Gelfman Blueprint, Inc., and Nicholas Gelfman, its chief executive officer and head trader, were sued by the Commodity Futures Trading Commission for running a Ponzi scheme related to Bitcoin. However the CFTC's allegations regarding the defendants' handling of Bitcoin pertained to Bitcoin alone, not futures or swaps based on Bitcoin.
According to the CFTC’s complaint filed in a federal court in New York City, from at least January 2014 through at least January 2016, the defendants solicited approximately US $600,000 from at least 80 customers to trade Bitcoin in a pooled fund using a proprietary algorithm called “Jigsaw.” However, charged the CFTC, the defendants misappropriated most of this money for their own use and rarely traded for customers The defendants furthered their alleged fraud, claimed the CFTC, by making false and misleading statements to potential and actual investors by, among other things, overstating customers’ balances, falsely representing trading performance and activity, and falsely representing past performance. The CFTC seeks a permanent injunction against the defendants, disgorgement and fines, as well as other relief.
Legal Weeds: This CFTC complaint has significant ramifications beyond its four corners. It represents a powerful statement by the Commission that it will exercise jurisdiction over cryptocurrencies when there is potential fraud – even if the fraud does not involve derivatives based on cryptocurrencies.
The genesis of this position is grounded in the Commodity Exchange Act – the law under which the CFTC derives its authority.
According to the CEA, a commodity is any of certain enumerated traditional commodities (e.g., wheat, cotton, corn) and “all other goods and articles” (emphasis added) except onions and motion picture box office receipts. In 2014, Timothy Massad, then chairman of the CFTC, declared that cryptocurrencies were commodities under the CEA, and the CFTC subsequently brought two enforcement actions against persons for engaging in activities requiring registration under the CEA without being registered. In July, the CFTC also approved the registration of LedgerX as a swap execution facility and derivatives clearing organization to handle fully collateralized swaps potentially settling in cryptocurrencies. (Click here for general background regarding these matters in the article “LedgerX Approved by CFTC as First Derivatives Clearing Organization for Fully Collateralized Swap Contracts Potentially Settling in Bitcoin” in the July 30, 2017 edition of Bridging the Week.)
The CFTC brought its current action under a relatively new provision of law (enacted as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act) and Commission regulation that prohibits any person from using a manipulative or deceptive device or contrivance in connection with any “contract for sale of any commodity in interstate commerce” – not solely in connection with swaps or a commodity for future delivery on or subject to the rules of any registered entity. (Click here to access CEA Section 6(c)(1), 7 U.S.C. §9(1) and here for CFTC Rule 180.1(a).) The CFTC has previously employed these legal provisions in response to a wide variety of fact patterns from their first use in the JP Morgan “London Whale” episode to allegations of illegal off-exchange metals transactions, insider trading, claims of more traditional manipulation and attempted manipulation (without endeavoring to show an artificial price) and allegations of spoofing. (Click here for background in the article, "International Bank and Affiliates Settle Two CFTC Enforcement Actions for Alleged Benchmarks Manipulation" in the June 5, 2016 edition ofBridging the Week.)
The CFTC's willingness to use these provisions in response to a fact pattern related to a commodity only – Bitcoin –, and not to futures or swaps based on Bitcoin, is a powerful statement about its view of its own role in the cryptocurrency arena going forward.