On August 5, 2014, the Federal Energy Regulatory Commission (FERC) issued a Staff Notice of Alleged Violations (Preliminary Notice) stating that FERC’s Office of Enforcement has preliminarily determined, in a non-public investigation, that Houlian (Alan) Chen, two companies owned and controlled by Mr. Chen, and Powhatan Energy Fund, LLC (Powhatan), which had control over Mr. Chen’s trading activity on its behalf during the relevant period, violated FERC’s electric market Anti-Manipulation Rule by engaging in manipulative “up-to congestion trading” in PJM.  Such trading allows a transmission customer to specify the maximum price it is willing to pay for congestion between two physical points on the transmission system (the source and the sink) as a hedge against uncertain congestion prices, i.e., to protect itself from paying uncertain congestion charges by guaranteeing that it would pay no more than the amount reflected in its bids.1  The Preliminary Notice is FERC’s first public action related to the Chen/Powhatan investigation since Powhatan launched its unprecedented and widely-publicized website in March 2014 criticizing FERC’s investigation of the conduct addressed in the Preliminary Notice.

The Preliminary Notice alleges that, between June 1, 2010, and August 3, 2010, Mr. Chen, on behalf of his companies and Powhatan, “engaged in up-to congestion transactions in PJM designed to falsely appear to be spread trades, as a vehicle for collecting” Marginal Loss Surplus Allocation payments—a type of rebate then available for certain types of trades—from PJM.  The Preliminary Notice further alleges that Mr. Chen’s trading strategy “involved placing millions of megawatt hours of offsetting trades between the same two trading points, in the same volumes and the same hours,” representing “an intentional effort to cancel out the financial consequences from any spread between the two trading points while capturing large amounts of MLSA payments.”  This trading strategy allegedly “amounted to wash trading, which has long been prohibited” by FERC.  The Preliminary Notice does not provide any additional details regarding the investigation or the alleged manipulation.

Mr. Chen and Powhatan, through the FERC vs. Powhatan Energy Fund, LLC website, which includes video testimonials from a variety of independent energy industry experts, maintain that the trading activity at issue did not constitute market manipulation but was legitimate statistical arbitrage under the PJM market rules in effect at the time.