Cunningham Commodities, LLC, a futures commission merchant registered with the Commodity Futures Trading Commission, and Salvatore Russo, its controller and head accountant, settled CFTC administrative charges for allegedly not immediately notifying the Commission when Mr. Russo recognized the firm’s failure one night to hold (1) its required minimum amount of funds in its segregated customer account and (2) its own targeted amount of its own funds in its customer segregated account as a buffer. The firm's segregated funds inadequacy apparently was caused by a clerical error.

The firm also settled charges related to its alleged failure to file with the Commission required reports of certain open positions for large traders for almost six months on one occasion, and two weeks on another occasion.

The respondents both agreed to pay one fine of US $150,000 to resolve the CFTC’s enforcement action.

According to the CFTC, on March 10, 2014, a staff accountant failed to transfer US $5 million in loaned funds from Cunningham’s house account to its customer segregated account. As a result, the firm incurred a customer segregated funds’ deficiency in excess of US $3.4 million, and failed to maintain the firm’s targeted amounts of its own funds in segregation (US $600,000) in excess of the firm’s minimum customer segregated funds’ requirement. (Under applicable CFTC rules, FCMs are required to maintain a certain minimum calculable amount of funds equaling certain of their obligations to their customers, as well as a certain minimum amount of their own capital – known as their targeted residual interest – in specially designated customer segregated accounts. Click here for an overview of these requirements.)

When Mr. Russo observed this error the next morning, May 11, 2014, he instructed the same staff accountant to have Cunningham’s bank transfer the necessary funds from the house to a customer segregated account “as of” the prior business day. The bank made this transfer. However, on the same day, Mr. Russo did not cause the firm to file notice of its regulatory breach with the CFTC or report this matter to the firm’s chief compliance officer.

On May 11, the Chicago Mercantile Exchange observed this error, apparently through a comparison of the firm’s formal report of customer segregated funds filed with it, and with bank statements of the firm’s customer segregated accounts filed directly with it by depositories holding its customers’ funds.

Cunningham’s CCO was not aware of this matter when contacted by the CME on March 11, 2014. The following day, Cunningham notified the CFTC of its March 10 deficiencies. The CFTC claimed this notice filing was delinquent.

In addition, the CFTC alleged that, from November 27, 2013, to May 14, 2014, and from July 3 to 15, 2014, Cunningham failed to include certain positions in its required reports to the CFTC of positions of its large traders. During the earlier period, the firm excluded silver contract positions, and during the later period failed to include soybean option positions. According to the CFTC, the firm said the reporting problem was attributable to the failure of an outside software vendor to properly set up the relevant contracts for reporting. (Under applicable CFTC rules, FCMs are obligated to daily report to the CFTC positions in excess of certain levels of its large traders – known as reportable positions (click here for an overview of the CFTC’s large trader reporting program)).

The respondents neither admitted nor denied any of the CFTC’s findings or conclusions in agreeing to the settlement.

Compliance Weeds: CFTC Regulation 1.12 requires that FCMs provide notice to the CFTC on a heightened schedule from “immediately” to within two business days, depending on the specific subsection, of certain specified violations of CFTC rules. Immediate notice to the CFTC is required, for example, when an FCM’s adjusted net capital falls below minimum required amounts or when the amount of funds it carries in its customer segregated accounts is less than required by the applicable regulation. (Click here to access CFTC Regulation 1.12; clickhere to access a convenient chart prepared by the National Futures Association enumerating CFTC’s required notice and other filings.) Any notice required to be filed with the CFTC by an FCM must also be filed with the firm’s designated self-regulatory organization, as well as with the Securities and Exchange Commission if the FCM is also registered with the SEC as a broker-dealer. CFTC Regulation 1.12 also includes some notice filing obligations for introducing brokers and self-regulatory organizations. Every notice filled under CFTC Regulation 1.12 must include a discussion of how the reporting event originated and what steps have been, or are being, taken to fix the reporting event. When regulated entities discover potentially reportable events they should be conscious of the time frames required for reporting and not unnecessarily delay a filing while researching the potential issue. On the other hand, care should be taken to avoid filing information that has to be repeatedly amended.

My View: The CFTC sends a clear message in bringing this enforcement action against both the FCM and its controller that it will name individuals who it believes are responsible for a firm’s wrongdoing, even if seemingly done in good faith. Here, the FCM’s controller saw that a required transfer of funds had not been made when required but fixed the mistake by instructing the firm’s bank to transfer the funds “as of” the time the correct transfer should have been made. However, in the CFTC’s view, a retroactive fix, while a fix, still gave rise to a reportable event. Indeed, in this enforcement action, the firm did not sue respondents because Cunningham breached its customer segregated funds’ requirements, but solely for not immediately reporting the customer segregated funds and residual interest breaches when they were discovered. Fortunately, the CFTC demonstrated wise discretion in not also naming Cunningham’s CCO in this matter.