On July 22, 2013, the Commodity Futures Trading Commission (the “Commission” or “CFTC”) issued an order assessing $2.8 million in civil penalty and disgorgement fees against Panther Energy Trading LLC and its principal Michael J. Coscia (the “Respondents”) for engaging in the disruptive trading practice of spoofing.1 This is the first time the Commission has assessed a civil penalty for a violation of the Dodd-Frank Act‟s prohibition against spoofing, as set forth in new section 4c(a)(5) of the Commodity Exchange Act (“CEA”). This case implements the Commission‟s interpretive guidance that spoofing violations do not require a manipulative intent, although they do require at least “some degree of intent” to “cancel a bid or offer before execution.”2
In 2011, Respondents traded eighteen futures contracts on four exchanges owned by the CME Group using a computer algorithm that placed bids and offers and subsequently canceled those bids and offers before execution (i.e., “spoofing”). For example, Respondents would place a small order to sell oil futures at a low price followed immediately by larger orders to buy oil futures at progressively higher prices. The large buy orders created the appearance of buying interest which suggested that prices would rise, thereby increasing the likelihood that market participants would buy or fill the lower priced sell order. After the sell order was filled, the computer algorithm cancelled the buy orders and repeated the process in reverse (i.e., small buy order followed by large sell orders). Respondents accumulated approximately $1.4 million in this manner.
The Commission found that Respondents‟ trading practice violated section 4c(a)(5)(C) of the CEA, which makes it “unlawful for any person to engage in any trading, practice, or conduct on or subject to the rules of a registered entity that . . . is, is of the character of, or is commonly known to the trade as, „spoofing‟ (bidding or offering with the intent to cancel the bid or offer before execution).”3 The Commission “interprets a CEA section 4c(a)(5)(C) violation as requiring a market participant to act with some degree of intent, or scienter, beyond recklessness to engage in the „spoofing‟ trading practices prohibited by CEA section 4c(a)(5)(C).”4 When distinguishing between spoofing and legitimate trading activities, the Commission “intends to evaluate the market context, the person‟s pattern of trading activity . . . , and other relevant facts and circumstances.”5 The Commission determined that in violation of section 4c(a)(5)(C), Respondents intended to cancel bids and offers prior to execution; designed a computer algorithm to create the impression of market interest and to increase the likelihood of filling their smaller orders, as described above; and, actually used the computer algorithm to cancel orders prior to execution.6 Note that the Commission did not find that Respondents intended to manipulate any markets.
The Commission accepted a settlement in which Respondents agree to pay a $1.4 million civil penalty and a $1.4 million disgorgement fee, and agree to a one-year prohibition from trading on any CFTC-registered entity.7
In the past, the CFTC would have been required to prove a manipulative intent. Now, under its new authority prohibiting disruptive practices, the CFTC is required to meet the much lower burden of proof that parties acted with “some degree” of intent ONLY to cancel bids or offers before execution (i.e., not accidental). Given this much lower burden of proof standard, we expect to see additional CFTC actions under its new authority prohibiting disruptive practices such as violating bids and offers, disregarding the orderly execution of transactions during the closing period, and spoofing.