In a March 29, 2018 decision, amended on May 9, 2018, the United States Court of Appeals for the Second Circuit vacated the dismissal of claims against defendants Tower Research Capital LLC (a New York based high-frequency trading firm) and its founder under the Commodity Exchange Act (“CEA”) by five Korean citizens who traded Korea Exchange (“KRX”) futures contracts on the KRX “night market.” Choi v. Tower Research Capital LLC, No. 17-648, 2018 WL 2168642 (2d Cir. 2018). Plaintiffs alleged that defendants engaged in manipulative “spoofing” transactions on the KRX night market—which operated by matching after-hours orders in Korea with anonymous counterparties on CME Globex, an electronic trading platform on the Chicago Mercantile Exchange. The district court dismissed the action on the ground that the CEA did not apply extraterritorially, but the Second Circuit vacated and remanded, finding that plaintiffs’ allegations made it plausible that the trades were “domestic transactions” under Morrison v. National Australia Bank Ltd., 561 U.S. 247 (2010), and so within the reach of the CEA, and further that plaintiffs stated a claim for unjust enrichment.[1]

In Morrison, the Supreme Court held that Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder only reach “transactions in securities listed on domestic exchanges” and “domestic transactions in other securities.” In Absolute Activist Value Master Fund Ltd. v. Ficeto, 677 F.3d 60 (2d Cir. 2012), the Second Circuit defined domestic transactions as those in which either “title passes within the United States” or “irrevocable liability is incurred” within the United States, and that “irrevocable liability” attaches when the parties to the transaction are committed to each other or there was a meeting of the minds. See Choi, 2018 WL 2168642, at *4. Defendants had claimed that because trades on the KRX night market only became final when the KRX opened and the trades were executed, they were not “domestic.” The Court disagreed, holding that plaintiffs’ allegations—that KRX night market trades bind the parties immediately upon matching, that the CME Group viewed matches as binding contracts, and that the CME was domestic—made it plausible that irrevocable liability was incurred in the United States. Id. at *5. Even if liability between the buyer/seller and the KRX might ultimately attach only upon clearing, that did not mean that liability between the buyer and seller did not also attach at matching prior to clearing. Id. at *6.

The Court also rejected the argument that the CEA could not apply to KRX night market transactions because the KRX is not a “domestic exchange.” Comparing the language of the relevant CEA section to the language in Section 10(b) considered in Morrison, the Court distinguished the CEA on the basis that it speaks only of “registered entit[ies],” whereas Section 10(b) applies to the “purchase or sale of any security registered on a national securities exchange.” Id. at *5. Moreover, the Court further concluded that it was irrelevant that the securities here traded on a foreign exchange, as under Morrison, the “domestic transaction” prong is an independent and sufficient basis for applying the Securities Exchange Act if irrevocable liability is incurred in the United States. Id.

Separately, the Court vacated the dismissal of plaintiffs’ unjust enrichment claim, holding that under New York law a claim for unjust enrichment required no “direct relationship” between plaintiff and defendant, and that it did not matter whether the benefit to the defendant was directly or indirectly conveyed, provided only that the connection between plaintiff and defendant was not “too attenuated.” Id. at *7. The Court further noted that, contrary to defendants’ argument, an unjust enrichment claim did not appear duplicative of a CEA manipulation claim because there are “distinct elements” of the CEA claim, such as a showing that it was defendants’ intent to create artificial market prices, that are not needed to state a claim for unjust enrichment. Id. at *7 n.5.

This opinion demonstrates that the application of Morrison’s “domestic transactions test” can be heavily fact-dependent on the mechanics of particular trades and exchanges. 

Choi v. Tower Research Capital LLC