Developments in Securities Regulation, Corporate Governance, Capital Markets, M&A and Other Topics of Interest. MORE

Last week the government handed down its first criminal indictment for allegedly engaging in “spoofing” and the Commodity Futures Trading Commission settled with Eric Moncada for spoofing. Spoofing is a form of trading in which traders place orders in the form of “bids” to buy or “offers” to sell a futures contract with no intent to execute the orders — with the intent to cancel the bid or offer before execution. We have previously written extensively on spoofing, including prior enforcement actions with respect to these two cases (Coscia and Moncada) and last week’s enforcement actions provide greater insight into the government’s view of spoofing, including its view that such activity is criminal.

Coscia Indictment

In the case of Michael Coscia, he was charged with six counts of commodities fraud and six counts of “spoofing” as a result of trading orders he placed through CME Group and European futures markets in 2011. The indictment marks the first federal prosecution under the anti-spoofing provision added to the Commodity Exchange Act by the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act.

According to the indictment, Coscia spoofed to “create a false impression regarding the number of contracts available in the market, and to fraudulently induce other market participants to react to the deceptive market information he created. His strategy moved the markets in a direction favorable to him, enabling him to purchase contracts at prices lower than, or sell contracts at prices higher than, the prices available in the market before he entered and canceled his large-volume orders. Coscia then allegedly repeated this strategy in the opposite direction to immediately obtain a profit by buying futures contracts at a lower price than he paid for them, or by selling contracts at a higher price than he paid for them. Each such trade allegedly occurred in a matter of milliseconds.”

In announcing the indictment the U.S. Attorney said: “[t]raders and investors deserve a level playing field, and when the field is tilted by market manipulators, regardless of their speed or sophistication, we will prosecute criminal violations to help ensure fairness and restore market integrity,” adding “[t]his case reflects the reasons why, earlier this year, we [the government] established a Securities and Commodities Fraud Section, which is dedicated to protecting markets and preserving investors’ confidence.”

Moncada Settlement

The CFTC settled with Eric Moncada for $1.5 million and a ban on trading for a period of time. The CFTC described the manipulative scheme as follows: 1) manually placing and immediately canceling numerous orders for 200 or more lots of December 2009 Wheat Futures Contracts without the intent to have the large orders filled, but instead with the intent to create the misleading impression of increasing liquidity in the market; 2) placing these large-lot orders at or near the best bid or offer price in a manner to avoid being filled by the market; and 3) placing small lot orders on the opposite side of the market from these large-lot orders with the intent of taking advantage of any price movements that might result from the misleading impression of increasing liquidity that his large-lot orders created.

The CFTC settlement sets out some telltale signs of spoofing (see ¶¶ 23-25):

  • On the attempted manipulation dates, Moncada manually entered a total of 710 large-lot orders but Moncada manually canceled at least 98 percent of the total volume of these orders.
  • On the attempted manipulation dates, Moncada’s large-lot orders were manually canceled—on average within approximately 2.06 seconds of entry, and as quickly as 0.226 seconds.
  • On the attempted manipulation dates, Moncada placed significantly more large-lot orders in the December 2009 Wheat Futures Contract than all other market participants combined.
  • On the attempted manipulation dates, Moncada cancelled significantly higher percentage of the large-lot orders by volume in the December 2009 Wheat Futures Contract than all other market participants combined.

Finally, Moncada failed to use the “iceberg” capability on the trading platforms. An “iceberg” order is a large order for lots that only displays a small number of the lots to the market at any one time – hence the term “iceberg.” The trader predetermines the amount of the “iceberg” that the market sees. If the initial visible quantity of the lot in the “iceberg” is filled, then additional lots will automatically be shown to the market. This type of order entry allows traders to execute large-lot trades without signaling to the market their intention to fill a large quantity of lots. The CFTC said that “Moncada’s lack of use of ‘iceberg’ orders further illustrates that he had no intent to fill the vast majority of the large-lot orders he placed on the attempted manipulation dates.” See ¶¶ 23-25.

In announcing the Moncada settlement, the CFTC’s Director of Enforcement Aitan Goelman said: “The Commission remains committed to protecting the integrity of the markets by prosecuting manipulative conduct of all forms, including the type of conduct engaged in by Moncada – the wholesale entering and cancelling of orders without the intent to actually fill the orders.”