Is a Futures Order an “Implied Representation” to the Market?
As the Sales Specialist for TT’s surveillance software TT® Score, I am frequently asked by customers and prospects what the “hot topics” are in the compliance world and what the regulators will be focused on next. While I am always happy to provide my opinions on such matters, we at TT thought that it would also be valuable to provide a periodic blog series that includes insights and perspectives about legal and compliance topics from several different industry experts.
For our first installment, we’re featuring commentary from K&L Gates partners Cliff Histed and Steve Humenik about the criminal spoofing case, United States v. James Vorley and Cedric Chanu. The case is noteworthy as it is only the second time traders have been convicted in a criminal trial for spoofing-related conduct, and the first time a jury’s guilty verdict was based on the wire fraud statute in such a case. Cliff is a former federal prosecutor and a former Deputy Chief of the Securities and Commodity Fraud Section of the U.S. Attorney’s Office in Chicago. In that position, he supervised the investigation and indictment of the first criminal spoofing case. Cliff is also a former supervisory enforcement lawyer with the CFTC and former in-house counsel for BP’s North American oil and refined products trading business. Steve began his career at the CFTC in the Enforcement Division and worked on market manipulation cases, including cases that led to the development of what we know today as spoofing. Steve also served as a Special Counsel and Policy Advisor to former CFTC Commissioner Scott O’Malia during the development of the Dodd-Frank legislation. Steve was also the general counsel and chief regulatory officer of an interest rate swap futures exchange and has been in private practice for the past eight years.
Is an order placed in a futures market an “implied representation” by the trader to the rest of the market that the trader intends to not cancel the order? And if so, is a trader guilty of criminal fraud if the “implied representation” is not true? On September 25, 2020, a jury in the Chicago federal courthouse answered “yes” to both questions, and found James Vorley and Cedric Chanu guilty of wire fraud (not spoofing) for allegedly engaging in spoofing-type conduct. The judge recently denied their post-trial motions for acquittal and for a new trial.
The convictions of Vorley and Chanu mark only the second trial in which traders were convicted of crimes in connection with “spoofing” behavior-”bidding or offering with the intent to cancel the bid or offer before execution.”(1) The first trader to be convicted of this conduct was Michael Coscia, who was convicted in the Chicago federal courthouse of spoofing and commodity fraud nearly five years earlier. Two other criminal spoofing trials resulted in defense victories.(2) The government is two for four.
The convictions of Vorley and Chanu invite comparison to the Coscia case. There the government charged Coscia with six counts of spoofing and also with six counts of commodity fraud (not wire fraud) for the same spoofing events. The commodity fraud statute makes it unlawful to:
1. defraud any person in connection with any commodity for future delivery… or
2. obtain, by means of false or fraudulent pretenses, representations, or promises, any money or property in connection with the purchase or sale of any commodity for future delivery.(3)
The indictment charged Coscia with both prong one and prong two of the statute but under settled law only needed to prove that he violated one of the two prongs. An open question in the Coscia case was whether an order placed in the market was a “representation or promise” such that an order a trader intended to be canceled could violate prong two. Intentionally dodging that issue, just before the Coscia trial began, the government filed a “Notice of Intent to Narrow Proof” in which it told the defense and court that it was proceeding only on prong one, thereby avoiding the “is an order a representation?” issue entirely. The government set out to prove only that Coscia had engaged in a scheme to defraud. At the end of the trial, the judge expressly instructed the jury that it did not need to find that a false statement had been made in order to convict. The jury returned verdicts of guilty on all counts after less than two hours of deliberation.
The statute of limitations for spoofing is five years, for commodity fraud it is six years, and for wire fraud it is 10 years (but only if the fraud affected a financial institution). Because the conduct in Vorley was too old to be charged as spoofing (and most of it was too old to be charged under commodity fraud), the government charged Vorley and Chanu with wire fraud. The wire fraud statute was enacted 50 years before the commodity fraud statute. The wire fraud statute says:
Whoever, having devised or intending to devise any scheme or artifice to defraud, or for obtaining money or property by means of false or fraudulent pretenses, representations, or promises, transmits or causes to be transmitted by means of wire…communication in interstate or foreign commerce, any writings, signs, signals, pictures, or sounds for the purpose of executing such scheme or artifice, shall be fined under this title or imprisoned not more than 20 years, or both.(4)
Though this statute does not contain two separate and specific prongs like § 1348 does, it contains essentially the same two offenses separated by the word “or.”
Before trial, Vorley and Chanu moved to dismiss the indictment, arguing that it did not allege that they had made a false statement, that orders did not implicitly represent to the market that the trader intended the orders to be filled, and that the traders did not have an affirmative duty of disclosure to the market. Instead of following the Coscia prosecution playbook (retreating from the “false statement” theory and relying only on the “scheme to defraud” theory), the government doubled down. They argued that both the “scheme to defraud” and “false statement” prongs applied. They went further and argued that:
The wire fraud statute-unlike the spoofing statute…-criminalizes schemes and artifices to defraud, including deceptive, communicative conduct that carries an implied misrepresentation or a misleading half-truth. Here, the Indictment adequately alleges that the Defendants placed orders (the “Fraudulent Orders”) that constituted false or fraudulent “representations” and/or “pretenses” with the intention of inducing other traders into executing transactions with the Defendants (against their “Primary Orders”) on the basis of a misleading picture of supply and demand in the precious metals futures market. The Government will present evidence at trial that the Defendants knew the Fraudulent Orders carried an implied misrepresentation as to their intent to trade the order, and that the Defendants placed the Fraudulent Orders precisely because the implied misrepresentations they carried could-and did, in fact-trick other traders.(5)
The judge agreed with the government and denied the motion to dismiss.(6) The case proceeded to trial in September 2020 and resulted in convictions. The judge denied the defendants’ motions for acquittal and for a new trial in a lengthy opinion that addressed many defense challenges to the convictions, including the arguments about whether futures orders constitute implied representations.
It is likely that Vorley and Chanu will appeal and ask the Seventh Circuit Court of Appeals to revisit the scope of the wire fraud statute. The issue is novel, and important-does a trader who enters an order to buy or sell a futures contract in an anonymous electronic marketplace implicitly represent to the market that the trader intends for that order to be filled? And if so, is it criminal fraud (not just spoofing) for a trader to enter such an order knowing that (s)he intends to cancel the order before execution? In Vorley, the judge and jury have answered “yes” to both questions.
The issue is critically important because the law should give traders clear guidance about when order entry crosses the line into criminal fraud. It is also important because there are two more criminal spoofing trials scheduled to occur in Chicago this year. The same team that prosecuted Vorley and Chanu will prosecute those other two cases, and will use many of the same witnesses. We are watching to see how these important issues are presented and proven to the juries in those cases.
(1) 7 U.S.C. § 6c(a)(5)©.
(2) Andre Flotron was acquitted of conspiracy to commit commodity fraud in federal court in Connecticut. The government dismissed its case against Jitesh Thakkar after a federal jury in Chicago deadlocked on the charge of aiding and abetting spoofing by Navinder Sarao. The judge in that case previously dismissed the charge of conspiracy to commit spoofing with Sarao.
(3) 18 U.S.C. § 1348 (emphasis added).
(4) 18 U.S.C. § 1343 (emphasis added).
(5) Vorley, №18-cr-00035, Government’s Memorandum in Opposition to the Defendants’ Motion to Dismiss, ECF №83, pp. 1–2 (N.D. Ill. Jan. 5, 2019) (emphasis added).
(6) U.S. v. Vorley, 420 F.Supp.3d 784 (N.D. Ill. Oct. 21, 2019).
Posted by: Jay Biondo, Sales Specialist — Surveillance
Originally published at https://www.tradingtechnologies.com on May 4, 2021.