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From Securities Regulation Daily, April 17, 2015

First criminal prosecution of commodity futures ‘spoofing’ will proceed

By Lene Powell, J.D.

The Northern District of Illinois gave the green light to the first criminal case prosecuting commodity futures “spoofing,” a specific form of manipulation added by the Dodd-Frank Act. The court declined to dismiss the indictment of a high-frequency trader, saying the statutory provisions prohibiting spoofing are not overly vague. The CFTC previously imposed a civil fine against the trader for the same conduct (U.S. v. Coscia, April 16, 2015, Leinenweber, H.).

Background. A long-time commodity futures trader, Michael Coscia, was the manager and sole owner of Panther Energy Trading LLC, a high-frequency futures trading firm. In 2011, Coscia began using a strategy in which, in a matter of milliseconds, an automated software program entered and canceled a series of progressively larger orders. The software then reversed the process, reselling the low-price contracts purchased at a high price or buying back the high-price contracts sold at a low price.

Allegedly, the strategy aimed to create a false impression of market demand, moving prices in Coscia’s favor. Prosecutors said Coscia reaped about $1.5 million from the strategy over about three months.

New form of manipulation. As added by the Dodd-Frank Act, the anti-spoofing provision in Section 4c(a)(5) of the Commodity Exchange Act (CEA) prohibits “any trading, practice, or conduct … of the character of, or is commonly known to the trade as ‘spoofing’ (bidding or offering with the intent to cancel the offer or bid before or execution).”

Between 2011 and 2013, the CFTC issued proposed and final interpretative guidance on the meaning of the term, saying that orders and cancellations would not be considered spoofing if submitted in good faith. The guidance also suggested factors for distinguishing between spoofing and legitimate trading and gave specific examples of conduct that would be considered spoofing.

Civil and criminal charges. In July 2013, Coscia was fined by the CFTC and U.K. Financial Conduct Authority for violating anti-spoofing provisions. Coscia was banned for one year from trading on any CFTC-registered entity for one year. At the time, former CFTC Commissioner Bart Chilton said that Coscia’s conduct warranted a longer ban, saying a one-year ban might simply be a “nice sabbatical.”

In October 2014, Coscia was indicted for six counts of spoofing under the CEA and six counts of criminal commodities fraud under 18 U.S.C. §1348. According to prosecutors, it was the first federal criminal prosecution of spoofing.

Not impermissibly vague. Coscia moved to dismiss the indictment, arguing that there is no commonly understood meaning of “spoofing” in the world of futures trading and that the anti-spoofing provisions were unconstitutionally void for vagueness. He said at the time he was charged, the only available interpretation of the statute was the CFTC’s initial proposed, non-binding guidance and that his conduct was not covered by the examples.

Without considering whether the charges were established by the evidence, the court said the statute was not unconstitutionally vague as applied to Coscia’s conduct. The indictment’s description of the entering and cancelling of large orders, allegedly without intent to fill them, tracked the CEA statutory language. As to the criminal provision, Coscia’s narrow interpretation was inconsistent with its broad wording and at least one judicial interpretation, said the court.

The court denied Coscia’s motion to dismiss the indictment, so the case will proceed. With six counts each of commodities fraud and spoofing, Coscia faces the possibility of serious penalties. Each count of commodities fraud carries a maximum sentence of 25 years in prison and a $250,000 fine, and each count of spoofing carries a maximum penalty of 10 years in prison and a $1 million fine.

The case is No. 14 CR 551.

Attorneys: Steven R. Peikin (Sullivan & Cromwell LLP) for Michael Coscia. Renato T. Mariotti, United States Attorney's Office, for the USA.

MainStory: TopStory CommodityFutures Enforcement FraudManipulation IllinoisNews

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