imperative that the United States consult and coordinate with international authorities. For example, the Commission recently announced significant progress towards harmonizing a regulatory framework for CFTC-regulated SEFs and EU-regulated multilateral trading facilities (“MTFs”). The Commission is working internationally to promote robust and consistent standards, to avoid or minimize potentially conflicting or duplicative requirements, and to engage in cooperative supervision, wherever possible.

Over the past two years, the CFTC, Securities and Exchange Commission, European Commission, European Securities and Markets Authority, and market regulators from around the globe have been meeting regularly to discuss and resolve issues with the goal of harmonizing financial reform. The Commission also participates in numerous international working groups regarding derivatives. The Commission’s international efforts directly support global consistency in the oversight of the derivatives markets. In addition, the Commission anticipates a significant need for ongoing international policy coordination related to both market participants and infrastructure in the swaps markets. The Commission also anticipates a need for ongoing international work and coordination in the development of data and reporting standards under Dodd-Frank rules. Dodd-Frank further provided a framework for foreign trading platforms to seek registration as a foreign board of trade, and 24 applications have been submitted.

A full increase for international policy means the Commission will be able to increase our coordination efforts with financial regulators and market participants from around the globe. A less than full increase means we will be less able to engage in cooperative work with our international counterparts, respond to requests, and provide staffing for various standard-setting projects.

In addition, for FY 2015, the President’s budget would support $24 million and 92 FTEs to invest in robust economic analysis teams and Commission-wide legal analysis. Compared to the FY 2014 Spending Plan, this request is an increase of $4 million and 18 FTEs. Both of these teams support all of the Commission’s divisions.

The CFTC’s economists analyze innovations in trading technology, developments in trading instruments and market structure, and interactions among various market participants in the futures and swaps markets. Economics staff with particular expertise and experience provides leverage to dedicated staff in other divisions to anticipate and address significant regulatory, surveillance, clearing, and enforcement challenges. Economic analysis plays an integral role in the development, implementation, and review of financial regulations to ensure that the regulations are economically sound and subjected to a careful consideration of potential costs and benefits. Economic analysis also is critical to the public transparency initiatives of the Commission, such as the Weekly Swaps Report. Moving into FY 2015, the CFTC’s economists will be working to integrate large quantities of swaps market data with data from designated contract markets and SEFs and large swaps and futures position data held by the Commission to provide a more comprehensive view of the derivatives markets.

The legal analysis team provides interpretations of Commission statutory and regulatory authority and, where appropriate, provides exemptive, interpretive, and no-action letters to CFTC registrants and market participants. In FY 2013, the Commission experienced a significant increase in the number and complexity of requests from market participants for written interpretations and no-action letters, and this trend is expected to increase into FY 2015.

A full increase for the economics and legal analysis mission means the Commission will be able to support each of the CFTC’s divisions with economic and legal analysis. Funding short of this full increase or flat funding means an increasingly strained ability to integrate and analyze vast amounts of data the Commission is receiving on the derivatives markets, thus impacting our ability to detect problems that could be detrimental to the economy. Flat funding also means the Commission’s legal analysis team will continue to be constrained in supporting front-line examinations, adding to the delays in responding to market participants and processing applications, and hampering the team’s ability to support enforcement efforts.

Conclusion

Effective oversight of the futures and swaps markets requires additional resources for the Commission. This means investing in both personnel and information technology. We need staff to analyze the vast amounts of data we are receiving on the swaps and futures markets. We need staff to regularly examine firms, clearinghouses and trading platforms. We need staff to bring enforcement actions against perpetrators of fraud and manipulation. The agency’s ability to appropriately oversee the marketplace hinges on securing additional resources.

Thank you again for inviting me today, and I look forward to your questions.

WOMAN AND COMPANIES CHARGED IN MULTIMILLION DOLLAR FOREX SCHEME

FROM:  COMMODITY FUTURES TRADING COMMISSION 
CFTC Charges Melody Nganthuy Phan of California and Her Companies, My Forex Planet, Inc., Wal Capital, S.A., and Top Global Capital, Inc., with Operating a Fraudulent $3.7 Million Off-Exchange Forex Scheme

The CFTC also Charges Melody Nganthuy Phan with Fraud by an Unregistered Commodity Pool Operator

Washington, DC - The US Commodity Futures Trading Commission (CFTC) filed a civil enforcement action charging Defendants Melody Nganthuy Phan (Phan) of California and her companies, My Forex Planet, Inc. (MFP), Wal Capital, S.A. (Wal Capital), and Top Global Capital, Inc. (TGC) with operating a fraudulent off-exchange foreign currency (forex) scheme. The CFTC Complaint also charges Phan with fraud by an unregistered commodity pool operator. The scheme allegedly fraudulently solicited at least $3,764,214 from over 174 customers and misappropriated customer funds in an effort to perpetuate the fraud.

Specifically, the Complaint alleges that, from at least January 2009 and through February 2011, Phan, Wal Capital, and TGC, through MFP, used forex training classes to directly and indirectly solicit actual and prospective clients to open self-traded forex accounts at Wal Capital and pooled forex trading at TGC. During the forex trading classes given by MFP, Defendants falsely stated, among other things, that 1) Phan was a highly successful forex trader who had made millions of dollars trading forex, 2) Phan’s forex trading system, which was taught in MFP classes, was a very safe system that virtually guaranteed profit over time, and 3) money deposited by Defendants’ customers would be used for its intended purpose. The Complaint alleges that all of these representations to clients were false. In fact, Phan lost over $1.4 million trading forex in multiple accounts in her name or under her control, according to the Complaint.

Additionally, the Complaint alleges that Defendants used customer funds for unauthorized purposes, such as paying other customer withdrawals, as well as business expenses such as radio ads and marketing.

The CFTC Complaint seeks restitution, civil monetary penalties, restitution, trading and registration bans, and a permanent injunction prohibiting further violations of the federal commodities laws, as charged.

The CFTC greatly appreciates the assistance of the UK Financial Conduct Authority.

CFTC Division of Enforcement Staff members responsible for this case are Alison Wilson, Maura Viehmeyer, Boaz Green, Heather Johnson, James H. Holl, III, and Rick Glaser.

COMPANY AND OWNER TO PAY $6.2 MILLION FOR PRECIOUS METALS FRAUD SCHEME

FROM:  COMMODITY FUTURES TRADING COMMISSION 
CFTC Orders Florida-based Worth Asset Management and its Owner, Paul L. Kaulesar, to pay over $6.2 Million in Restitution and a Fine for Multi-Million Dollar Fraudulent Precious Metals Scheme

Washington DC – The U.S. Commodity Futures Trading Commission (CFTC) today filed and settled charges against Worth Asset Management LLC (Worth Asset) of West Palm Beach, Florida, and its sole owner and manager, Paul L. Kaulesar of Royal Palm Beach, for solicitation fraud and engaging in illegal, off-exchange precious metals transactions. Neither Worth Asset nor Kaulesar has ever been registered with the CFTC.

The CFTC Order requires Worth Asset and Kaulesar jointly to pay a $1,565,000 civil monetary penalty and restitution to their customers totaling $4,696,640. The Order also imposes permanent trading and registration bans against Worth Asset and Kaulesar and prohibits them from violating the provisions of the Commodity Exchange Act and a CFTC Regulation, as charged.

The Order finds that, between July 16, 2011 and March 31, 2013, Worth Asset and Kaulesar operated a telemarketing firm that solicited individual retail customers to enter into financed precious metals transactions in gold, silver, and platinum. The large majority of their transactions involved the sale of leveraged silver contracts to unsophisticated investors purchasing physical metals by paying as little as 20 percent of the total price and receiving a loan for the balance of the transaction, according to the Order. Customers were also charged a 15 percent commission on the total leveraged value of the metal transaction, as well as monthly interest, according to the Order.

However, according to the Order, Worth Asset and Kaulesar did not purchase physical commodities on the customers’ behalf. Rather, they aggregated the customer payments received, transferred a portion of those funds to their margin trading account, and made book entries in an electronic database reflecting the customer transaction details. During the period, Worth Asset and Kaulesar received $4,696,640, the difference between the funds that customers sent to them and what they returned to customers, the Order also finds.

Illegal Contracts

The precious metals transactions offered by Worth Asset and Kaulesar were illegal contracts because they were not executed on or subject to the rules of a board of trade, exchange, or contract market, as required by the Commodity Exchange Act, according to the Order.

Solicitation Fraud

Worth Asset and Kaulesar defrauded customers and potential customers by misrepresenting the potential profits from leveraged precious metals contracts and failing to disclose the past performance of the precious metals contracts they offered, the Order finds. One piece of their promotional material, for example, emphasized the profits that could purportedly be obtained through precious metals transactions, claiming that “[r]enowned precious metals analyst, [name omitted], predicts Silver to top $60 an ounce by the end of 2012.” However, Worth Asset and Kaulesar failed to inform customers that at least 88 percent of the firm’s customers lost money on their financed precious metals investments.

CFTC Division of Enforcement staff members responsible for this case are Kyong J. Koh, Todd Kelly, Peter M. Haas, and Paul G. Hayeck.

* * * * *

CFTC’s Precious Metals Customer Fraud Advisory

The CFTC has issued several customer protection Fraud Advisories that provide the warning signs of fraud, including the Precious Metals Fraud Advisory, which alerts customers to precious metals fraud and lists simple ways to spot precious metals scams.

CFTC OFFICIAL'S TESTIMONY REGARDING FUTURES MARKET OVERSIGHT

FROM:  COMMODITY FUTURES TRADING COMMISSION 

Testimony of Vincent McGonagle, Director Division of Market Oversight, Commodity Futures Trading Commission Before the Financial Institutions and Consumer Protection Subcommittee Senate Committee on Banking, Housing, and Urban Affairs

January 15, 2014

Chairman Brown, Ranking Member Toomey, and Members of the Subcommittee, thank you for the opportunity to appear before you today. I am Vincent McGonagle and I am the Director of the Division of Market Oversight of the Commodity Futures Trading Commission (CFTC).

Background on Commodity Exchange Act and the CFTC Mission

The purpose of the Commodity Exchange Act (CEA) is to serve the public interest by providing a means for managing and assuming price risks, discovering prices, or disseminating pricing information. Consistent with its mission statement and statutory charge under the CEA, the CFTC is tasked with protecting market participants and the public from fraud, manipulation, abusive practices and systemic risk related to derivatives – both futures and swaps – and to foster transparent, open, competitive and financially sound markets. In carrying out its mission and statutory charge, and to promote market integrity, the Commission polices derivatives markets for various abuses and works to ensure the protection of customer funds. Further, the agency seeks to lower the risk of the futures and swaps markets to the economy and the public. To fulfill these roles, the Commission oversees designated contract markets (DCMs), swap execution facilities (SEFs), derivatives clearing organizations, swap data repositories, swap dealers, futures commission merchants, commodity pool operators and other intermediaries.

The CEA has for many years required that any futures transaction, unless subject to an exemption, be conducted on or subject to the rules of a board of trade which has been designated by the CFTC as a DCM. Sections 5 and 6 of the CEA and Part 38 of the Commission’s regulations provide the legal framework for the Commission to designate DCMs, along with each DCM’s compliance requirements with respect to the trading of commodity futures contracts. With the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), DCMs were also permitted to list swap contracts. Along with this expansion of product lines that can be listed on DCMs, the Dodd-Frank Act also amended various substantive DCM requirements, under CEA Section 5, and adopted a new regulatory category for exchanges that provide for the trading of swaps (SEFs).1 The Commission revised its DCM regulations to reflect these new requirements, and also adopted regulations to implement the Dodd-Frank Act’s SEF requirements.

Under the CEA and the Commission’s contract and rule review regulations, all new product terms and conditions, and subsequent associated amendments, are submitted to the Commission before implementation. In submitting new products and associated amendments, DCMs and SEFs are legally obligated to meet certain core principles; one of the most significant being the prohibition, in DCM and SEF Core Principle 3, on listing contracts that are readily susceptible to manipulation.2 DCMs and SEFs self-certify most of their products to the Commission, as allowed under the CEA,3 and self-certified contracts may be listed for trading shortly after submission.4 The Commission has provided Guidance to DCMs and SEFs on meeting Core Principle 3 in Appendix C to Part 38 of the Commission’s regulations. Failure of a DCM or SEF to adopt and maintain practices that adhere to these requirements may lead to the Commission’s initiation of proceedings to secure compliance.

Among other things, a DCM or SEF that lists a contract that is settled by physical delivery should design its contracts in such a way as to avoid any impediments to the delivery of the commodity in order to promote convergence between the price of the futures contract and the cash market value of the commodity at the time of delivery. The specified terms and conditions considered as a whole should result in a deliverable supply that is sufficient to ensure that the contract is not susceptible to price manipulation or distortion.5 The contract terms and conditions should describe or define all of the economically significant characteristics or attributes of the commodity underlying the contract, including: quality standards that reflect those used in transactions in the commodity in normal cash marketing channels; delivery points at a location or locations where the underlying cash commodity is normally transacted or stored; conditions that delivery facility operators must meet in order to be eligible for delivery, including considerations of the extent to which ownership of such facilities is concentrated and whether the level of concentration would render the futures contract susceptible to manipulation; delivery procedures that seek to minimize or eliminate any impediment to making or taking delivery by both deliverers and takers of delivery to help ensure convergence of cash and futures at the expiration of a futures delivery month.

Commission staff utilizes considerable discretion and can request that DCMs and SEFs provide full explanations of their compliance with the Commission’s product requirements. Commission staff may ask a DCM or SEF at any time for a detailed justification of its continuing compliance with core principles, including information demonstrating that any contract certified to the Commission for listing on that exchange meets the requirements of the Act and DCM or SEF Core Principle 3.

Expansion of CFTC Enforcement Authority Under Dodd-Frank

The Commission’s responsibilities under the CEA include mandates to prevent and deter fraud and manipulation. The Dodd-Frank Act enhanced the Commission’s enforcement authority by expanding it to the swaps markets. The Commission adopted a rule to implement its new authorities to police against fraud and manipulative schemes. In the past, the CFTC had the ability to prosecute manipulation, but to prevail, it had to prove the specific intent of the accused to affect prices and the existence of an artificial price. Under the new law and rules implementing it, the Commission’s anti-manipulation reach is extended to prohibit the reckless use of manipulative schemes. Specifically, Section 6(c)(3) of the CEA now makes it unlawful for any person, directly or indirectly, to manipulate or attempt to manipulate the price of any swap, or of any commodity in interstate commerce, or for future delivery on or subject to the rules of any registered entity. In addition, Section 4c(a) of the CEA now explicitly prohibits disruptive trading practices and the Commission has issued an Interpretive Guidance and Policy Statement on Disruptive Practices.6

In addition, the Dodd-Frank Act established a registration regime for any foreign board of trade (FBOT) and associated clearing organization who seeks to offer U.S. customers direct access to its electronic trading and order matching system. Applicants for FBOT registration must demonstrate, among other things, that they are subject to comprehensive supervision and regulation by the appropriate governmental authorities in their home country or countries that is comparable to the comprehensive supervision and regulation to which Commission-designated contract markets and registered derivatives clearing organizations are respectively subject.

CFTC Coordination with Foreign and Domestic Regulators

The Commission recognizes that commodity markets are international in nature and, accordingly, regularly consults with other countries’ regulators. In particular, staff regularly consult with staff of the FCA (the LME’s home regulatory authority) as to market conditions with respect to products of mutual interest, including the LME’s recent introduction of warehouse reforms. The two agencies also participate in mutual information-sharing agreements for both market surveillance and enforcement purposes.

Similarly, the Commission formally and informally consults and coordinates with other domestic financial regulators. For example, the CFTC and the Federal Energy Regulatory Commission (FERC) have had a memorandum of understanding (MOU) in place since 2005 that provides for information exchange related to oversight or investigations. Earlier this month, FERC and the CFTC signed two Memoranda of Understanding (MOU) to address circumstances of overlapping jurisdiction and to share information in connection with market surveillance and investigations into potential market manipulation, fraud or abuse. The MOUs allow the agencies to promote effective and efficient regulation to protect the nation’s energy markets and increased cooperation between the agencies.

Again, thank you for the opportunity to appear before the Subcommittee. I will be pleased to respond to any questions you may have.

1 In addition to the provisions regarding listing of swaps on DCMs and SEFs, the Dodd-Frank Act provides that, unless a clearing exception applies and is elected, a swap that is subject to a clearing requirement must be executed on a DCM, SEF, or SEF that is exempt from registration under CEA, unless no such DCM or SEF makes the swap available to trade.

2 DCM and SEF Core Principle 3 states, “Contract Not Readily Subject to Manipulation—The board of trade shall list on the contract market only contracts that are not readily susceptible to manipulation.”

3 For example, while contracts can be submitted for approval, of the almost 5,000 contracts submitted by DCMs and SEFs since the Dodd-Frank Act was enacted, all were submitted on a self-certification basis, and over 2,000 contracts were certified in calendar year 2013 alone.

4 A DCM or SEF need wait only one full business day after the contract has been submitted to list the contract for trading.

5 Deliverable supply means the quantity of the commodity meeting the contract’s delivery specification that reasonably can be expected to be readily available to short traders and salable by long traders at its market value in normal cash marketing channels at the contract’s delivery points during the specified delivery period, barring abnormal movement in interstate commerce.

6 Antidisruptive Practices Authority, 78 FR 31890 (May 28, 2013),


Last Updated: January 15, 2014

RUSSIAN BANK PRESIDENT ORDERED BY CFTC TO PAY $250,000 TO SETTLE FALSE STATEMENT CHARGES

FROM:   COMMODITY FUTURES TRADING COMMISSION 

January 2, 2014

CFTC Orders President of a Russian Bank, Artem Obolensky, to Pay $250,000 Penalty to Settle Charges of Making False Statements to the CFTC During an Investigation

Washington, DC – The U.S. Commodity Futures Trading Commission (CFTC) today entered an Order requiring foreign national Artem Obolensky of Moscow, Russia, to pay a $250,000 civil monetary penalty for making false and misleading statements of material fact to CFTC staff in an interview during a CFTC Division of Enforcement investigation. The Order enforces the false statements provision of the Commodity Exchange Act (CEA), which was added by the Dodd-Frank Act.

Obolensky is President of a Russian bank and co-owner of a private investment fund located in Cyprus that both trade foreign currency futures and options on the Chicago Mercantile Exchange, according to the Order. The CFTC Order finds that Obolensky knowingly made false and misleading statements to CFTC staff on October 13, 2011, regarding a trade in March 2012 Japanese Yen call options contracts between these entities.

According to the Order, Obolensky said: “The two entities pursue different strategies. Pure coincidence that the trades crossed. Very isolated when viewed in the context of all of the trades the bank has placed in markets over the years.”

However, the Order finds that the two entities traded opposite each other more than 182 times and modified their orders repeatedly to ensure that they would match. The Order also finds that Obolensky made the trading decisions for the accounts that traded opposite each other so he knew that the trade CFTC staff asked him about was not a “pure coincidence” or “very isolated.”

CFTC Division of Enforcement Acting Director Gretchen Lowe commented: “Witnesses in CFTC investigations must tell the truth. If they do not, the CFTC will not hesitate to take action to enforce the Dodd-Frank’s prohibition against providing false or misleading information and impose sanctions.”

In addition to the $250,000 civil monetary penalty, the CFTC Order requires Obolenksy to cease and desist from violating the relevant provision of the CEA.

The CFTC Division of Enforcement staff members responsible for this matter are Susan Gradman, Joseph Patrick, Scott Williamson, Rosemary Hollinger, and Richard B. Wagner.