Tuesday, December 27, 2016

Theory, evidence drive post-trial DRW briefs

By Mark S. Nelson, J.D.

The CFTC and Donald Wilson, founder and CEO of the eponymous DRW Investments, LLC, both asked Judge Richard Sullivan of the U.S. District Court in Manhattan to rule in their favor now that the bench trial over whether DRW manipulated a futures contract has ended. The parties’ post-trial motions are an amalgam of legal theory and evidentiary claims that frequently cite legal precedents that led some amici to argue before trial that the CFTC’s suit against DRW sought to lower the standard for holding traders liable for market manipulation (CFTC v. Wilson, CFTC Brief and Wilson Brief, December 21, 2016).

According to the CFTC, manipulation is especially pernicious in an illiquid market, like the one at issue in its case against DRW. The agency analogized the DRW case to a congested market where prices are “hypersensitive” because the limited number of contracts available has the effect of draining liquidity from the market. The CFTC noted that similar conduct in thinly-traded securities has been held to be manipulation. Moreover, the agency cited its own administrative action in In the Matter of Indiana Farm Bureau Cooperative Association, Inc. to explain how intent can be inferred from certain market-impacting behaviors.

The CFTC then turned to DRW’s legal theories, which the agency argued were too subjective and, if adopted by the court, could cast aside long-held understandings of the Commodity Exchange Act’s anti-manipulation provisions. Here, the CFTC said DRW had specific intent to set prices and that the agency’s theory of the case would not hinder other traders’ activities done “for the purpose of trading.”

DRW countered that the CFTC had confused intent to affect prices and artificiality. In DRW’s view, there can be no manipulation without intent to create an artificial price. DRW went on to cite authority for the proposition that economic rationality is not necessarily the touchstone if bids are executable. DRW explained that it is economically rational and a reflection of actual demand for a single bidder (DRW) to place orders if it is willing to transact at the stated price.

Moreover, DRW offered a point-by-point rebuttal of the CFTC’s theories of artificiality. First, the firm disputed whether intent to influence price is unlawful. The CFTC had argued that, primary or not, DRW’s intent was to undermine the forces of supply and demand for its own profit. DRW also argued that the court should reject expert opinion regarding whether bids were above the corresponding rate because the expert, whose work the CFTC relied on, had cited different products.

Another key point of contention between the CFTC and DRW was whether DRW’s bids could have been hit. DRW said its bids could have been hit and cited the firm’s efforts to consummate a busted trade with MF Global (DRW claimed that firms like MF Global could see trades on screen and could transact via a voice broker). But the CFTC said there was no evidence DRW wanted its bids to get hit because DRW was the only firm with the needed electronic capability to transact.

DRW also disputed the CFTC’s characterization of its activities as banging the close. According to DRW, such cases involve uneconomic activity not present in this case; DRW also said it could transact in the market only if it offered higher prices. The CFTC noted that it believed banging the close cases can occur even if trades are “economic” or “profitable.”

The case is No. 13-cv-07884 (CFTC brief) and (Wilson Brief).