Do Automated Trading Systems Dream of Manipulating the Price of Futures Contracts? Policing Markets for Improper Trading Practices by Algorithmic Robots

This Article seeks to determine if the CFTC needs new tools to combat disruptive, manipulative, or otherwise harmful trading practices that originate solely from the “minds” of ATSs. Part I of this Article provides a brief regulatory background of the derivatives markets, then examines the increased automation in those markets today, and concludes by looking at the CFTC’s initial responses to the issues raised by automation. Part II briefly looks at the law concerning different mental states for causes of action. Part III examines the CFTC’s pre and post-Dodd–Frank Act tools to police disruptive and manipulative trading practices, which are causes of action that, generally speaking, have scienter or culpable mental state requirements. This makes these tools ineffective in situations where none of the prospective defendants acted with the requisite mental state. Part IV analyzes the failure-to-supervise cause of action under CFTC Regulation 166.3. It determines that this regulation potentially could be an effective weapon against ATS-initiated behavior that disrupts or manipulates derivative markets because: (1) a Regulation 166.3 claim does not require proof of an underlying violation of the CEA or CFTC Regulations, and (2) decisions analyzing Regulation 166.3 appear to apply a reasonableness standard (as opposed to a scienter requirement) in scrutinizing whether a firm diligently supervised its employees and agents in connection with its business as a CFTC registrant. More specifically, although never explicitly stated, Regulation 166.3 violation decisions appear to apply a reasonableness standard that analyzes whether a reasonably prudent registrant—as opposed to a reasonably prudent person—would have acted the same in similar circumstances. Part IV also suggests that, to ensure that Regulation 166.3 will effectively deter disruptive and manipulative trading practices by registrants’ ATSs, the CFTC could promulgate a rule making clear that a registrant’s duty to diligently supervise its employees in connection with its business as a registrant includes making sure that employees monitor ATSs for improper trading practices. This Article is the first to: (1) suggest that Regulation 166.3 is most likely the best tool for combatting improper trading practices by ATSs where no human connected to the activities had the requisite scienter; (2) contend that Regulation 166.3 uses a reasonableness standard that is best viewed as a reasonably prudent registrant (as opposed to a reasonably prudent person) standard for diligence in connection with supervisory duties; and (3) point out that this standard establishes, as a baseline, mandatory awareness of requirements in the CEA and applicable CFTC and self-regulatory organization (SRO) rules and guidelines

Do Automated Trading Systems Dream of Manipulating the Price of Futures Contracts? Policing Markets for Improper Trading Practices by Algorithmic Robots

This Article seeks to determine if the CFTC needs new tools to combat disruptive, manipulative, or otherwise harmful trading practices that originate solely from the “minds” of ATSs. Part I of this Article provides a brief regulatory background of the derivatives markets, then examines the increased automation in those markets today, and concludes by looking at the CFTC’s initial responses to the issues raised by automation. Part II briefly looks at the law concerning different mental states for causes of action. Part III examines the CFTC’s pre and post-Dodd–Frank Act tools to police disruptive and manipulative trading practices, which are causes of action that, generally speaking, have scienter or culpable mental state requirements. This makes these tools ineffective in situations where none of the prospective defendants acted with the requisite mental state. Part IV analyzes the failure-to-supervise cause of action under CFTC Regulation 166.3. It determines that this regulation potentially could be an effective weapon against ATS-initiated behavior that disrupts or manipulates derivative markets because: (1) a Regulation 166.3 claim does not require proof of an underlying violation of the CEA or CFTC Regulations, and (2) decisions analyzing Regulation 166.3 appear to apply a reasonableness standard (as opposed to a scienter requirement) in scrutinizing whether a firm diligently supervised its employees and agents in connection with its business as a CFTC registrant. More specifically, although never explicitly stated, Regulation 166.3 violation decisions appear to apply a reasonableness standard that analyzes whether a reasonably prudent registrant—as opposed to a reasonably prudent person—would have acted the same in similar circumstances. Part IV also suggests that, to ensure that Regulation 166.3 will effectively deter disruptive and manipulative trading practices by registrants’ ATSs, the CFTC could promulgate a rule making clear that a registrant’s duty to diligently supervise its employees in connection with its business as a registrant includes making sure that employees monitor ATSs for improper trading practices. This Article is the first to: (1) suggest that Regulation 166.3 is most likely the best tool for combatting improper trading practices by ATSs where no human connected to the activities had the requisite scienter; (2) contend that Regulation 166.3 uses a reasonableness standard that is best viewed as a reasonably prudent registrant (as opposed to a reasonably prudent person) standard for diligence in connection with supervisory duties; and (3) point out that this standard establishes, as a baseline, mandatory awareness of requirements in the CEA and applicable CFTC and self-regulatory organization (SRO) rules and guidelines

Regulating Fairness: The Dodd-Frank Act’s Fair Dealing Requirement for Swap Dealers and Major Swap Participants

I. Introduction II. The Dodd-Frank Act and External Business Conduct Standards for Swap Entities ... A. Congress Reshapes the Regulatory Landscape ... B. Regulations Implementing External Business Conduct Standards ... C. The CFTC’s Fair Dealing Rule ... D. Relationship with Other External Business Conduct Standards III. Looking to NFA Guidance When Interpreting the Fair Dealing Rule ... A. Industry Familiarity with SRO “Precedents” ... 1. NFA Compliance Rules 2-2 and 2-4 ... 2. NFA’s Customer Communications Rule ... 3. NFA Interpretive Notices on the Customer Communications Rule ... i. Interpretive Notice 9003—Section-by-Section Analysis of the Customer Communications Rule ... ii. Interpretive Notice 9025—Hypothetical Performance Results ... iii. Interpretive Notice 9038—High-Pressure Sales Practices ... iv. Interpretive Notice 9039—Radio and Television Advertisements ... v. Interpretive Notice 9043—Examples of Violative Conduct ... B. Lessons from NFA Guidance for Regulation 23.433 IV. Investment Bank Misconduct Detailed in the U.S. Senate’s Anatomy of a Financial Collapse ... A. Deutsche Bank ... B. Goldman ... 1. Hudson ... 2. Anderson ... 3. Timberwolf ... 4. Abacus V. Potential Sources of Good Faith Principles for the Fair Dealing Rule ... A. Contract Law’s Implied Covenant of Good Faith and Fair Dealing ... B. Drawbacks to Using Contract Law Principles of Good Faith ... C. The “Excluder” Conceptualization of Good Faith as a Possible Model Framework for the Fair Dealing Rule ... D. Applying an Excluder Conceptualization to Regulation 23.433 VI. Conclusio

The (Questionable) Legality of High-Speed Pinging and Front Running in the Futures Market

Institutional investors complain that high-frequency trading (HFT) firms engage in high-speed pinging and \u27front running of their orders for trades. By sending out lightning fast ping orders for trades that operate much like sonar does in the ocean, HFT firms can detect when institutional investors will make large trades in futures contracts. Once a large trade has been detected, an HFT firm rapidly jumps in front of the institutional investor, buying up the liquidity in the contract and selling it back at higher or lower prices (depending on if it was a buy or a sell order). None other than Warren Buffett\u27s right-hand man has called the HFT practice evil and legalized front running. While many criticize these HFT tactics, they accept their legality at face value. But what if that understanding is incorrect? This Article posits that some high-speed pinging tactics violate at least four provisions of the Commodity Exchange Act-the statute governing the futures and derivatives markets-and one of the regulations promulgated thereunder. The better approach is not to view high-speed pinging as a form of front running or insider trading, but as analogous to disruptive, manipulative, or deceptive trading practices, such as banging the close (submitting a high number of trades in the closing period to influence the price of a contract), spoofing (submitting an order for a trade with the intent to immediately cancel it), or wash trading (self-dealing, or taking both sides of a trade), all of which are illegal

Expanding the Reach of the Commodity Exchange Act\u27s Antitrust Considerations

The article discusses the expansion of the U.S. legislation the Commodity Exchange Act (CEA) regarding antitrust law. It discusses the role of the U.S. agency the Commodity Futures Trading Commission (CFTC) and CFTC regulations with an emphasis on the U.S. legislation the Sherman Act of 1890, enforcement actions the CFTC can bring, and analyzes a section of the CFTC implementing rule known as CFTC Regulation 23.607. The article also discusses the significance of the Dodd-Frank Act