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From Securities Regulation Daily, September 4, 2014

Morrison opinion shines light on reach of commodity laws

By Mark S. Nelson, J.D.

The Supreme Court’s Morrison opinion limiting the extraterritorial reach of a federal securities law has equal force when used to interpret provisions in the Commodity Exchange Act (CEA), the Second Circuit said today. According to the majority opinion, CEA Section 22 limits private suits to persons who transact business in the U.S., and the foreign plaintiff here failed to allege a domestic commodities transaction. Circuit Judge Raymond J. Lohier, Jr. dissented to emphasize differences between the CEA and other laws and to object to the majority’s dual system of CEA liability (Loginovskaya v. Batratchenko, et al., September 4, 2014, Jacobs, D.)

Missing investor funds. Thor Group is a New York-based financial services firm that manages programs that invest in commodity futures and real estate around the world. Some of Thor Group’s entities are registered commodity pool operators and commodity trading authorities. Plaintiff Ludmilla Loginovskaya is a Russian citizen who resides in Russia; defendant Oleg Batratchenko is a U.S. citizen who resides in Russia.

According to Loginovskaya’s complaint, which the court took to be true at this stage of the case, Batratchenko, CEO and director of Thor Group, pitched an investment opportunity to her via Russian language brochures and by making representations about unlimited principal withdrawals on advance notice, risk abatement, the experience levels of the group’s futures traders, and that “reputable firms” would audit the programs.

Based on this spiel, Loginovskaya invested $720,000 in a New York account of a Thor Group entity via two investment contracts in the mid-2000s. The funds in the account gradually fell as they were drawn-down to $590,000. In May 2009, Loginovskaya tried to pull the remaining funds out of the account to realize any gains, but she never got them. An account statement later that year said her investment had fallen by half since her request.

Meanwhile, Thor Group allegedly tried to lull investors with various assurances and Batratchenko even sent a letter to investors saying their funds were off-limits while he bemoaned harsh new U.S. regulations and fund documentation woes. Loginovskaya said she later found out that her funds could not be recovered because a Thor Group entity made unsecured loans to Atlant Capital Holdings LLC (unaffiliated with Thor Group) for New York residential real estate deals that had soured.

Loginovskaya sued Thor Group, Batratchenko and others in January 2012 for alleged CEA violations. The district court dismissed the case because Loginovskaya failed to state a claim since she did not allege a domestic transaction as required by the Supreme Court’s 2010 Morrison opinion. The Second Circuit affirmed, but with one judge dissenting.

Securities laws show the way. The Second Circuit majority applied Morrison and quickly found that Congress, in drafting the CEA, did not clearly override the presumption against extraterritorial application. This was true, said the court, when the CEA’s silence on extraterritorial reach is viewed generally and by looking directly at Sections 22 and 4o.

But this finding did not end the Morrison inquiry. The court next had to ask how the Morrison presumption impacts specific CEA provisions given the concerns Congress focused on. The answer, said the court, starts with CEA Section 22 because it lists the four ways private suits can be pursued under the commodity laws.

The majority noted that while Morrison dealt with federal securities laws, these types of decisions can show the way in the commodities arena too. Here, the court said CEA Section 22 is focused on transactions in the U.S. As a result, no private suit under the CEA can be brought unless it falls within one of the four items listed in that section.

Lawyers for Loginovskaya had urged the court to distinguish substantive laws from procedural ones like CEA Section 22. But the majority said Morrison applied broadly to “statutes” without making any distinctions based on a law’s substantive or procedural bent. The Supreme Court’s 2013 Kiobel opinion backs this view, said the court, but a pre-Morrison Ninth Circuit opinion cited does not. Judge Lohier filed a dissent challenging the majority’s use of Kiobel.

The majority also declined Loginovskaya’s invitation to further reconcile the seeming differences between suits private persons may bring and ones that government regulators may bring.

Ultimately, the majority would characterize its holding this way: “To summarize, the CEA creates a private right of action for persons anywhere in the world who transact business in the United States, and does not open our courts to people who choose to do business elsewhere.”

Russian transaction. The majority’s finding that Morrison applies to the CEA led it to mull the sufficiency of Loginovskaya’s complaint. The case could go on only if Loginovskaya alleged a U.S. transaction.

The majority leveraged its early post-Morrison opinion in Absolute Activist for guidance. There, the court said that a plaintiff can show a domestic transaction by alleging that title to a security was transferred in the U.S. or that the parties incurred irrevocable liability in the U.S. (e.g., the buyer became liable to take or pay for a security, or the seller became liable to deliver a security).

According to the complaint, Loginovskaya’s suit was premised on her buying, selling, or placing an order to buy or sell, a commodity pool interest (the court did not pass on her claim based on the receipt of trading advice because those allegations were defective).

The majority first said title to Loginovskaya’s interest could not have been transferred in the U.S. because she never alleged that a transfer occurred. The majority explained that Loginovskaya bought an interest in one of Thor Group’s entities, which in turn invested funds in various “programs” on its clients’ behalf, without transferring title to investors like Loginovskaya.

The majority also rejected Loginovskaya’s argument that she or the Thor Group defendants incurred irrevocable liability in the U.S. The majority said Loginovskaya’s investment deal was essentially signed, sealed and delivered in Russia: the parties resided in Russia; Thor Group provided sales materials in Russian; and Loginovskaya’s investment contracts were signed in Russia.

The court likewise found the incorporation of the relevant Thor Group entity in New York unpersuasive because, citing Absolute Activist, a party’s residency or citizenship has no bearing on where a transaction occurred. The majority said a contrary outcome would subvert the Supreme Court’s corrective Morrisonholding.

Said the majority in a footnote: “Taken to its logical conclusion, any transaction with a United States corporation would constitute a domestic transaction. We reject this argument because it would expand Morrison’s transaction test beyond the scope of the ‘conduct and effects’ test with which Morrison dispensed.”

Moreover, Loginovskaya’s wire transfers to New York were needed acts, but not themselves a U.S. transaction (the majority had already found the transaction occurred in Russia). A safe harbor provision in Loginovskaya’s investment contracts for withdrawals shortly after an initial transfer was likewise unavailing.

Lastly, the majority said it need not deal with Loginovskaya’s arguments about the extraterritorial reach of CEA Section 4o because the court decided her appeal under Section 22. The majority noted that Congress may already have answered this question by letting persons bring administrative complaints about registered persons directly to the CFTC.

Plaintiff never had a chance. Judge Lohier dissented because he thought the majority erred in its application of Morrison to CEA Section 22. Judge Lohier noted that Loginovskaya “in a sense never had a chance” in her dealings with an allegedly sly scammer, whose assertions may have been easily debunked by a more knowledgeable investor or by government regulators.

According to Judge Lohier, the majority opinion added “an extra, unfounded layer of protection” for would-be fraudsters. He disagreed with the majority’s characterization of Morrison as treating substantive and procedural laws alike. By contrast, Judge Lohier said the Supreme Court’s 2013 Kiobel opinion backs a distinction between these types of laws and would apply Morrison only to laws regulating conduct. Judge Lohier described the law at issue in Kiobel as a hybrid that had both jurisdictional and conduct-regulating aspects. He noted that CEA Section 22 is not a conduct-regulating law.

Judge Lohier also said today’s majority opinion lets stand a two-speed system of CEA liability that depends on the identity of the plaintiff: private plaintiffs outside the U.S. are treated differently from private parties (and the government) who are located in the U.S. The judge said the Second Circuit’s 2013 Vilaropinion (the Supreme Court declined to rule) said “a dual regime” is invalid unless it is what Congress wanted.

Judge Lohier noted the majority’s appropriate “instinct” that persons outside the U.S. may still go directly to the CFTC under CEA Section 14 to redress violations, but he worried that the majority’s holding could be applied to this section too.

As for CEA Section 4o, Judge Lohier would find Loginovskaya’s allegations sufficient because of the many New York ties. For example, the diversion of Loginovskaya’s funds in New York would comport with the Supreme Court’s 2005 Pasquantino opinion. He also noted that Section 4o lacks an “in connection with” a transaction requirement, unlike other CEA provisions and similar securities laws. The judge also said the majority’s opinion failed to acknowledge the CEA’s broad antifraud mandate.

The case is No. 13-1624-cv.

Attorneys: Christopher M. Egleson (Akin Gump Strauss Hauer & Feld LLP) for Ludmilla Loginovskaya. Judith M. Wallace (Carter Ledyard & Milburn LLP) for Oleg Batratchenko, Thor United Corp., Thor United Corp. [Nevis], Thor Asset Management Inc., Thor Real Estate Management LLC, Thor Opti-Max LLC, Thor Capital LLC, Thor Futures LLC, Thor Realty LLC, Thor Guarantee Real Estate Fund, Ltd. [BVI], Thor Real Estate Master Fund, Ltd., Thor Optima LLC, Thor Realty Holdings LLC, John Does 1-20, Tatiana Smirnova, Thor Opti-Max Fund, Ltd.

Companies: Thor United Corp.; Thor United Corp. (Nevis); Thor Asset Management Inc.; Thor Real Estate Management LLC; Thor Opti-Max LLC; Thor Capital LLC; Thor Futures LLC; Thor Realty LLC; Thor Guarantee Real Estate Fund, Ltd. (BVI); Thor Real Estate Master Fund, Ltd.; Thor Optima LLC; Thor Realty Holdings LLC; Thor Opti-Max Fund, Ltd.; Atlant Capital Holdings LLC.

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