Securities Industry Commentator by Bill Singer Esq

July 20, 2022

Today's featured lawsuit is about a guy who almost made it onto the PGA tour, but then wound up playing through at Merrill Lynch, Lehman Brothers, UBS; and, among the divots in his life was an $850,000 debt owed to UBS and a $1 million debt owed to a family office. Upon filing for Chapter 7 in April 2019, our golfer apparently failed to schedule on his petition two sets of golf clubs and his Winged Foot Golf Club membership. Ah yes, the stuff of federal lawsuits!

Once, there were many. Now, only a few. The numbers of knowledgeable journalists covering the Wall Street beat has dwindled. It's sad and it does a disservice to the investing public but it is what it is. Among the few savvy voices is that of Susan Antilla. In her most recent foray, Susan blows the lid off the Street's horrific track record when it comes to sexual harassment. Here's a sample of what's in her "Capital & Main" article;

Last spring, Goldman was pushed by shareholders to investigate its arbitration policy and determine how its use of a private justice system impacted employees. In December, Goldman reported that while there had been concerns that arbitration may "allow harassment and discrimination to go unseen and unaddressed," its review found that those concerns simply didn't apply to Goldman. The law firm that represented Jeffrey Epstein and Roman Polanski in their sexual assault cases conducted the investigation, assisted by a scholar who is on the panels of two arbitration providers.
As with many chess games, the endgame may be underway, but the adversary, who is slowly being maneuvered into checkmate, may not see the demise unfolding. In a sense, that's what seems to be afoot as Charles Schwab slowly (some would say "painfully") but patiently presses its advantage with an eye on the prize of closing its merger with TD Ameritrade. Enjoy the recap of the most recent moves and gambits as expertly told by veteran Wall Street Grandmaster Oisin Breen.
iCore Global LLC executives Samantha L. Mueting (owner/operator) and Josephus De Laat a/k/a Jos De Laat (Chief Financial Officer) each pled guilty in the United States District Court for the Western District of Texas to one count of conspiracy to commit mail fraud. A third Co-Defendant is charged with one count of conspiracy to commit wire fraud and one count of conspiracy to commit mail fraud. As alleged in part in the DOJ Release, Mueting and De Laat:

conspired to perpetrate a series of frauds upon couples nearing retirement.  The defendants promised to allocate the victim couples' funds into a commercial real estate hedge fund, but instead used the funds for their own personal gain.  According to the indictment, they made fraudulent misrepresentations that iCore was a full service, conflict-free, commercial real estate provider worldwide. 

Mueting claimed that iCore operated in at least 64 countries, with 156 offices, managed anywhere from tens to hundreds of billions of dollars in a commercial real estate investment fund and employed anywhere from 1,500 to 5,000 employees.  In reality, iCore's incorporation address was a shipping company store P.O. Box in Helotes and never employed more than half-dozen employees at any given time.  In sum, the defendants defrauded investors of more than $2.1 million.
Reginald Lamont Thomas pled guilty in the United States District Court for the Eastern District of California to nine counts of bank fraud and one count of aggravated identity theft. As alleged in part in the DOJ Release:

[B]etween April 2018 and September 2019, Thomas used a victim's personal identifying information to take over the victim's checking and savings account at Wells Fargo. Thomas convinced Wells Fargo representatives to change the address information on the victim's Wells Fargo accounts to an address associated with Thomas and to ship a new debit card to Thomas at the new address. Thomas then used the debit card to make various unauthorized transactions, including buying a used car at a dealership in Solano County and paying for a subscription to the dating service Plenty of Fish. In total, Thomas incurred approximately $112,874 in debit card charges. All of the conduct in this case occurred while Thomas was on a term of federal supervised release.

Without admitting or denying the findings in an SEC Order, that it had violated the antifraud provisions of the Securities Act, Equitable Financial Life Insurance Company agreed to cease and desist from committing or causing any future violations of the provisions and to pay a $50 million civil penalty that it will distribute to affected investors; and, further, agreed to revise how it presents fee information in its variable annuity account statements. As alleged in part in the DOJ Release:

The Securities and Exchange Commission today announced fraud charges against Equitable Financial Life Insurance Company for providing account statements to about 1.4 million variable annuity investors that included materially misleading statements and omissions concerning investor fees. Equitable agreed to pay $50 million to harmed investors, most of whom are public school teachers and staff members, to settle the charges.

As described in the SEC's order, since at least 2016, Equitable gave investors the false impression that their quarterly account statements listed all fees paid during the period. The SEC's investigation found that, in reality, the statements listed only certain types of fees that investors infrequently incurred and that more often than not the statements had $0.00 listed for fees.

Order Determining Whistleblower Award Claims ('34 Act Release No. 34-95309; Whistleblower Award Proc. File No. 2022-67)
The SEC's Claims Review Staff ("CRS") issued a Preliminary Determination recommending a Whistleblower Award of about $17 million to Claimant. The Commission ordered that CRS' recommendations be approved. The Order asserts that:

[C]laimant's information caused the staff to open the investigation that led to the Covered Action. Claimant also provided Enforcement staff with detailed information and documents early in the investigation. Claimant offered ongoing assistance by, among other things, speaking with the Enforcement staff on several occasions. Finally, the resulting charges were based on conduct that was the subject of Claimant's information and assistance. 

Additionally, in view of the significance of the information provided by Claimant and the high law enforcement interest, the Commission finds it appropriate for Claimant to receive an *** award of % of the monetary sanctions collected in the Related Action.
The CFTC issued an Order filing and settling charges against Powerline Petroleum, LLC (Powerline), its co-founder and owner, Darren Dohme, and other owner, Adam Wright for misleading clients regarding the nature of Powerline's role, and financial interest in the clients' transactions, and for making false statements to the Chicago Mercantile Exchange; further. Powerline and Dohme were charged with failing to register Powerline as a Commodity Trading Advisorand for failure to make required disclosures. The Order imposes a $375,000 civil monetary penalty and $500,000 in disgorgement, with Dohme and Wright's monetary obligation capped at $150,000 each; and further imposes six-month trading and three-month registration bans on Powerline, Dohme, and Wright.
As alleged in part in the CFTC Release:

The order finds that Powerline, Dohme, and Wright defrauded clients by failing to adequately disclose that Powerline acted as the counterparty to its clients' transactions-not merely as a broker. The order also finds that Powerline, Dohme, and Wright failed to disclose that Powerline charged clients a markup over the cost at which Powerline was able to acquire the fuel hedging strategies in the market. These failures also violated Powerline's obligation to disclose to clients all fees and conflicts of interest. In addition, the order finds Dohme liable as a controlling person for Powerline's violations.

Moreover, according to the order, Dohme and Wright produced a backdated letter to CME, to give CME the false impression that a certain disclosure was made to clients before it actually had been.

The order also finds that Powerline acted as a CTA by offering clients fuel hedging strategies, but failed to register as such.

The CFTC's investigation was conducted in conjunction with a parallel inquiry by the CME Group, which also issued a Notice of Disciplinary Action today where Powerline agreed to pay a $225,000 fine and to disgorge profits.

I respectfully dissent from the Commission's enforcement action charging, and settling with, Powerline Petroleum, LLC ("Powerline") and its current principals, Darren Dohme and Adam Wright.  As a matter of law, I do not believe that all the charges are backed by the facts.  I also believe that some aspects of the settlement are inconsistent with the Commission's prior treatment of similar cases and fundamentally unfair.

I agree that we need to be strong on enforcement and, at the CFTC, we are.  But what can be much harder for regulators - yet just as vital to the long-term success of our mission - is to exercise our enforcement powers in a fair and even-handed manner, consistent in the charges we bring and the sanctions we impose.  It is here that I believe the Commission has fallen short in this case.

The Powerline Story

There is more to tell about the Powerline story than is set out in the Commission's settlement Order.  Powerline is a small business, historically employing somewhere between 2-10 employees.  Its clients are primarily retail gas station operators that regularly hedge their exposure to fluctuating energy prices using fuel-related futures. 

Powerline has been doing business for nearly 20 years, and has been registered with the Commission as an Introducing Broker ("IB") since its founding (except for a relatively brief period during which a registered Futures Commission Merchant ("FCM"), with which Powerline maintained a long-standing relationship, owned and operated the business). Pursuant to the Commodity Exchange Act ("CEA"), an IB engages in soliciting or in accepting orders for certain derivatives transactions, and does not accept money or property to margin any trades or contracts that result therefrom.[1]  Darren Dohme, a founder of Powerline and Adam Wright, his co-owner, are both registered as Associated Persons ("APs")[2] subject to the regulatory rules and responsibilities associated with this registration.

Importantly, Powerline has enjoyed a clean history as a registered IB and its employees as registered APs.  The Commission has found no fault with Powerline's conduct of its IB business at any time, and the Commission's settlement Order does not contain any finding of wrongdoing with respect to Powerline's IB activities.

The Case Against Powerline

At times, though, Powerline undertook activities that extended beyond those of an IB and into those that characterize a commodity trading advisor ("CTA") under the CEA.  That is, Powerline acted as a CTA by advising others, for compensation or profit, as to the value of or the advisability of trading in certain derivatives contracts.[3]  But while it remained registered as an IB, Powerline did not also register as a CTA, nor did it provide certain disclosures to clients that CTAs (and firms that are required to register as a CTA) must provide.  And when the Chicago Mercantile Exchange ("CME") initiated an investigation in 2019 regarding Powerline's activities, Powerline (through Dohme and Wright) produced to CME a backdated letter suggesting that Powerline provided a written disclosure to its clients earlier than was actually the case - a fact that Powerline brought to the attention of our Division of Enforcement in its cooperation with the investigation (which the Commission recognizes in the settlement Order).

The Commission's settlement Order finds, among other things, that:  1) Powerline unlawfully acted as an unregistered CTA,[4] and also violated disclosure requirements for CTAs (including firms required to register as a CTA) in the Commission's rules (collectively referred to herein as the "CTA Violations");[5] and 2) Powerline, Dohme, and Wright made a false statement that violated the CEA when they produced the backdated letter to CME.[6] 

I have no question that Powerline, Dohme, and Wright made a false statement to CME with the backdated letter.  In fact, they disclosed this violation themselves, and I support any and all penalties associated with this violation. 

However, I am not sure the record justifies the Commission's findings that Powerline committed the CTA Violations.  After all, our rules provide that a registered IB need not also register as a CTA if its trading advice is "solely in connection with its business as an introducing broker" (the "IB Exemption").[7]  Based on the information available to me, it appears that:  1) on trades resulting from Powerline's CTA services, Powerline acted as an IB by introducing the trades to an FCM for execution; 2) much (though not all) of the revenue that Powerline earned from its markups occurred on two dates, one in 2016 and one in 2017; and 3) even in those years, Powerline's revenues from its CTA activities did not account for more than 50% of its total revenues, and in other years it was minimal (e.g., under 1% in 2015 and under 5% in 2018). 

Equally concerning to me is the fact that throughout Powerline's history as an IB, it was subject to examination by the National Futures Association ("NFA") - the registered futures association for the derivatives industry - but the record contains no indication that NFA ever suggested that Powerline might also have to register as a CTA.  Nor did the registered FCM that owned and operated the Powerline business for a few years ever suggest that it might be necessary for Powerline to register as a CTA.  Under these circumstances, whether Powerline qualified for the IB Exemption to the requirement to register as a CTA certainly warrants more than the cursory, and conclusory, statement in the Commission's settlement Order that Powerline's "advisory business was not solely in connection with its brokerage business."[8]

We Have Seen This Case Before

I recognize, though, that the Commission has previously found the CTA Violations to have occurred in a case with facts strikingly similar to those present here.  In a 2016 settlement Order involving a company called Angus Energy ("Angus"), the Commission found that Angus had unlawfully acted as an unregistered CTA and violated the same CTA disclosure rules that the Commission now finds Powerline to have violated.[9] 

Comparing the settlement Orders regarding Powerline and Angus reveals that:  1) the clients of the advisory services provided by both companies were retailers of fuel products; 2) both companies advised clients on hedging programs for energy markets; 3) both companies acted as counterparty to their clients in certain derivatives contracts, but did not clearly disclose that to their clients; 4) both companies charged and retained a markup embedded in the price charged to clients, but did not disclose the existence or amount of the markup; and 5) the wrongdoing identified by the Commission in both cases occurred during an overlapping 4-year period.[10]

Given these parallel facts and the Commission's findings of CTA Violations by Angus, I can understand the Commission's findings that Powerline committed the CTA Violations, too.  But what I can neither understand nor accept is the Commission's determination to treat Powerline more harshly than it did Angus.[11]  In particular, the Commission:

Dresses up Powerline's disclosure failures as fraud, whereas no fraud charge was brought in the Angus case despite the similarity of its facts;
Charges Dohme with individual liability for the CTA Violations, whereas no individuals at Angus were charged;
Imposes disgorgement of $500,000 against Powerline, whereas no disgorgement was ordered against Angus; and
Imposes registration and trading bans of 3 and 6 months, respectively, on Powerline, Dohme, and Wright, whereas no registration or trading bans were imposed on Angus.
Fundamental Fairness

Similar cases should be treated similarly.[12]  The settlement Order regarding Powerline does not even mention the Angus case, let alone explain the disparities in the settlement terms in the two cases.  It is neither fair nor just for the charges brought, and the sanctions imposed, by the Commission in similar cases to fluctuate as we see demonstrated here. 

Powerline, Dohme, and Wright would hardly be getting off "scot-free" if the Commission treated their settlement the same way it treated its settlement with Angus with respect to the CTA Violations.  The Commission is holding them accountable by imposing a civil monetary penalty ("CMP") of $375,000, with the joint and several liability of Dohme and Wright capped at $150,000 each.  In comparison to the $250,000 CMP imposed on Angus, this is appropriate given the additional false statement violation here. 

Further, Dohme and Wright will have their names - as well as their company's name - publicly identified in a Commission press release distributed in the national media, leaving a permanent mark on their reputations.  The Commission's findings of their misconduct also will be flagged (as they should) in the registration database maintained by the NFA, so that potential future customers can consider the information when making their trading decisions (as they should).  At a small company, reputation is everything. 

But to treat the Powerline settlement so differently than the Angus settlement is fundamentally unfair.  This is best illustrated by the 3-month registration ban imposed on Powerline.  Not only does the ban prevent Powerline from registering as a CTA (which is appropriate, since that is where its infractions occurred), but it is imposed on Powerline's existing IB registration, too - notwithstanding that Powerline has run a clean IB business for nearly 20 years, and the settlement Order makes no finding of any wrongdoing with respect to that IB business. 

Of course, three months doesn't seem very long, and is shorter than the registration bans the Commission often imposes on wrongdoers.  But by applying that ban to Powerline's IB registration, the impact may very well last much longer than three months.  In fact, the Commission risks shutting down Powerline's business entirely.  Powerline's retail gas station customers will still need IB services during the term of Powerline's registration ban, and can be expected to find them elsewhere.  How many are likely to return after the ban expires? 

I also want to be sure to mention Powerline's other employees who may be directly and adversely impacted by the Commission's ban on Powerline's IB registration.  These employees, whom the Commission is not charging with any wrongdoing, rely on the pay and benefits offered by Powerline.  If Powerline is not able to do business as an IB for even three months, its status as an employer is surely at risk. 

To me, this is inherently unfair, and on principle, I cannot support this settlement, even when entered into voluntarily.  This may strike some as a small case compared to the actions against major Wall Street banks and global commodity trading firms that can be a steady part of our enforcement program.  But in my view, it is precisely when our enforcement actions involve smaller registrants - where our actions can threaten livelihoods, the survival of a business, and the jobs of taxpayers - that we should proceed with extreme caution.  I respectfully dissent from the Commission's failure to do so here.

[1] CEA Section 1a(31), 7 U.S.C. § 1a(31).

[2] The CEA defines an AP, among other things, as an employee associated with an IB in a capacity that involves the solicitation or acceptance of customers' orders (other than in a clerical capacity).  CEA Section 4k(1), 7 U.S.C. § 6k(1).

[3] CEA Section 1a(12), 7 U.S.C. § 1a(12).

[4] See CEA Section 4m(1), 7 U.S.C. § 6m(1).

[5] Specifically, the Commission's settlement Order finds that Powerline recommended hedging programs to its clients without disclosing that Powerline would be the counterparty to the clients' trades, and without disclosing the markup that Powerline received on those transactions.  It further finds that these failures violated the requirements in the Commission's rules that a CTA (including firms required to register as a CTA) disclose a "complete description of each fee which the commodity trading advisor will charge the client" and a "full description of any actual or potential conflicts of interest regarding any aspect of the trading program . . ."  See CFTC Rules 4.31 and 4.34, 17 C.F.R. §§ 4.31, 4.34. 

[6] See CEA Section 9(a)(4), 7 U.S.C. §13(a)(4).

[7] CFTC Rule 4.14(a)(6), 17 C.F.R. § 4.14(a)(6). 

[8] Settlement Order at 2, 5, 7.

[9] In re Angus Partners, LLC, D/B/A Angus Energy, CFTC Docket No. 16-36 (September 29, 2016). 

[10] See Angus Settlement Order at 2-3; Powerline Settlement Order at 2-5.  The settlement Order in the Angus case is equally unenlightening as to why Angus did not qualify for an exemption from CTA registration, saying only that "Angus's commodity trading advice was not solely incidental to its business" (which was the standard for exemption applicable to Angus' cash commodity business pursuant to CFTC Rule 4.14(a)(1), 17 C.F.R. § 4.14(a)(1)).  See Angus Settlement Order at 2. 

[11] Treating Powerline more harshly than Angus is particularly hard to comprehend when it is considered that unlike Powerline, which subjected itself to regulation and examinations as a registered IB, Angus had not been registered with the Commission. 

[12] Public guidance published by our Division of Enforcement ("DOE") provides that monetary and non-monetary relief in analogous cases is a factor to be considered in determining an appropriate civil monetary penalty.  See Civil Monetary Penalty Guidance at 4 (DOE May 20, 2020), available at CFTC Division of Enforcement Issues Civil Monetary Penalty Guidance | CFTC.  It should be considered by the Commission in all its charging and sanctions determinations.
The United States District Court for the Southern District of New York entered a Consent Order against Jimmy Gale Watson requiring him to disgorge over $146,000 and to pay an equal amount in a civil monetary penalty; further, he is permanently prohibited from engaging in further violations of the Commodity Exchange Act and CFTC regulations as charged, and subject to registration and trading bans. As alleged in part in the CFTC Release:

As found in the order, Watson participated in the scheme by assisting in the strategic selection of suitable digital assets. As is typical of pump-and-dump schemes, he also secretly accumulated positions in digital assets in anticipation of price spikes following the misleading social media endorsements that touted the assets. These endorsements "pumped" the asset in order to increase demand, while deceptively concealing the previously accumulated position and the intent to promptly sell the position. He then "dumped" the digital asset by selling it into the inflated demand as price levels rose in response to the deceptive touting.
For the purpose of proposing a settlement of rule violations alleged by the Financial Industry Regulatory Authority ("FINRA"), without admitting or denying the findings, prior to a regulatory hearing, and without an adjudication of any issue, Michael Cho submitted a Letter of Acceptance, Waiver and Consent ("AWC"), which FINRA accepted. The AWC asserts that Michael Cho was first registered in 1995, and from 2000 to 2021, he was registered with Morgan Stanley. In accordance with the terms of the AWC, FINRA imposed upon Cho a $5,000 fine and a 15-month suspension from associating with any FINRA member in all capacities. As alleged in part in the AWC:

At all relevant times, Morgan Stanley's written supervisory procedures required registered representatives to obtain supervisory review and approval prior to distributing any comfort or proof of funds letters, and to use the firm template when doing so. From July 2020 to January 2021, Cho drafted and signed fifty letters on Morgan Stanley letterhead that he sent to various third parties at the request of a firm customer. In every instance, contra1y to the film's policies, Cho did not use the firm's approved comfort letter template, nor did he obtain prior firm approval to send them. The customer requested the letters on behalf of his company that was listed as the buyer in purchase contracts for COVID-related personal protective equipment. The letters falsely represented that the customer held sufficient assets in a corporate account at Morgan Stanley to cover the purchase contracts, which ranged in value from $2 billion to almost $10.45 billion. In fact, the customer's corporate account at Morgan Stanley had been closed, and the only account at the time that Morgan Stanley held for the customer was a personal account with $100,000. 

Therefore, Cho violated FINRA Rule 2010.
For the purpose of proposing a settlement of rule violations alleged by the Financial Industry Regulatory Authority ("FINRA"), without admitting or denying the findings, prior to a regulatory hearing, and without an adjudication of any issue, Wilson-Davis & Co., Inc. submitted a Letter of Acceptance, Waiver and Consent ("AWC"), which FINRA accepted. The AWC asserts that Wilson-Davis & Co., Inc has been a FINRA member firm since 1968 with 43 registered representatives. In accordance with the terms of the AWC, FINRA imposed upon Wilson-Davis & Co., Inc. a Censure and $100,000 fine. As alleged in part in the AWC's "Overview":

Between March and July 2018 and June and August 2020, Wilson-Davis had deficiencies in the reserves in its special reserve bank account for the exclusive benefit of customers (Customer Reserve Account) ranging from $101,468 to $693,703. Additionally, between February 2018 and August 2018, Wilson-Davis had deficiencies in the reserves in its proprietary securities account of a broker or dealer (P AB Account) ranging from $100,000 to $200,000. Therefore, Wilson-Davis violated Section 15(c) of the Securities Exchange Act of 1934 (Exchange Act), Exchange Act Rule 15c3-3(e), and FINRA Rule 2010. 

Between September 2019 and November 2020, Wilson-Davis failed to maintain customer securities in an outside money market/sweep account that was a good control location. Therefore, Wilson-Davis violated Exchange Act Section 15(c), Exchange Act Rule 15c3- 3(c)(l), and FINRA Rule 2010. 

Between February 2018 and March 2021, Wilson-Davis's supervisory system, including its written procedures, was not reasonably designed to achieve compliance with the Customer Protection Rule, specifically the obligation to accurately calculate PAB account requirements and detect errors in that calculation under Exchange Act Rule 15c3- 3 ( e ). Therefore, the firm violated FINRA Rules 3110 and 2010.
What happens when you have a FINRA Arbitration Award that combines circular logic with a nested loop and a Mobius strip? Well, you sort of wind up with a Respondent, who, if he were acting as an independent contractor, he would be covered under the Independent Contractor Agreement at issue; however, if he's not acting as an IC, then he's not covered under the IC Agreement because there wasn't any non-IC transaction in which Respondent participated, and, as such, he's not entitled to non-IC commissions for not having participated in any non-IC transactions, which didn't arise anyway.