Securities Industry Commentator by Bill Singer Esq

August 20, 2020

In an Indictment filed in the United States District Court for the Southern District of New York, Brian Kolfage, Stephen Bannon, Andrew Badolato, and Timothy Shea are each charged with one count of conspiracy to commit wire fraud and one count of conspiracy to commit money laundering. As alleged in part in the DOJ Release:

Starting in approximately December 2018, BRIAN KOLFAGE, STEPHEN BANNON, ANDREW BADOLATO, and TIMOTHY SHEA, and others, orchestrated a scheme to defraud hundreds of thousands of donors, including donors in the Southern District of New York, in connection with an online crowdfunding campaign ultimately known as "We Build The Wall" that raised more than $25 million to build a wall along the southern border of the United States.  In particular, to induce donors to donate to the campaign, KOLFAGE repeatedly and falsely assured the public that he would "not take a penny in salary or compensation" and that "100% of the funds raised . . . will be used in the execution of our mission and purpose" because, as BANNON publicly stated, "we're a volunteer organization."

Those representations were false.  In truth, KOLFAGE, BANNON, BADOLATO, and SHEA received hundreds of thousands of dollars in donor funds from We Build the Wall, which they each used in a manner inconsistent with the organization's public representations.  In particular, KOLFAGE covertly took for his personal use more than $350,000 in funds that donors had given to We Build the Wall, while BANNON, through a non-profit organization under his control ("Non-Profit-1"), received over $1 million from We Build the Wall, at least some of which BANNON used to cover hundreds of thousands of dollars in BANNON's personal expenses.  To conceal the payments to KOLFAGE from We Build the Wall, KOLFAGE, BANNON, BADOLATO, and SHEA devised a scheme to route those payments from We Build the Wall to KOLFAGE indirectly through Non-Profit-1 and a shell company under SHEA's control, among other avenues.  They did so by using fake invoices and sham "vendor" arrangements, among other ways, to ensure, as KOLFAGE noted in a text message to BADOLATO, that his pay arrangement remained "confidential" and kept on a "need to know" basis.
A former associated person got involved in a Ponzi scheme, was convicted by a jury on seven felony counts, and was sentenced to 140 months to 20 years in prison. Given that background, you'd sort of expect swift action by the Securities and Exchange Commission in its role as the protector of the investing public. You know, something like barring the felon from further activity in the securities industry. So . . . how long after the convictions do you think it took the SEC to get out of bed and do its job? A year? Two years? Five years? How about more than six years and still counting!

The Bank of Nova Scotia ("Scotiabank" or "BNS") resolved DOJ criminal charges related to a price manipulation scheme involving thousands of episodes of unlawful trading activity by four traders in the precious metals futures contracts markets. Additionally, Scotiabank entered into a deferred prosecution agreement ("DPA") in connection with a criminal Information charging the company with one count of wire fraud and one count of attempted price manipulation.  Scotiabank agreed to the imposition of an independent compliance monitor, and will pay over $60.4 million in a criminal monetary penalty, criminal disgorgement, and victim compensation, with part of the criminal monetary penalty credited against payments made under a separate agreement with the CFTC being announced today.

As alleged in part in the DOJ Release:

As Scotiabank admitted in the DPA, Flaum and the three other traders, collectively, placed thousands of orders to buy and sell precious metals futures contracts with the intent to cancel those orders before execution.  By placing these orders, the traders intended to artificially move the prices of precious metals futures contracts in a direction that was favorable to them, and to inject false and misleading information into the precious metals futures markets in order to deceive other market participants into believing something untrue, namely that the market reflected legitimate supply and demand.  This false and misleading information was intended to, and at times did, trick other market participants into reacting to the apparent change and imbalance in supply and demand by buying and selling futures contracts at quantities, prices, and times that they otherwise likely would not have traded.

As set forth in the DPA, Scotiabank's compliance function failed to detect or prevent the four traders' unlawful trading practices.  Moreover, between August 2013 and February 2016, three Scotiabank compliance officers possessed information regarding unlawful trading by one of the traders other than Flaum but failed to prevent further unlawful conduct by this same trader. These facts were significant considerations that counseled for the imposition of a criminal monetary penalty at the high end of the applicable United States Sentencing Guidelines range under the DPA.

Since the time of the underlying offense conduct, Scotiabank has made significant investments to improve its compliance technology and trade surveillance tools, has nearly doubled its annual compliance operating budget, has added more than 200 full-time equivalent compliance positions, and is in the process of winding down its precious metals business.  The department ultimately determined, however, that an independent compliance monitor was necessary because Scotiabank's remedial improvements to its compliance and ethics program have yet not been fully implemented and tested to demonstrate that they would be effective in detecting and preventing similar misconduct in the future.

Scotiabank did not receive voluntary disclosure credit because it did not voluntarily and timely disclose the offense conduct to the department.  In 2016, after one of its futures commission merchants flagged trading by Flaum for possible spoofing, Scotiabank made a voluntary disclosure regarding Flaum to the CFTC.  As a result of recordkeeping failures, however, Scotiabank's disclosure to the CFTC was materially incomplete.  As a result, the CFTC was impaired in its ability to fully investigate Flaum's unlawful trading and discover the true extent of the misconduct. The CFTC, relying on Scotiabank's incomplete and, ultimately, inaccurate disclosure, entered into a resolution with Scotiabank in 2018 that did not reflect the full extent of Flaum's conduct (2018 CFTC Resolution).  In the 2018 CFTC resolution, Scotiabank received a substantially reduced penalty in recognition of, among other things, its purported self-reporting.

As alleged in part in the CFTC Release:

The first two orders require BNS to pay a total of $77.4 million to settle a CFTC enforcement action arising from manipulative and deceptive conduct that spanned more than eight years and involved thousands of occasions of attempted manipulation and spoofing in gold and silver futures contracts. BNS was originally penalized $800,000 in 2018 [See CFTC Press Release No. 7818-18] for spoofing in the gold and silver futures markets, but multiple statements the company made to CFTC staff during the course of that investigation-on which the CFTC predicated its findings and sanctions-were later proven to be false. The charges resolved today address those false statements (False Statements Order) and the true scope and nature of BNS's wrongdoing that those false statements concealed (Spoofing Order). This includes a record-setting $17 million penalty for making false and misleading statements to CFTC staff during the CFTC's initial spoofing investigation and a record-setting penalty of $42 million for spoofing and attempted manipulation. BNS is also required to pay $6,622,190 in restitution and $11,828,912 in disgorgement, and to retain an independent monitor.
. . .
The third order requires BNS to pay a $50 million civil monetary penalty to settle a separate enforcement action for swap dealer business conduct, compliance, and supervision failures, and making false or misleading statements (Compliance and Supervision Order). The order finds that for tens of thousands of swaps, BNS: (i) failed to provide timely and accurate pre-trade mid-market marks, which had the effect of concealing BNS's full markup from counterparties; (ii) violated various requirements relating to BNS's counterparty onboarding process, recordkeeping, chief compliance officer reporting, and supervision; and (iii) made false or misleading statements to CFTC staff concerning its audio retention and supervision. The order finds that these violations occurred over a seven-year period.

The order requires BNS to retain an independent monitor. As set out in the order, BNS acknowledges that the findings of the order provide the Commission sufficient grounds to commence proceedings to suspend or revoke BNS's registration status, but the Commission defers commencing such proceedings on the condition that BNS fulfills its obligations relating to registration, remediation, and the monitor.



Deferred Prosecution Agreement

CFTC Spoofing Order:

CFTC False Statements Order

CFTC Compliance Order
In an Indictment filed in the United States District Court for the Southern District of New York, Yoel Abraham, Heshl Abraham, Zishe Abraham, and Shmuel Abraham were each charged with conspiracy to commit wire fraud, wire fraud, and money laundering.  As alleged in part in the DOJ Release:

The defendants, who purportedly operated wholesale businesses, opened vendor accounts with Amazon to sell the company small quantities of goods.  By accepting a purchase order, the defendants agreed to supply specific goods, at specific prices, in specific quantities.  Instead, they manipulated Amazon's vendor system, and then, in the most egregious iteration of the scheme, invoiced the company for substitute goods at grossly inflated prices and excessive quantities.  The defendants frequently shipped and invoiced for more than 10,000 units of an item when Amazon had requested, and the defendants had agreed to ship, fewer than 100.

The defendants communicated about the scheme, extended help and advice to one another, and helped one another evade detection using an encrypted group texting chain on WhatsApp, a messaging application.  For example, on or about May 1, 2018, YOEL ABRAHAM, the defendant, stated to the group "I'm so in the mood to fuck Amazon," and asked "Did anyone try to overship and make a million profit in a week?"  ZISHE ABRAHAM, the defendant, asked how YOEL ABRAHAM would do it ("Come in [sic] how to do it?"). SHMUEL ABRAHAM, the defendant, offered his advice on how to carry out such a large fraudulent transaction, noting he "didn't tried this yet but tried already different things and it worked."  SHMUEL ABRAHAM cautioned, however, "[j]ust make sure you have another account.  But you can fuck them a lot.  When it's to [sic] big numbers fast they will lock you out."  ZISHE ABRAHAM, the defendant, also offered his thoughts on how best to perpetrate such a large overshipment.

Once Amazon detected the pattern of fraudulent overshipping, it suspended the vendor accounts engaged in the fraud; in response, the defendants tried to open other vendor accounts and disguise their identities by registering them in fake names, using different email addresses, and using virtual private servers ("VPSs") to obfuscate their connection to previously suspended accounts and frustrate Amazon's ability to detect and mitigate their fraudulent activity.  For instance, on or about November 1, 2018, the defendants discussed that Amazon's increasing enforcement was going to force them to give up the fraudulent invoicing scheme altogether and go into a legitimate line of business (YOEL ABRAHAM: "This shit is massed up, looks like will have to build a legit business").  They also discussed new ways to evade detection and how to continue to perpetrate the fraud (YOEL ABRAHAM: "Open account under dummy names and they can go look for no one."  ZISHE ABRAHAM: "Yup need to do that. . . . The problem the first accounts was under real names."). A few days later, HESHL ABRAHAM circulated a link to a "VPS company I use now. . . . This is how I know because they linked both of my vendor accounts."). 

In the Matter of the Application of Donald Anthony Wojnowski for Review of Action Taken by FINRA (SEC Order Requesting Additional Written Submissions, '34 Act Rel. No. 89610, Admin. Proc. File No. 3-19014)
FINRA determined that Wojnowski's expungement claim against his former employer E.F. Hutton was "ineligible for arbitration." In refusing to offer its arbitration forum to Wojnowski, however, FINRA never bothered to explain why. As the SEC Order explains in part:

After Wojnowski appealed this action to the Commission, and after we issued an order scheduling briefs on the issue of the Commission's jurisdiction, FINRA sent Wojnowski's counsel a letter providing for the first time grounds for FINRA's conclusion that the expungement request was ineligible for arbitration. According to FINRA's letter, the named respondent cannot be served because its successor-in-interest is subject to an automatic bankruptcy stay. FINRA then moved to adduce the letter as additional evidence, and FINRA's opposition brief on the issue of jurisdiction referred to the letter as the basis for its denial of access. Wojnowski has neither opposed FINRA's motion nor objected to the absence in the record of an explained basis for FINRA's decision. 

The SEC asked the parties for briefing on the following issues [Ed: footnotes omitted]:
  • Exchange Act Section 15A(h)(2) provides that any determination to prohibit or limit a person's access to services shall be supported by a statement setting forth the specific grounds on which the . . . prohibition or limitation is based."  Did FINRA issue Wojnowski a supporting "statement setting forth the specific grounds" for its determination as provided for by Section 15A(h)(2)? 

  • What were FINRA's grounds for determining that Wojnowski's claim was ineligible for arbitration, and was that prohibition of access consistent with FINRA's rules? 

  • Should the Commission grant FINRA's motion to adduce its letter to Wojnowski? Why did FINRA not send Wojnowski the letter before his appeal, and how does that bear, if at all, on whether FINRA has established reasonable grounds for its failure to adduce the letter previously? What is the relevance, if any, of case law governing judicial review of an administrative agency's post hoc explanation concerning its reasoning at the time of its decision?

  • If the Commission were to deny FINRA's motion to adduce, could the Commission discharge its review function based on the record otherwise before it, or would it instead have to remand to FINRA for issuance of a new letter to be made part of the record?