Category: Regulatory Review

Regulatory Review for Week Ended October 13, 2023 (CEO of Crypto Platform Charged with Fraud and CPO Registration Failures)

Post author By Blank Rome LLP
Post date October 13, 2023

Andrew P. Cross —

This week’s BR Derivatives Report Regulatory Review focuses exclusively on a complaint filed by the U.S. Commodity Futures Trading Commission (“CFTC”) on October 12, 2023 (the “Complaint”) against the chief executive officer of a now-bankrupt company alleging fraud and commodity pool operator registration failures in connection with the operation of a digital asset lending platform.

CFTC Charges CEO of Digital Asset Platform with Fraud and CPO Registration and Compliance Related Oversight Failures

CFTC Press Release 8805-23

Type of Market Participant Involved

Unregistered Commodity Pool Operator (“CPO”)

Summary

On October 12, 2023, the CFTC filed a complaint in the U.S. District Court for the Southern District of New York against the former chief executive officer (“CEO”) of several now-bankrupt companies affiliated with a public company listed on the Toronto Stock Exchange that operated a digital asset trading and custody platform (the “Platform”). For purposes of this summary, we refer to the public company and its affiliates collectively as the “Company.”

In short, the CFTC’s complaint alleges that the CEO and the Company fraudulently solicited participation in and operated an unregistered commodity pool in violation of registration and compliance requirements under the Commodity Exchange Act (the “CEA”). In support of its positions, the CFTC specifically alleged the following key facts:

The Platform allowed customers in the United States to buy, sell, trade, and store various digital asset commodities, including Bitcoin (“BTC”) and USD Coin (“USDC”);
The CEO and the Company portrayed the Company as a safe and trustworthy custodian of the customers’ digital assets;
The Company promised customers a high-yield return of as high as 12 percent via a “Rewards Program” for certain digital assets stored on the Platform;
To fund the Rewards Program, the Company pooled billions of dollars’ worth of customer BTC and USDC and, in turn, conveyed this customer property to high-risk third parties, including a hedge fund (referred to as “Firm A” in the complaint) that had the ability to invest in CFTC-regulated commodity interests, including digital asset derivatives;
Despite offering its customers the promise of operating with the “same level of rigor and trust” as traditional financial institutions, the CEO and the Company transferred pooled customer property to Firm A without conducting any meaningful due diligence on Firm A;
Firm A ultimately filed for bankruptcy, defaulted on its obligations to the Company, and failed to repay any of digital asset commodities previously transferred to it by the Company; and
The Company, in turn, filed for bankruptcy on July 5, 2023, yet during the period of time leading up to that filing, the CEO and the Company made public statements that downplayed the Company’s exposure to Firm A and gave false assurances about the Company’s own financial strength.

Commodity Pool Operators Commodity Trading Advisors Mutual Funds and Investment Advisers Private Funds Regulatory Review

Regulatory Review for Week Ended October 6, 2023 (Attention CTAs and CPOs Relying on CFTC Regulation 4.7)

Post author By Blank Rome LLP
Post date October 9, 2023

Andrew P. Cross —

This week’s BR Derivatives Report Regulatory Review focuses exclusively on a rule proposal issued by the U.S. Commodity Futures Trading Commission (“CFTC”) on October 2, 2023.

CFTC Rule Proposal to Amend Regulation 4.7

CFTC Press Release 8802-23

Type of Market Participant Involved

Registered Commodity Pool Operators (“CPOs”) and Commodity Trading Advisors (“CTAs”) relying on CFTC Regulation 4.7

Summary

The Commodity Exchange Act (“CEA”) regulates the entity or, in some cases, individuals responsible for the operation of an investment fund. In the language of the CEA, such an entity or individual is referred to as a “commodity pool operator” or CPO, while the investment fund itself is referred to as the “commodity pool.”

Similarly, the CEA regulates an investment adviser that provides advice for compensation or profit with respect to the purchase and sale of certain derivatives and other leveraged types of investments. Again, in the language of the CEA, such an adviser is a “commodity trading advisor” or CTA, while the derivatives and investments are called “commodity interests.”

The general regulatory architecture under the CEA involves the registration and substantive regulation of CPOs and CTAs through a myriad of disclosure, reporting, and recordkeeping obligations that apply to their investment and solicitation activities. Notably, the CFTC has issued its Regulation 4.7 to provide certain qualifying CPOs and CTAs relief from most of these obligations.

Derivatives Compliance Regulatory Review Swap Dealers

Regulatory Review for Week Ended September 29, 2023

Post author By Blank Rome LLP
Post date September 30, 2023

Andrew P. Cross —

This week’s BR Derivatives Report Regulatory Review highlights several regulatory actions issued by the U.S. Commodity Futures Trading Commission (“CFTC”).

1) CFTC Announcement Issued 9/25/2023

CFTC Press Release Number 8783-23

Type of Market Participant Involved

All market participants (registrants and non-registrants) and any interested parties, including financial educators, innovators, and regulators

Summary

The Commodity Futures Trading Commission’s Office of Customer Education and Outreach (“OCEO”) and Office of Technology Innovation (“OTI”) announced Technology and Fraud: Stopping Scams in a Digital World, a virtual event on Wednesday, October 4, at 12:00 p.m. Eastern, as part of World Investor Week (October 2–9).

OCEO is dedicated to helping customers protect themselves from fraud or violations of the Commodity Exchange Act (“CEA”) through the research and development of effective financial education materials and initiatives.

OTI serves as the CFTC’s financial technology innovation hub, driving change and enhancing knowledge through innovation, consulting/collaboration, and education.

Commentary

Announcements like these rarely occur in a regulatory vacuum, and this announcement was no exception. It was followed by no less than 10 separate enforcement actions related to fraud and customer protection issues:

CFTC Charges Four Individuals and a Seychelles Company with Operating a Fraudulent Digital Assets Trading Scheme and Misappropriation

CFTC Charges Eight Entities for Fraudulently Claiming CFTC Registration

CFTC Charges Florida Man and His Company in Connection with a Foreign Currency Fraudulent Solicitation Scheme

CFTC Orders a Colorado Commodity Pool Operator and Its Owner to Pay More Than $475,000 for Fraud Violations

CFTC Charges Unregistered Pool Operator and its Owner with $7.1 Million Fraud

The CFTC and California Department of Financial Protection & Innovation Charge Los Angeles Area Precious Metals Dealer in $21 Million Fraudulent Scheme

Miami Federal Court Enters Preliminary Injunction Order Against Certified Public Accountant in Connection with $58 Million Foreign Currency Fraud and Misappropriation Scheme

CFTC Charges Mosaic Exchange Limited and Sean Michael with a Fraudulent Solicitation and Digital Asset Commodities Trading Scheme

CFTC Charges Florida Man with Forex and Binary Options Fraud and Misappropriation

CFTC Charges Dallas and Los Angeles Area Precious Metals Dealers in Ongoing Fraud Scheme Garnering Over $7 Million from Retirement Accounts

Bottom Line

This week’s flurry of enforcement activity is a good reminder that one of the enumerated statutory purposes of the CEA is to protect all market participants from fraudulent or other abusive sales practices and misuses of customer assets. 7 U.S.C. § 5

Derivatives Compliance Policy and Research Regulatory Review Swap Dealers

Regulatory Review for Week Ended September 22, 2023

Post author By Blank Rome LLP
Post date September 27, 2023

Andrew P. Cross —

This week’s BR Derivatives Report Regulatory Review highlights five regulatory actions issued by the U.S. Commodity Futures Trading Commission (“CFTC”).

1) CFTC Enforcement Order Issued 9/20/2023

CFTC Docket No. 23-44

Type of Market Participant Involved

Swap Dealer (“SD”)

Summary

Registered SD failed to:

Implement procedures to ensure that its pre-trade mid-market marks (“PTMMMs”) were accurate (i.e., consistent with the SD’s internal pricing methodologies);
Adequately train and monitor its associated persons regarding PTMMM disclosure requirements; and
Timely provide PTMMMs to counterparties on numerous occasions.

The order imposed a penalty of $650,000 and requires the FCM to remediate the compliance oversight failures.

Commentary

Although many non-SD counterparties do not find the receipt of pre-trade marks to be particularly valuable, SDs are nonetheless obligated to provide counterparties with these marks and supervise the process for doing so.

Bottom Line

SD external business conduct standards (“EBCs”) are a perennial source of enforcement orders—and penalties—for registered SDs. Accordingly, every market participant that may be required in the future to register—or decide to voluntarily register—as a swap dealer would do well to consider the costs of not only EBC compliance oversight but also what seems to be costs of inevitable compliance oversight failures.