UNITED STATES OF AMERICA
COMMODITY FUTURES TRADING COMMISSION
|In the Matter of :
||CFTC Docket No.
|SHAHROKH NIKKHAH||OPINION AND ORDER|
Both the Division of Enforcement ("Division") and respondent Shahrokh Nikkhah appeal from an initial decision of an Administrative Law Judge ("ALJ"). The ALJ sustained the Division's allegations that Nikkhah fraudulently allocated customer positions in violation of Section 4b(a) of the Commodity Exchange Act ("Act"),1 as well as related allegations involving improper trade practices, deceptive promises and failure to prepare and maintain required records. In several instances, however, the ALJ dismissed claims that the Division raised against Nikkhah. As to sanctions, the ALJ imposed a cease and desist order and 10-year trading ban, but denied the Division's request for the imposition of a registration revocation and civil money penalty.
Nikkhah contends that the ALJ was biased and that his
findings of violations are contrary to the record. The Division argues that the ALJ
erred by rejecting some of its claims and failing to impose additional sanctions. For
the reasons that follow, we affirm the ALJ's factual findings, as well as the bulk
of his liability analysis. Concerning sanctions, in addition to imposing a cease and
desist order and 10-year trading prohibition, we grant Nikkhah 30 days to show why it
would be inappropriate to impose a civil money penalty of $200,000.
The Commission commenced this action by filing a Complaint in June 1995. The Complaint named Prudential Securities, Inc. ("prudential") and Nikkhah as respondents.2 The Commission's allegations fall into three broad categories. The first includes allegations that Nikkhah engaged in a fraudulent allocation scheme affecting customer accounts that respondent traded on a discretionary basis3 during 1990.4 The second category includes allegations of different types of wrongdoing affecting specific customer accounts that Nikkhah traded during 1990 and 1991.5 The third category includes an allegation that Prudential failed to diligently supervise Nikkhah.6
In August 1995, Nikkhah filed an answer denying the material elements of the Complaint's allegations.7 During the discovery period, he requested that the ALJ assigned to this case recuse himself from further participation. Nikkhah's motion questioned the ALJ's ability to resolve this case's material factual disputes in an impartial manner. He emphasized that the ALJ had already resolved some of these disputes in a manner adverse to Nikkhah in a related reparations case.8 After the ALJ concluded that recusal was unwarranted, Nikkhah sought interlocutory review on this issue. The Commission denied review in March 1996.
In February 1998, the ALJ conducted four days of hearings
in New York City. The Division placed substantial reliance on documentary evidence as
proof of the Complaint's allegations relating to fraudulent allocation. It
buttressed this evidence with testimony from Commission investigator Elizabeth
Hastings, New York Mercantile Exchange ("NYMEX") floor broker Rodney Dow,
and two of Nikkhah's trading assistants - Marcie Forsythe and Mark Lawrence
Tunkel. Nikkhah testified both as a witness for the Division and as a witness for his
defense. Nikkhah also presented the testimony of trading assistant Marcie Forsythe and
NYMEX floor brokers John Kilgallem and Jeffrey Grossman.
The ALJ issued his Initial Decision in November 1998. In re Nikkhah, [1998-1999 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,460 (Nov. 5, 1998) ("I.D."). In assessing the parties' factual disputes, the ALJ relied heavily on the documentary evidence submitted by the Division. Generally, the ALJ only credited Nikkhah's testimony when it was consistent with this documentary evidence. The ALJ did not specifically discuss the credibility of other witnesses, but he relied on the testimony of Nikkhah's assistants, Forsythe and Tunkel, and the three floor broker witnesses, Dow, Kilgallem and Grossman, for several of his factual findings.
As to the allegations relating to fraudulent allocations of discretionary customers' trades, the ALJ noted that Nikkhah acknowledged that his practice was to enter "bunch" orders for the accounts he traded on a discretionary basis.9 The judge explained that both documentary evidence and testimony from four witnesses established that at the time he communicated a bunch order to the trading floor, Nikkhah did not provide account identification for the specific customers participating in the order. Id. at 47,201. Based on testimony from three floor brokers who had filled some of these bunch orders for Nikkhah, the ALJ found that it was Nikkhah's practice to delay providing account identification for the specific customers participating in the order until at or after the close of trading.
The ALJ found that both documentary evidence and
testimony established that Nikkhah's personal practice was to list information
about orders that he entered for his discretionary customers on "white
sheets" rather than the order ticket forms Prudential provided. Nikkhah did,
however, have his assistants fill out Prudential's order ticket forms based on the
information Nikkhah had listed on the "white sheets." Id. at 47,200.
Indeed, Nikkhah directed his assistants to create a separate order ticket for each
customer that had a share in a bunch order. Id. at 47,201. The ALJ emphasized
that documentary evidence showed that these order tickets were not time stamped until
one or two hours after the pit card recording the order's execution was time
stamped. The judge also noted that initiating and offsetting orders were sometimes
recorded on the same order ticket and that, on occasion, all or most of the order
tickets for crude-oil trades were not time stamped until after the close of trading.
In light of these findings, the ALJ concluded that Nikkhah violated Section 4b(a) and 4c(b) of the Act by delaying his allocation of bunch orders among his discretionary customers until after the orders had been executed. This practice, the judge explained, permitted Nikkhah to "exercise discretion as to which accounts would receive the better trades." Id. at 47,202. In this regard, the ALJ specifically rejected Nikkhah's testimony that he never allocated trades to a customer after determining the price of a fill. Id. at 47,201. The judge acknowledged that no evidence suggested that Nikkhah's allocation scheme was employed to divert profitable trades to his own account, but emphasized that "it is unlawful to allocate executed trades, particularly if the allocation scheme is to the detriment of one customer and for the benefit of another customer." Id. at 47,202.
The ALJ also viewed this evidence as sufficient to sustain the Division's claim that Nikkhah had failed to fulfill his recordkeeping obligations. In this regard, the judge noted that Nikkhah did not provide account identification for the specific customers participating in the order at the time he communicated a bunch order to the trading floor and directed his assistants to fill out Prudential's order ticket forms after the bunch order had been filled. Id. at 47,203. The ALJ found that the latter practice was designed "to conceal [the allocation scheme] from any reviewing authorities." Id. at 47,201. The ALJ also found that Nikkhah's failure to retain his "white sheets" violated applicable recordkeeping requirements.
The ALJ found that the record was insufficient to sustain the Division's claim that Nikkhah's allocation scheme violated Section 4o of the Act. In this regard, the ALJ emphasized that Nikkhah did not intend to act as a commodity trading advisor ("CTA") and that the evidence "fail[ed] to show that [Nikkhah's] activities were foreign to his role as an associated person." Id. at 47,203. On this basis, the judge concluded that Nikkhah had not been acting as a CTA during the relevant time period. Id.
Regarding the Complaint's allegations of wrongdoing affecting specific customer accounts, the ALJ only made detailed findings on issues relating to Nikkhah's alleged unauthorized trading and deception regarding the status of the Prival account.10 The judge found that in July 1990, the owner of the Prival account resolved a dispute with respondent regarding Nikkhah's prior handling of Prival's account. As a result, Prival deposited $200,000 into an account that Nikkhah was authorized to trade on a discretionary basis. In return, Nikkhah promised to inform Prival if the value of the account fell by $100,000.11 Id. at 47,201. The ALJ found that Nikkhah failed to provide the required notice when the $100,000 reporting level was reached on August 24, 1990. The ALJ discredited Nikkhah's testimony that he had provided the required notice on August 28 as inconsistent with documentary evidence indicating that, as of September 6, 1990, Prival was unaware that the loss limit had been reached. Id. at 47,201-02. Indeed, the judge found that Nikkhah took a variety of steps between August 1990 and January 1991 to conceal the real status of the discretionary account from Prival. Id. at 47,202.12
The ALJ made more general findings relating to the Complaint's allegations regarding false assurances and improper transfer trades. The ALJ found that, on at least one occasion, Nikkhah falsely assured a customer that there would be no margin calls or losses beyond the amount already deposited in its account. Id. at 47,203. The ALJ also found that Nikkhah made improper use of an "as of" trade correction to transfer profitable trades from one customer's account to another customer's account. In this regard, the judge noted that Nikkhah's use of "as of" trades to cover his dishonest dealings was among respondent's most flagrant misconduct. Id. The judge also generally found that the evidence established that "Nikkhah mishandled and improperly traded accounts other than Prival's accounts." Id. at 47,202.
In light of these findings, the ALJ specifically concluded that Nikkhah violated Rules 1.56(c) (prohibiting assurances that margin calls will not be made) and 1.38(a) (prohibiting the transfer of futures positions by noncompetitive means). He found that the Division had failed to sustain its claim that Nikkhah's handling of the Prival account violated Rule 166.2 (prohibiting the AP of an FCM from exercising discretion over a customer's account in the absence of a written grant of discretionary authority). In this regard, the judge explained that the evidence did establish that Nikkhah's conduct frequently was unauthorized, but did not show that the conduct at issue amounted to unauthorized trading. Id. at 47,203. In addition, the ALJ dismissed the Division's allegation that Nikkhah failed to fulfill his disclosure obligation. The judge noted that the rule that the Division relied upon did not impose a disclosure obligation on APs of FCMs such as Nikkhah. Id.
The ALJ rested his sanctions analysis on a variety of
factors. As noted above, in evaluating the nature of respondent's wrongdoing, the
ALJ found that Nikkhah engaged in his improper allocation scheme "deliberately
and knowingly." Id. at 47,203. He also found that Nikkhah directed his
assistants to prepare separate office order tickets in order to conceal his fraudulent
allocation practices and employed improper transfer trades to cover up his dishonest
dealings. He emphasized that Nikkhah's violations were of a serious nature and
continued over a period of months. Id. at 47,203. The judge acknowledged that
the evidence did not establish that Nikkhah had allocated trades to his own account.
He also noted that Nikkhah was in "poor financial shape" due to a lawsuit
Prudential was pursuing against him to enforce promissory notes for one million
dollars. Id. at 47,202.
In view of these factors, the ALJ imposed a cease and desist order and ten-year trading prohibition on respondent. He declined to impose a registration sanction because Nikkhah's registration had lapsed during the pendency of the proceeding and "revocation or suspension of his license may not be ordered . . . ." Id. at 47,203. The judge also declined to impose a civil money penalty because the violations at issue had occurred several years earlier and Nikkhah had a negative net worth. Id.
Both parties raise a variety of challenges to the
ALJ's analysis. Nikkhah focuses primarily on a procedural point - the ALJ's
refusal to recuse himself due to his participation in the Prival reparations
case. On the substance, he challenges many of the ALJ's factual assessments as
one-sided and conclusory; he also contends that the ALJ erred by holding him
responsible for recordkeeping obligations that the Act and regulations impose solely
on FCMs such as Prudential.
The Division argues that the ALJ placed undue restrictions on its use of admissions Nikkhah made in an investigatory deposition and in testimony during the Prival reparations case. It also challenges both the factual findings and legal interpretations underlying the ALJ's dismissal of the Complaint's allegations regarding Section 4o of the Act and Rules 33.7 and 1.56. In addition, the Division argues that both a registration revocation and civil money penalty are appropriate sanctions in the circumstances of this case.I.
Nikkhah contends that the ALJ should have recused himself because a reasonable person would regard the judge's participation in the Prival reparations case as a reasonable basis for doubting his impartiality. Nikkhah notes that in deciding the Prival matter the ALJ considered factual issues material to the decision in this case and resolved them against Nikkhah. Respondent also emphasizes that the ALJ discredited Nikkhah's testimony in the reparations proceeding and could not reasonably be expected to ignore this negative evaluation in assessing Nikkhah's credibility in this case. Nikkhah contends that the ALJ's role was like that of a trial judge assigned to sit in appellate review of his decision and insists that the judge's performance of this assignment provides a reasonable basis for doubting his impartiality.
We have held that under Rule 10.8(b) disqualification of
a presiding officer is appropriate when the record establishes that the presiding
officer has either (1) a personal bias stemming from an extrajudicial source or (2) a
deep-seated favoritism or antagonism that makes a fair judgment impossible. In re
Mayer, 1998 WL 80513 at *16 (CFTC Feb. 25, 1998) aff'd sub nom.
Reddy v. CFTC, 191 F.3d 109 (2nd Cir. 1999). Because Nikkhah
concedes that the ALJ's all.eged bias does not arise from an extrajudicial source,
we focus on the latter standard. In applying this standard, we look for evidence that
the presiding officer has an "unfavorable disposition" that is
"wrongful or inappropriate" because it is undeserved or excessive in degree.
In this instance, the record does not establish that the ALJ had such an unfavorable disposition. The ALJ was exposed to unfavorable information about Nikkhah during the Prival reparations case and did find that portions of Nikkhah's testimony in the reparations case were incredible. Nevertheless, the ALJ dismissed a number of the allegations Prival raised against Nikkhah in the reparations case. Simarly, in this case, the ALJ found that portions of Nikkhah's testimony were incredible. He also credited some of respondent's testimony, however, and dismissed several of the Division's allegaions. Moreover, the judge highlighted aspects of the evidence favorable to Nikkhah - twice mentioning that there was no evidence that respondent's wrongdoing involved allocation of profitable customer trades to his own account. On this record, we cannot find that the ALJ had an unfavorable disposition toward Nikkhah that was wrongful or inappropriate.
Nikkhah's claim that the ALJ effectively sat in appellate review of his reparations decision is facially flawed. A separate appeal process involving both the Commission and a United States Court of Appeals was available as a check on the reliability of the ALJ's factual assessments in the Prival case. A similar appeal process is available as a check on the reliability of the ALJ's factual assessments in this case. The availability of de novo factual review before the Commission clearly distinguishes this matter from the case on which respondent relies.13
Apart from this argument, Nikkhah is left with a general claim that the ALJ should be deemed to have an unfavorable disposition that was wrongful or inappropriate simply because he had previously resolved similar factual matters against respondent in the Prival case. We have recognized, however, that negative opinions about a party that arise from a presiding officer's participation in another adjudication are generally insufficient to establish that the presiding officer has a deep-seated favoritism or antagonism that makes a fair judgment impossible. Hinch v. Commonwealth Financial Group, [1996-1998 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,056 at 45,023 n.6 (CFTC May 13, 1997). See also, DelVecchio v. Illinois Dept. of Corrections, 31 F.3d 1363, 1379 (7th Cir. 1994) (due process does not mandate disqualification of a judge presiding over a criminal prosecution simply because the judge had sentenced the defendant in a previous case).
Nikkhah has failed to demonstrate that the ALJ had a deep-seated favoritism or antagonism that makes a fair judgment impossible. In these circumstances, the ALJ did not err by denying respondent's motion to disqualify.
Limitations on the Division's Use of Nikkhah's
The Division argues that the ALJ imposed undue limitations on its use of admissions Nikkhah had made in both testimony offered in the Prival proceeding and an investigatory deposition conducted by the Division. The admissibility of this material became an issue on the last day of the hearing when counsel for the Division sought to introduce the transcripts of Nikkhah's Prival testimony and investigatory deposition as direct evidence.14 The ALJ initially indicated both that he believed these documents should be used only for purposes of impeachment and that he did not "want to be burdened with having to read, analyze, and digest [them] without the help of the parties." (Transcript at 346.) After counsel for the Division indicated that she wished to offer the documents as an admission of a party, the ALJ reiterated that he didn't like to have "a whole lot of material dumped into the case for me to handle on my own." (Transcript at 347.) After sustaining the objection of Nikkhah's counsel, the ALJ remarked that:
[N]ow, we've had the witness look at the deposition and at the transcript of testimony and he's indicated that that testimony that he read there was true and correct to the best of his knowledge even today. So we know that.
Id. The judge then permitted counsel for the Division to identify the exhibits and stated that they would be included in the record as "rejected document[s]." Id.
The Division argues that the ALJ should have accepted Nikkhah's Prival testimony and investigatory deposition as admissions of a party. This position draws support from the language of Rule 10.67 providing that "[r]elevant, material and reliable evidence shall be admitted." Even
if Nikkhah had declined to adopt his prior statements, both Nikkhah's Prival testimony and
investigatory deposition should have been included in the record to the degree they include relevant admissions by a party opponent. Such admissions have sufficient indicia of reliability to meet the standards of Rule 10.67.15
At the time it raised its motion before the ALJ, however,
the Division did not specify the portions of the two transcripts it viewed as
admissions relevant to the disputed issues of material fact in this case. Presiding
officers are not required to evaluate these types of transcripts on an all or nothing
basis. Indeed, the ALJ would have been within his discretion both in requiring the
Division to specify the admissions it was relying on and in excluding "unduly
repetitious evidence" in accordance with Rule 10.67. Because the basis for the
ALJ's ruling is unclear, however, we hesitate to affirm his ruling on this
Given these circumstances, we conclude that the ALJ erred by failing to clearly articulate a basis for his ruling. On appeal, the Division has cited to one passage of the rejected transcripts as an admission material to its case.16 (Division's Appeal Brief at 35 n. 9.) To cure the ALJ's error without causing undue delay, we accept that passage into the evidentiary record for this proceeding.17
As noted above, both parties raise a variety of challenges to the ALJ's substantive analysis. As a matter of convenience we organize our discussion a.round two broad categories - issues relating to the alleged fraudulent allocation scheme that generally affected Nikkhah's customers with discretionary accounts and issues relating to the alleged wrongdoing that only affected specific customer accounts.
Issues Relating to Fraudulent Allocation
A. The Allocation Scheme
Nikkhah focuses his challenges to the ALJ's conclusion that he fraudulently allocated customer trades on what respondent contends are one-sided factual assessments. He claims that the ALJ gave undue weight to evidence that the order tickets prepared by his assistants were not time stamped until after the order had been executed and failed to give appropriate weight to evidence that the "white sheets" played an integral role in his trading of discretionary accounts. Nikkhah characterizes these missing documents as "the official office orders." He argues that he not only recorded all the information required by Rule 1.35(a-1) on the "white sheets," but also time stamped them at the time he communicated the bunch orders to the trading floor. (Appeal Brief at 6.) Similarly, he contends that the judge gave undue weight to the Division's proof that account identification for the specific customers participating in a bunch order was not provided at the time he communicated the order to the trading floor and failed to give appropriate weight to evidence that Nikkhah's practice was consistent with NYMEX floor practices during the period at issue. Finally, respondent criticizes the judge for overlooking the Division's failure to establish that that he had any motive to cheat Prival.
This is the first adjudicated case requiring the Commission to assess the propriety of an allocation process for bunch orders. Our prior adjudicated cases involving allocation have focused primarily on the Division's proof that respondents actually were employing an allocation process. See In re GNP Commodities, Inc., [1990-1992 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 25,360 (CFTC Aug. 11, 1992)("GNP") aff'd sub nom. Monieson v. CFTC, 996 F. 2d 852 (7th Cir. 1993); In re Lincolnwood Commodities, Inc., [1982-1984 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 21,986 (CFTC Jan. 31, 1984). Here, however, because Nikkhah acknowledges that he had a practice of entering bunch orders, he cannot deny that allocation played a role in his trading process. In these circumstances, our focus is on whether the characteristics of Nikkhah's allocation process were consistent with the requirements of Section 4b(a) of the Act.
Our decision in GNP provided guidance on the necessary characteristics of an appropriate allocation process. There we acknowledged that allocation of trades among customers is not per se fraudulent. We indicated that when an AP or a CTA bunches an order prior to communicating the combined order to the trading floor,18 even a properly documented order would require an allocation process because "more than one customer has a potential claim on the completed transaction or `fill'." GNP at 39,214. The AP or CTA who entered the bunch order must arbitrate this conflict among potential claimants. As the courts have recognized in a different context, however, conduct that arbitrarily deprives a customer of a profit opportunity amounts to fraud. See United States v. Ashman, 979 F. 2d 469, 477-478 (7th Cir. 1992). Given this restriction, APs or CTAs employing a bunch order must ensure that the allocation process they use is consistent with the duty owed to each participating customer. As we explained in GNP, this means that the process must be "predetermined and fair, such that no customer or group of customers receives consistently favorable or unfavorable treatment." GNP at 39,214.19
When Nikkhah's practice is examined in light of these principles, it is notable that two elements of the ALJ's factual analysis go unchallenged by respondent. He acknowledges that his general practice was (1) to withhold account identification for the specific customer accounts participating in a bunch order when he communicated the order to the trading floor; and (2) to have his assistants prepare order tickets for each participating customer that were not time stamped until after the order had been executed. Both factors raise serious questions about the allocation process Nikkhah employed.20 The first is consistent with intent to eliminate the type of audit trail information that would impede post-execution allocation among the eligible pool of customers. The second factor supports an inference that Nikkhah did not identify either the customers participating in the order or each customer's share of the order until after the order was filled. In the circumstances of this case, such a post-execution allocation process could only be deemed predetermined and fair for purposes of Section 4b(a) if it resulted in an equal division of the contracts among the eligible pool of customers. Otherwise, one or more of Nikkhah's customers is either deprived of a fair share of profitable contracts or compelled to accept an unfair share of unprofitable contracts.21
In essence, Nikkhah argues that the record, taken as a whole, does not support an inference that he used a post-execution allocation process. To this end, he emphasizes both the missing "white sheets" and alleged NYMEX floor practices during the period at issue as the keys to a proper understanding of his trading practices.
The record does establish that the "white sheets" played an important role in Nikkhah's trading of the discretionary accounts. Nikkhah's assistants generally corroborated respondent's testimony about the prominent role that the "white sheets" played in Nikkhah's allocation of bunch orders among customers. Both Forsythe and Tunkel testified that the "white sheets" contained information about executed transactions and were used to prepare individual order tickets for the participating customers. (Transcript at 10, 236-238, 281-282.) Tunkel testified that the "white sheets" included the quantity of the allocations, time stamps, and fills. (Transcript at 236, 277, 282.) Neither of Nikkhah's assistants, however, testified that the "white sheets" included either all the information required by Rule 1.35(a-1) or time stamps corresponding to the time the underlying bunch order was communicated to the trading floor. Nor did either of the assistants testify that Nikkhah advised them that the "white sheets" were the official office orders for his customers with discretionary accounts. Indeed, both assistants testified that they checked trades against the order tickets rather than the "white sheets." (Transcript at 11, 220-221.) Moreover, the record indicates that Prudential based its equity run on the order tickets. (Transcript at 240.)
Because there is no independent support for Nikkhah's claims that he not only recorded all the information required by Rule 1.35(a-1) on the "white sheets," but also time stamped them at the time he communicated the bunch orders to the trading floor, this aspect of respondent's argument amounts to little more than a request that we credit his claims about the "white sheets" in the face of the ALJ's negative assessment of his credibility.22 Indeed, apart from Nikkhah's testimony, nothing in this record supports an inference that Nikkhah allocated bunch orders among his eligible pool of customers prior to the time the bunch order was executed.
Our general policy is to defer to a presiding officer's credibility determinations in the absence of clear error. In re Elliott, [1996-1998 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,243 at 46,007 (CFTC Feb. 3, 1998) aff'd Elliott v. CFTC, 202 F.3d 926 (7th Cir. Feb. 3, 2000). Nikkhah has failed to demonstrate the type of error that warrants a detailed review of the ALJ's credibility assessment. In these circumstances, we decline to credit his testimony regarding the preparation of the "white sheets."
Nikkhah's reliance on alleged NYMEX floor practices is also unpersuasive. He emphasizes that his practice of withholding account identification for the specific customer accounts participating in a bunch order at the time he communicated the order to the trading floor was consistent with a widespread practice on the NYMEX trading floor whereby floor brokers and their clerks did not record such information on floor order tickets until after the order was executed.23 The record is, at best, undeveloped regarding the extent of this alleged NYMEX practice during the time at issue in this case. Even if we assume that the practice was widespread, it offers little more than a possible alternative explanation for the absence of the required information on the relevant floor order tickets. It does not support an inference that Nikkhah had determined this information prior to communicating with the floor and could have provided it if the practice of the participating floor brokers had been different. Moreover, NYMEX floor practices offer no explanation for Nikkhah's practice of having his assistants prepare and time stamp order tickets for each participating customer after the bunch order had been executed.24
Nikkhah also contends that any inference that he fraudulently allocated trades to Prival's detriment is implausible because he had no motive to cheat Prival. In this regard, he emphasizes that the amount he was required to pay Prival would be reduced by any profit earned in Prival's discretionary account. Given these circumstances, he contends that any plan to defraud Prival would amount to "financial masochism." (Appeal Brief at 35.)
As the Division notes, evidence of an evil motive is not necessary to prove a violation of Section 4b of the Act. See Reddy v. CFTC, 191 F. 3d 109, 119, (2nd Cir. 1999) ("Although evidence of motive strengthens an inference of intent, . . . motive is not an essential element of a trade practice offense"); In re R&W Technical Services, [1998-1999 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,582 at 47,743 (CFTC Mar.16, 1999) rev'd and remanded in part as to sanctions sub nom. R&W Technical Services v. CFTC, 2000 WL 217498 (5th Cir. Feb. 24, 2000). In the context of this case, the issue is not whether Nikkhah employed an allocation process designed to disadvantage Prival. The proper focus is whether the weight of the evidence shows that Nikkhah acted with intent by knowingly employing an allocation process that was neither predetermined nor fair to all his discretionary account customers, including Prival.
We have acknowledged that the absence of any plausible motive can be a significant factor in assessing circumstantial proof of intent. See In re Buckwalter, [1990-1992 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 24,995 at 37,683-37,684 (CFTC Jan. 25, 1991). In this context, it is sufficient to observe that there was a plausible reason for Nikkhah to exercise the type of arbitrary control over the allocation of profitable and unprofitable trades that is incompatible with his duty under Section 4b(a). In his testimony, Nikkhah testified that he was a very poor trader and that each of his customers with discretionary accounts lost money. (Transcript at 414-416.) Because he earned his income from commissions rather than incentive fees, however, Nikkhah could profit from continued trading even if his customers lost money. In these circumstances, Nikkhah had an incentive to foster continued trading in his customers' accounts. By distributing winning and losing positions in a manner that disguised losses or otherwise lessened the likelihood that customers would close their accounts, Nikkhah could protect his interest in the continued flow of commission payments. While the evidence indicates that Prival received a disproportionate share of losing contracts,25 it is possible, if not likely, that this was more of a foreseeable consequence of Nikkhah's allocation scheme than its specific aim. In any case, the absence of clarity on this issue does not detract from our conclusion that Nikkhah employed a post-execution allocation process that did not allocate profits and losses on a predetermined and fair basis. In the circumstances of this case, his conduct amounts to a violation of Section 4b(a) of the Act. 26
Nikkhah also focuses on the "white sheets" in challenging the ALJ's conclusion that he aided and abetted Prudential's failure to fulfill its recordkeeping obligations. He contends that the "white sheets" included all the information required by Rules 1.35(a) and 1.35(a-1)(1).27 He notes that Prudential was aware that he used the "white sheets" and had a regulatory duty to retain these records. He points to testimony by his assistants that the "white sheets" were maintained in a file at Prudential and emphasizes that the "white sheets" were still available when he left his employment with Prudential in March 1991. He contends that it would be inappropriate to hold him responsible for Prudential's apparent disposal of the records following his departure.
None of the recordkeeping requirements at issue in this case apply directly to respondent. As pertinent here, Section 4g of the Act, and Rules 1.31, 1.35, and 1.37 impose duties on FCMs such as Prudential, not APs such as Nikkhah. APs, however, play a vital day-to-day role in the recordkeeping systems maintained by FCMs. Indeed, APs such as Nikkhah are often delegated their employing FCM's responsibility for preparing the "written record" of customer orders required by Rule 1.35(a-1). Such a delegation does not impose a direct regulatory obligation on the AP. It does, however, create an opportunity for APs such as Nikkhah to aid and abet an FCM's failure to meet its regulatory responsibilities.28 The record here provides ample support for the ALJ's conclusion that Nikkhah aided and abetted Prudential's violations of Section 4g of the Act and Rules 1.31, 1.35(a) and 1.35(a-1).
As noted above, only Nikkhah's testimony supports his
claim that the "white sheets" met all the requirements of Rule 1.35(a-1).
Once that evidence is dismissed in light of the ALJ's credibility determination,
the record supports an inference that, for orders of Nikkhah's discretionary
trading customers, no one "immediately" created a written record meeting the
requirements of Rule 1.35(a-1). In particular, the record supports an inference that
Nikkhah's preparation of the "white sheets" did not include either an
immediate recording of an account identification or an immediate timestamp. Finally,
the record supports an inference that Nikkhah knew this information was required and
intentionally failed to record it because an immediate recording of the information
was incompatible with his allocation scheme. On this basis, we conclude that Nikkhah
aided and abetted Prudential's violations of Section 4g of the Act and Rule
Although we reject Nikkhah's claim that the "white sheets" were the official office orders, they did amount to "memoranda" that includes "pertinent data" for transactions Prudential undertook in its business of dealing in commodity futures and options. Under Rules 1.31 and 1.35, Prudential was required to maintain such documents for five years. Nikkhah concedes that the "white sheets" were not retained for five years, but contends he did not intentionally assist the apparent disposal of the records. In this regard, he essentially argues that Prudential took independent steps to dispose of the records after he departed in March 1991.
The Division emphasizes that on two occasions prior to
the initiation of this proceeding, Nikkhah testified that he was aware that his
assistants were disposing of the "white sheets." (Transcript at 135-137.)
Nikkhah now claims that his earlier testimony was incorrect, and based on a
"mistaken assumption." (Transcript at 191, 414-415.) He emphasizes testimony
from his assistants that he claims shows that the "white sheets" were on
file at Prudential when he left in March 1991.
Nikkhah's interpretation of his assistants' testimony is not supported by the record. Neither Forsythe nor Tunkel claimed to have specific knowledge of the fate of the "white sheets." Both did testify that the "white sheets" were kept in a file cabinet or desk drawer. (Transcript at 220, 335.) Tunkel testified that a file containing "white sheets" was moved with Nikkhah's group when it moved from one office to another. He did not, however, indicate that this file included all the "white sheets" Nikkhah had used up to that point. Moreover, since Tunkel departed Prudential prior to March 1991, he had no basis for testifying that all the "white sheets" were maintained until that time. Forsythe did indicate that she believed the "white sheets" were still in a file cabinet at Prudential when Nikkhah and his group departed in March 1991. She qualified her testimony, however, in a manner indicating that her belief rested on an inference rather than personal knowledge.29
Given the equivocal nature of Forsythe's testimony, and the unequivocal nature of Nikkhah's two admissions, we find that Nikkhah knew that his assistants were disposing of at least some of the "white sheets" and failed to take any steps to stop this practice. In light of this finding, we conclude that Nikkhah aided and abetted Prudential's violation of Section 4g of the Act and Rules 1.31 and 1.35(a).30
Issues Relating to Other Alleged Wrongdoing
A. Assurances Prohibited by Rule 1.56
Nikkhah challenges the ALJ's conclusion that he offered one of his customers the type of assurances prohibited by Rule 1.56.31 Nikkhah acknowledges that he agreed to the following undertaking proposed by Syphax Oil Trading Inc. (Panama) ("Syphax") in a February 25, 1991 letter to Prudential:
Mr. Nikkhah shall exercise his discretion and limit transactions in all Syphax accounts in a manner that ensures that no margin calls will occur, and that Syphax shall not be subject to any liability above and beyond the balances maintained in the accounts.
Nikkhah argues, however, that his endorsement of this
provision does not amount to an assurance prohibited by Rule 1.56 because (1) Nikkhah
had full control over the trading in Syphax's account, (2) Syphax was a major
trader and understood Nikkhah's day trading strategy, and (3) Nikkhah believed he
could fulfill the undertaking by limiting his trading in light of margin
By its terms, Rule 1.56 prohibits representations that "in any manner" offer assurances that a FCM will limit a customer's loss. The statement that "Syphax shall not be subject to any liability above and beyond the balances maintained in the account" is clearly such an assurance. The record supports an inference that Nikkhah endorsed this language on behalf of Prudential rather than solely in his personal capacity. None of the factors Nikkhah relies on detract from the ALJ's conclusion that Nikkhah thereby violated Rule 1.56.
B. Non-Competitive Transfer of Futures Contracts
Nikkhah's challenge to the ALJ's conclusion that he violated Rule 1.38 rests on his innocent explanation of the transfer at issue. He also contends that the ALJ misunderstood the significance of an industry practice that documents a transfer of a trade error out from the "wrong" account and into the "right" account by an "as of" trade.32
Nikkhah acknowledges that several days after 10 crude oil contracts were posted to Prival's account, he had the 10 contracts transferred from Prival's account to a non-discretionary account owned by Myron Podgurski. As a result of this transfer, Podgurski's account gained $2,380 and Prival's account lost the same amount. Nikkhah insists that this transfer was appropriate because he was simply correcting an error by means of an "as of" trade, a transfer technique that is widely accepted in the futures industry.
The Division raises several problems with Nikkhah's
innocent explanation for his conduct. First, it notes that the record shows that
Nikkhah's assistants normally placed orders for non-discretionary customers, yet,
in this instance, Nikkhah supposedly accepted an order from a non-discretionary
customer and combined it with orders for discretionary accounts in a single bunch
order. Next, the Division notes that the record shows that Nikkhah reviewed the daily
equity runs for all of his customer accounts, yet, in this instance, Nikkhah
supposedly failed to detect the alleged error for several days. Third, the Division
notes that Tunkel, the Nikkhah assistant whom respondent claims was directed to make
the transfer, recalled nothing about this specific transfer. Finally, the Division
urges us to consider Nikkhah's innocent explanation in
the context of the evidence establishing that Nikkhah employed a fraudulent allocation scheme to Prival's detriment.
We agree that the factors the Division cites provide ample grounds to reject the innocent explanation Nikkhah offered for the transfer. While the ALJ did not specifically comment on this aspect of Nikkhah's testimony, his conclusion that Nikkhah violated Rule 1.38 represents an implicit discrediting of Nikkhah's explanation. As for the alleged industry practice of using an "as of" trade to transfer errors from one account to another, Nikkhah did not produce evidence of the precise nature of the practice. In particular, he did not cite to any exchange rule that authorizes the non-competitive transfer of futures contracts in the circumstances disclosed on this record.
Rule 1.38 clearly requires that transactions in futures contracts be executed openly and competitively during regular trading hours unless the transactions are executed "in accordance with written rules of [a] contract market which have been submitted to and approved by the Commission . . . ."33 Moreover, as we have noted in another context, evidence that members of the industry viewed certain types of non-competitive transactions as acceptable neither excuses nor mitigates the seriousness of knowing participation in non-competitive transactions. In re Ryan, [1996-1998 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,049 at 44,981 (CFTC Apr. 25, 1997) ("if an exchange is unable or unwilling to enforce compliance with applicable law, there is a greater need for the Commission to impose sufficiently significant sanctions to deter others from similar behavior and to protect the public interest.") aff'd sub nom. Ryan v. CFTC, 145 F.3d 910 (7th Cir. 1998).
In light of our independent review of the record, we conclude that Nikkhah knowingly participated in a non-competitive transaction in violation of Rule 1.38.
C. Deception Concerning Account Status and Trading Contrary the Requirements of Rule 166.2
The Division challenges the ALJ's dismissal of its allegation that Nikkhah violated Rule 166.2 by trading two customer accounts on a discretionary basis after the authority granted in each customer's written power of attorney had terminated. The Division argues that the written powers of attorney for accounts maintained by Prival and Marc Henrion were subject to a condition - losses could not exceed a specified amount.34 It contends that Nikkhah violated Rule 166.2 by continuing to trade both accounts after he knew the loss limits had been reached.
Nikkhah supports the ALJ's dismissal of the Division's allegations under Rule 166.2. He argues that the authority Prival and Henrion granted by executing powers of attorney was never revoked. He contends that the equity in Henrion's account never fell below the 30 percent loss limit. As for the Prival account, Nikkhah reiterates his claim that Prival authorized continued trading after receiving notice that the loss limit had been reached. In effect, this argument challenges the ALJ's conclusion that Nikkhah violated Sections 4b(a) of the Act by deceiving Prival about the status of its discretionary account.
As pertinent here, Rule 166.2 requires APs of FCMs to obtain a customer's specific authorization35 prior to submitting orders for execution unless the customer has executed a written authorization permitting the AP to enter orders without specific authorization. Nikkhah acknowledges that he did not obtain specific authorization from Prival or Henrion prior to entering the orders at issue. The Division, in turn, acknowledges that Prival and Henrion had executed written powers of attorney permitting Nikkhah to trade their accounts without specific authorizations. The focus of this aspect of the parties' dispute is whether the written powers of attorney were effective at the time Nikkhah entered the orders at issue.
We turn first to the underlying factual disputes. The Division relies on documentary evidence to establish that the equity in Henrion's account was below $70,000 by the end of June 1990. Nikkhah claims that this documentary evidence is unreliable because it fails to account for commission rebates Prudential owed Henrion. He also emphasizes that Henrion's agent was kept informed of the value of the account and did not direct Nikkhah to cease trading until October 1990. Nikkhah concedes that the loss limit for the Prival account was reached in August 1990, but emphasizes his own testimony that he notified Prival that losses had exceeded $100,000 as well as documentary evidence indicating that Prival was aware of the equity level in the discretionary account.
The ALJ specifically found that Nikkhah's testimony regarding notice to Prival was not credible. Nikkhah has not established any clear error affecting this determination. We find that Nikkhah knew that the equity in Prival's account had fallen to less than $100,000 in August 1990 and intentionally failed to inform Prival. The ALJ also correctly found that Nikkhah took a variety of steps between August 1990 and January 1991 to conceal the real status of Prival's discretionary account. These steps included supplying false information and withholding information about transfers of funds between Prival's accounts. The record clearly demonstrates that Nikkhah's conduct deceived Prival in violation of Section 4b(a) of the Act.36
We find that Nikkhah's testimony regarding commission
rebates Prudential owed to Henrion is also unbelievable. In this regard, it is notable
that Nikkhah was unable to provide persuasive documentary support for his claim that
Prudential owed Henrion rebates of at least $9,400 by the end of June 1990. We find
that Nikkhah knew that Henrion's equity had fallen to less than $70,000 by the end
of June 1990 but continued to trade the account without specific
In light of these findings, we conclude that Nikkhah traded Henrion's account in violation of Rule 166.2. The language of Henrion's March 7, 1990 letter demonstrates an unmistakable intent to limit the authority conveyed in the March 7, 1990 power of attorney he executed. In effect, the letter notified Nikkhah that Henrion intended that the power of attorney have a conditional expiration date. Nikkhah's silence in the face of this letter creates an inference that he understood this condition as a limitation on his authority.
The record, however, is unclear regarding Prival's intent in insisting on notice when the equity in the discretionary account fell by $100,000. If Prival intended that Nikkhah cease trading at this point, it could have specified such a requirement. The Division chose not to present the testimony of Prival's owner regarding the import of the notice requirement and we are unwilling to infer that most customers would intend that such notice provisions be interpreted as limitations on the authority granted in powers of attorney.38 In these circumstances, we cannot conclude that Nikkhah's trading of the Prival account violated Rule 166.2.
D. Risk Disclosure Under Rule 33.7
The Division challenges the ALJ's dismissal of its
allegation that Nikkhah violated the disclosure obligations imposed by Rule
33.7.39 As the ALJ indicated, Rule
33.7 does not impose any duties on APs such as Nikkhah. FCMs often do delegate the
responsibility for fulfilling Rule 33.7's requirements to APs. As noted above,
however, such a delegation does not impose direct liability on APs; it creates
opportunities to aid and abet the delegating FCM's violations. Because the
Complaint only included an allegation that Nikkhah directly violated Rule 33.7, the
ALJ did not err in dismissing it.
The parties challenge different aspects of the ALJ's sanctions analysis. Respondent generally challenges the ALJ's assessment of the gravity of his violations. Nikkhah contends that the ALJ failed to give proper consideration to evidence that NYMEX floor practices played a role in his failure to identify the customers participating in a bunch order at the time the order was communicated to the trading floor. He also emphasizes that Prudential's disposal of the "white sheets" prejudiced his ability to establish the bona fides of his trading practices. In addition, he argues that imposition of a trading ban is inappropriate since nothing in the record even implies that Nikkhah's trading had an adverse effect on market integrity.
The Division focuses its challenges on the ALJ's refusal to impose either a registration revocation or civil money penalty. It contends that the ALJ committed legal error by concluding that the lapse of Nikkhah's registration during the pendency of this proceeding precluded him from revoking Nikkhah's registration. It contends that the ALJ also erred by giving undue weight to Nikkhah's conclusory testimony that his net worth was negative. The Division emphasizes both that Nikkhah violated core provisions of the Act and that his wrongful conduct extended over a significant period and affected multiple customers. It notes that Prival's discretionary account suffered a $1 million loss in 1990, with almost $550,000 of the loss resulting from trades entered after Nikkhah failed to notify Prival that its loss limit had been reached. Given these circumstances, the Division urges the Commission to revoke Nikkhah's registration and impose a civil money penalty of $500,000.
We impose sanctions in enforcement proceedings "to
further the Act's remedial policies and to deter others in the industry from
committing similar violations." In re Volume Investors Corp., [1990-1992
Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 25,234 at 38,679 (CFTC Feb. 10, 1992). In
selecting the appropriate sanctions in a particular case, we consider the ALJ's
assessment of the gravity of respondent's violations as well as the sanctions
imposed in the initial decision. We review the relevant issues de novo,
however, and exercise our independent judgment in determining the appropriate mix of
sanctions. In re Grossfeld, [1996-1998 Transfer Binder] Comm. Fut. L. Rep.
(CCH) ¶ 26,921 at 44,467 (CFTC Dec. 10, 1996) aff'd sub nom. Grossfeld v.
CFTC, 137 F.3d 1300 (11th Cir. 1998).
Determining the gravity of a respondent's violations involves several related inquiries. The first focuses on the underlying conduct's relationship to the core provisions of the Act. The gravity of fraudulent conduct, for example, is high because such conduct is contrary to one of the Act's core regulatory protections. Id. A shortcoming in recordkeeping is serious, but somewhat lower in gravity, because such requirements are less central to the Act's core regulatory protections. See generally, In re Premex, [1987-1990 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 24,165 at 34,890 (CFTC Feb. 17, 1988).
The second inquiry focuses on the facts and circumstances of the particular case. In this regard, we often look to whether the violations were knowing or unintentional and whether respondent cooperated with the authorities when the violations were discovered or otherwise sought to ameliorate the harm flowing from the violations. Grossfeld, ¶ 26,921 at 44,467-44,468 and nn.29 & 31; Premex, ¶ 24,165 at 34,891. In addition, we generally look to factors relevant to a meaningful estimate of the negative consequences flowing from the violative conduct. These include whether the violative conduct was isolated or continuous, the length of time the violative conduct continued, the number of customers affected, the financial benefit to respondent and the financial harm to customers. Grossfeld, ¶ 26,921 at 44,468 and n.30.
Finally, when some or all of the conduct at issue took place prior to October 29, 1992,40 we assess the level of civil money penalty appropriate to the gravity of respondent's violations in light of evidence of either respondent's net worth or the size of respondent's business and ability to continue in business.41 Respondents may waive their right to the latter assessment either expressly or by refusing to cooperate in the development of the record on the relevant factors. Grossfeld, ¶ 26,921 at 44,465-44,466.
Nikkhah's violative conduct includes fraudulent trade allocations, customer deception, the offering of false assurances regarding loss limits, trading a customer's account without authority, as well as related recordkeeping violations. Such conduct is contrary to the Act's core regulatory protections and must be treated as grave.
The circumstances cited by Nikkhah do not mitigate the seriousness of his wrongdoing. The record does not show that the alleged improper NYMEX trade practices played a substantial role in Nikkhah's decision to adopt a post-execution allocation process for his bunch orders. At best, the alleged NYMEX trade practices would have made it less likely that Nikkhah's fraudulent scheme would be discovered. Such a factor does not mitigate the seriousness of Nikkhah's fraud. Nikkhah also emphasizes Prudential's role in the disposal of the "white sheets." Having determined in the context of liability that Nikkhah's current testimony concerning both the creation and disposal of the "white sheets" was unreliable, we need not give it significant consideration in the context of mitigation.
As for other relevant factors, the record shows that Nikkhah's wrongful conduct was knowing and intentional. There is no evidence that Nikkhah has cooperated with the Division or otherwise sought to ameliorate the harm flowing from the violations. Indeed, the record demonstrates that respondent has lied throughout this proceeding in an effort to cover up his wrongdoing. The record shows that Nikkhah's wrongdoing continued over several months and affected approximately twelve customers.42
The Division urges us to consider the loss Prival suffered in 1990 as a fair estimate of the financial harm flowing from Nikkhah's fraudulent allocation scheme. As the ALJ noted, however, there is no evidence that Nikkhah either diverted profitable customer trades to his own account or diverted losing personal trades to his customer accounts. In these circumstances, we cannot infer that every loss Prival suffered was a result of Nikkhah's allocation scheme. The record does indicate that Prival received more than its fair share of losing trades and less than its fair share of profitable trades. Nothing on the record, however, suggests that Nikkhah failed to exercise appropriate judgment in selecting trades for his customers with discretionary accounts. Under these circumstances, even if trades were properly allocated, we would expect Prival's account to include some mix of profitable trades and losing trades. A proper calculation of the harm Prival suffered as the result of Nikkhah's wrongdoing must account for the likely results if Nikkhah had properly allocated trades. Given Nikkhah's poor trading record, we cannot infer that all of Prival's losses were due to respondent's fraudulent allocation scheme. In the context of the allocation scheme shown on this record, we think the focus should be on the scheme's deception of Nikkhah's customers with discretionary accounts. By allocating trades on a post-execution basis, Nikkhah was able to create a more positive trading record for selected customers. Customers that received more profitable trades than they deserved (or fewer losing trades) were less likely to recognize immediately that Nikkhah was a poor trader. As a result, they were less likely to close their accounts. As noted above, Nikkhah profited as long as he could continue trading an account. As a result, he benefited by continuing to earn commissions in accounts that, absent improper allocation, would have been closed due to poor trading results. These customers were harmed by the scheme because they suffered trading losses and paid commissions for transactions that would not have taken place had they known the truth about Nikkhah's trading record.
The record before us is not sufficiently developed to allow us to make a precise estimate of either the harm customers suffered or the benefit Nikkhah gained as the result of his allocation scheme. The record permits a somewhat more precise estimate of the consequences of Nikkhah's deception of Prival concerning the status of its discretionary account. In the Prival reparations case, the ALJ found that the damages proximately caused by Nikkhah's deception amounted to $550,000.
While a more fully-developed record would certainly aid us in crafting a more precise mix of appropriate sanctions, the age of this case and our interest in expediting its conclusion counsel against a remand for additional development of the record on the relevant factors. In this regard, we are mindful that our selection of sanctions "involves judgments that cannot be accompanied by arithmetic exactitude or extended meaningful explication. . . ." Reddy v. CFTC, at 125 (2nd Cir. 1999). Nevertheless, we must be able to articulate a rational connection "between the facts found and the choice[s] made." Id. at 124. With these principles in mind, we proceed to the selection of sanctions based on the limited record before us.
Cease and Desist Order
A cease and desist order is appropriate when the record shows that there is a reasonable likelihood the wrongful conduct will be repeated. GNP, ¶ 25,360 at 39,223. Nikkhah's violations were knowing, formed a pattern of deceit, and lasted over a period of months. These factors raise an inference that there is a reasonable likelihood that Nikkhah will repeat his wrongful conduct. Accordingly, imposition of a cease and desist order is appropriate.
Imposition of a trading ban is appropriate when the record shows that the violations result in "an injury to the integrity of the market in the public eye." In re Glass, [1996-1998 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,337 at 46,561-9 (CFTC Apr. 27, 1998) aff'd sub nom.. Guttman v. CFTC, 197 F.3d 33 (2nd Cir. 1999). Nikkhah's fraudulent allocation scheme directly impacts the public's perception of the fairness and reliability of the trading process. Nikkhah's violations were knowing and intentional, continued over several months, and resulted in significant harm to his customers. Nikkhah's deceptive conduct during 1990 and 1991 and pattern of lies during this proceeding support a finding that Nikkhah poses a continuing risk to the integrity of the markets regulated by the Commission. A ten-year trading prohibition is appropriate to protect the public from similar harm in the future.
Nikkhah's violations involve fraud, and our decision will result in findings that subject him to statutory disqualification from registration pursuant to Section 8a(2)(E) of the Act. Because the record lacks significant evidence of mitigation or rehabilitation, we would generally include a registration revocation in the mix of sanctions we impose. During this proceeding, however, Nikkhah's registration lapsed. In these circumstances, the issue is whether revoking Nikkhah's lapsed registration will serve the public interest.43
Our precedent acknowledges that revocation of a registration that lapses during a proceeding may be appropriate. In re Armstrong, [1992-1994 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 25,657 at 40,154 (CFTC Feb. 8, 1993) vacated and remanded on other grounds sub nom. Armstrong v. CFTC, 12 F.3d 401 (3rd Cir. 1993) aff'd after remand 77 F.3d 461 (3rd Cir. 1996). In this instance, however, Nikkhah will only be registered in the future if he makes a clear and compelling showing that his registration will not pose a substantial risk to the public. Id. Given these circumstances, we conclude that revocation of his lapsed registration is not in the public interest.
Civil Money Penalty
Based on our review of the record as a whole and applicable policy considerations, we conclude that the gravity of Nikkhah's violations warrants a civil money penalty of $200,000. Given our other conclusions on appropriate sanctions, the relevant factor under former Section 6(d) of the Act is Nikkhah's net worth.44 The Division challenges the ALJ's finding that Nikkhah has a negative net worth.
Nikkhah did testify that his net worth was negative. In
view of the ALJ's negative assessment of most elements of Nikkhah's testimony,
his unexplained crediting of this aspect of Nikkhah's testimony is an unreliable
basis for resolving this issue. In these circumstances, we grant Nikkhah 30 days from
the date this order is issued to show why it would be inappropriate to impose a civil
money penalty of $200,000 in light of his net worth. If Nikkhah fails to respond
within the 30-day period, we may infer that he waives his right to consideration of
net worth pursuant to former Section 6(d) of the Act. See Grossfeld, ¶ 26,921
In light of the foregoing, the ALJ's decision is
affirmed in part and reversed in part. We grant Nikkhah 30 days from the date this
order is issued to show why a $200,000 civil money penalty should not be imposed. The
other sanctions we have selected shall not be effective pending our consideration of
any response Nikkhah may submit.
IT IS SO ORDERED.
By the Commission (Chairman RAINER, Commissioners HOLUM,
SPEARS, NEWSOME concurring, with Commissioner ERICKSON dissenting).
Jean A. Webb
Secretary of the Commission
Commodity Futures Trading Commission
Dated: May 12, 2000
Dissenting Opinion of Commissioner Thomas J. Erickson
This appeal concerns, among other things, the ALJ's conclusions (1) that Mr. Nikkhah violated Section 4b(a) of the Act, which prohibits fraud in connection with the sale of futures contracts; and (2) that he violated Section 4c(b) of the Act and Rule 33.10, which prohibit fraud in connection with commodity option transactions; but that (3) the record did not support the Division's charge that the same conduct resulted in a violation of Section 4o(1) of the Act, which prohibits fraud by commodity trading advisors ("CTAs") and commodity pool operator ("CPOs"). For its part, the majority affirms the ALJ's first two liability findings, but states that it "need not resolve" the Division's appeal of the ALJ's finding of no liability under Section 4o. This, the majority holds, is because "such a determination would not have a material effect on the sanctions [it] would impose." Majority Opinion at 21 n.26.
I find the majority's opinion oddly inconsistent. Having affirmed two separate violations of the antifraud provisions of the Act, the majority declines to examine Mr. Nikkhah's conduct in relation to a third charged fraud violation. In declining to address the third alleged fraud violation, the majority's rationale begs the question why it troubles itself with the second finding of fraud having affirmed the first. Indeed, Commission precedent on this very point suggests that, having found conduct that amounted to a violation of Section 4b of the Act, it would have been just as easy for the majority to find a 4o violation as it was for them to find a 4c violation.45
I believe that when the Commission is presented with appealable issues concerning alleged violations of the Act or regulations, the Division of Enforcement and the industry in general deserve the Commission's views on whether the evidence presented regarding the conduct alleged amounts to a violation.46 I also believe that to the extent the Commission identifies violative conduct, it is bound to make findings that are both appropriate and necessary to censure the particular conduct and to provide notice to the industry about the nature of the conduct.
Thus, despite the fact that I agree with those findings of liability that the majority chose to make, I nevertheless dissent from the majority's opinion. I would make a determination on the Division's 4o appeal rather than duck the issue entirely. Even if my fellow Commissioners disagree with my analysis of this issue, I feel that it is incumbent upon the Commission to address this serious charge. And my determination on this issue affects how I view sanctions in this case. Accordingly, and for the reasons specifically discussed below, I dissent.
NIKKHAH SHOULD HAVE BEEN FOUND LIABLE FOR VIOLATING SECTION 4O(1) OF THE ACT
In pertinent part, Section 4o(1) of the Act makes it unlawful for a CTA or CPO
(A) to employ any device, scheme, or artifice to defraud any client or participant or prospective client or participant; or
(B) to engage in any transaction, practice or course of business which operates as a fraud or deceit upon any client or participant or prospective client or participant.
7 U.S.C. § 6o(1) (1994).47
The Act defines a CTA as any person who
for compensation or profit, engages in the business of advising others, either directly or through publications, writings, or electronic media, as to the value of or the advisability of trading
in ... any contract of sale of a commodity for future delivery made or to be made on or subject to the rules of a contract market ... [or who], for compensation or profit, and as part of a regular business, issues or promulgates analyses or reports concerning any of the [forgoing]....
7 U.S.C. § 1a(5)(A)(i)-(ii).48 Thus, one question needs to be answered in order to analyze
the 4o allegation: was Mr. Nikkhah a CTA? Based on the record before the
Commission, I conclude that Mr. Nikkhah was a CTA and that 4o liability should
Nikkhah was a CTA by Dint of His Registration and His Conduct
Nikkhah was Registered as a CTA
As an initial matter, it is undisputed that Mr. Nikkhah was registered as a CTA at all times relevant to the conduct at issue here. Mr. Nikkhah chose to register himself with the Commission as a CTA; having done so, he ought to be subject to those sections of the Act and regulations that apply specifically to CTAs.49
Perhaps the majority's reluctance to address Section 4o in this case stems from its discomfort with the case New York Currency Research Corp. v. Commodity Futures Trading Comm'n., 180 F.3d 83 (2d Cir. 1999). Indeed, New York Currency is a difficult case with an anomalous result. It involved the Commission's efforts to obtain records under Section 4n of the Act from an entity that had been registered as a CTA. In very general terms, the case turned on the issue of whether registration as a CTA alone was enough to bring the entity within the scope of Section 4n's inspection requirements.
Section 4n(3)(A) requires "[e]very commodity trading advisor ... registered under [the] Act" to maintain certain books and records and to make them available for inspection by the Commission. Focusing on this language, the Second Circuit found that "because § 4n(3)(A) applies not to every `person registered' as a CPO or CTA, but rather only to `[e]very commodity trading advisor or commodity pool operator registered,' the Commission must [first] show that New York Currency actually acted as a CPO or a CTA" in order to obtain documents under Section 4n. New York Currency, 180 F.3d at 91.50 This would not frustrate the Commission's ability to obtain records, the Second Circuit held, because the Commission still had the "ability to use its subpoena power" to obtain documents from its registrants in the event that the statutory inspection powers granted in Section 4n did not provide the necessary authority. Id. at 93.
The Second Circuit's result in New York Currency is difficult to reconcile with established canons of statutory interpretation. It is axiomatic that a statute should be interpreted in light of its overall purpose and policy.51 The Second Circuit's holding proposes the nonsensical notion that the Commission should have to first subpoena records from one of its registrants - in order to determine in what type of business it is engaged - before it could then exercise its statutory inspection power to obtain the documents that it had subpoenaed in the first place. 52
I believe that, consistent with past guidance, the fact
of registration created rights and obligations in Nikkhah as of the date of
registration and without reference to the types of activities engaged in by Nikkhah
from that point forward. See CFTC Interpretative Letter No. 94-24 (Request for
Exemption), [1992-1994 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,015 at
41,277 (CFTC Division of Trading and Markets, Mar. 14, 1994) ("the
Commission's general policy is to require a person registered in a particular
capacity to comply with all of the rules pertaining to that category of registrant
irrespective of whether such person actively engages in all activities permitted by
virtue of his registration status"). Even if I were to accept the Second
Circuit's genuinely puzzling interpretation of Section 4n, I do not feel bound to
perpetuate it by applying the same faulty reasoning to an interpretation of Section
4o. Moreover, even if registration alone were not enough to bring Mr. Nikkhah
within the reach of Section 4o, Mr. Nikkhah's conduct was plainly that of a
Nikkhah Acted as a CTA
In addition to and apart from his status as a registered CTA, Mr. Nikkhah's activities put him squarely within the definition of a CTA. As discussed more fully above, the Act defines a CTA as anyone who, for compensation or profit, advises others about the value or advisability of trading futures contracts. This definition includes (with some exceptions) anyone who "as part of a regular business, issues or promulgates analyses or reports concerning any [such activities]...."
At the hearing, Mr. Nikkhah testified that his recommendations to his customers were based on his system of trading and were contingent upon his projections. Mr. Nikkhah traded the discretionary accounts of his customers using his own market analysis and trading strategy. Moreover, Mr. Nikkhah emphasizes the fact that his recommendations were based on his system rather than his employer's program.53 I therefore have no difficulty finding that Mr. Nikkhah was a CTA and acted as such by providing commodity trading advice to his customers.54
Thus, Mr. Nikkhah was registered as a CTA and acted as a CTA. I would therefore find that Mr. Nikkhah was a CTA within the reach of Section 4o. I would further find that, based on the same conduct that the majority found violative of Sections 4b(a) and 4c(b), Mr. Nikkhah violated Sections 4o(1)(A) and (B), as charged.55
The Majority's Sanctions Do Not Adequately Address the Conduct At Issue
Customer fraud violates core provisions of the Act, and
"such conduct is considered to be among the most serious of violations for
purposes of initially determining the severity of the sanctions to be imposed under
the Act." In re Grossfeld, [1996-1998 Transfer Binder] Comm. Fut. L. Rep.
(CCH) ¶ 26,921 at 44,468 (CFTC Dec. 10, 1996). Mr. Nikkhah's multiple violations
cut through the heart of the anti-fraud provisions of the Act; I would have
recommended a much stiffer civil monetary penalty that more accurately reflects the
gravity of his multiple, serious violations.
In a similar vein, I disagree with the majority's decision not to revoke Mr. Nikkhah's registration. The majority acknowledges that Mr. Nikkhah's violations involve fraud and that its findings would result in statutory disqualification. Majority Opinion at 37. The majority further notes that revocation would typically be included in the mix of sanctions the Commission would impose in a comparable case and that it has the authority to revoke a registration that, like Mr. Nikkhah's, has lapsed during the course of an enforcement action. Id. at 38. It nevertheless finds that there is not adequate public interest in revoking the registration. I believe that there is an important public interest served by revoking Mr. Nikkhah's registration and providing
regulators in this and other jurisdictions with the strongest possible grounds for separating Mr. Nikkhah from any possible customer contact in the future.
The Act is codified at 7 U.S.C. § 1 et. seq. Unless indicated otherwise, all references to a "Rule" denotes a Commission Rule found in the 1989 edition of 17 C.F.R. with the same numeric designation.
In June 1995, Prudential was registered as a futures commission merchant ("FCM") and Nikkhah was registered as an association person ("AP") of Daiwa Securities America. At the time of the conduct at issue in this case, Nikkhah was registered as an AP of Prudential.
A discretionary account is "[a]n arrangement by which the holder of an account gives written power of attorney to someone else, often a broker, to buy and sell without prior approval of the holder; often referred to as a 'managed account' or 'controlled account.'" The CFTC Glossary: A Layman's Guide to the Language of the Futures Industry, at 15 (CFTC Jan. 1997).
In this regard, Count One alleged that Nikkhah committed fraud in connection with futures trading in violation of Section 4b(a) of the Act. Count Two alleged that Nikkhah committed fraud in connection with options trading in violation of Section 4c(b) of the Act and Rule 33.10. Count Three alleged that Nikkhah committed fraud in his capacity as a commodity trading adviser ("CTA") in violation of Section 4o of the Act. Count Eight alleged that Nikkhah aided and abetted Prudential's failure to comply with recordkeeping requirements in violation of Section 4g of the Act and Rules 1.31(a), 1.35(a) and 1.35(a-1).
In this regard, Count Four alleged that Nikkhah traded the accounts of two customers without the authority required by Rule 166.2. Count Five alleged that Nikkhah and Prudential failed to provide 32 customers with the option risk disclosure statement required by Rule 33.7. Count Six alleged that Nikkhah offered a foreign customer assurances prohibited by Rule 1.56(c). Count Seven alleged that Nikkhah and Prudential participated in the non-competitive transfer of futures contracts from one customer's account to another customer's account in violation of Rule 1.38.
Count One generally alleged that Nikkhah's unauthorized trading, failure to disclose, offering of prohibited assurances and non-competitive transfer of customer trades amounted to fraud under Section 4b(a). Count One also alleged that Nikkhah violated Section 4b(a) by misleading customers about the status of their accounts. Counts Two and Three raised similar allegations under Section 4c(b) of the Act, Rule 33.10 and Section 4o of the Act.
The Complaint rested this allegation on Rule 166.3.
Prudential did not file an answer because it had agreed on the terms of a settlement with the Commission. The Commission's Order of Settlement imposed a cease and desist order and civil money penalty of $725,000 on Prudential in light of conclusions that Prudential participated in transactions that were noncompetitive (Rule 1.38) and failed to (1) diligently supervise (Rule 166.3), (2) fulfill its disclosure obligations (Rules 1.55 and 33.7) and (3) fulfill its recordkeeping obligations (Section 4g of the Act and Rules 1.31(a), 1.35(a), 1.35(a-1), and 1.37). The Order of Settlement also indicated that Prudential agreed to (a) cooperate with the Commission's prosecution of this matter, and (b) report to the Commission after undertaking a review of its compliance policies and procedures.
In this regard, Nikkhah noted that the ALJ had issued an initial decision in Prival, N.V. v. Prudential Securities, Inc. and Shahrokh Nikkhah, [1994-1996 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,288 (Dec. 8, 1994). Nikkhah traded several futures accounts for complainant Prival, N.V. ("prival") during the period at issue in this enforcement case. Prival's reparations case raised allegations of misrepresentation, failure to disclose, unauthorized trading and churning. In his initial decision, the ALJ dismissed many of Prival's claims for a failure of proof. Nevertheless, he ordered Nikkhah and Prudential to pay damages of $573,615.51 plus interest. His award was based on conclusions that Nikkhah had both negligently misexecuted some of Prival's orders and defrauded Prival.
Entering orders in a "bunch" is a practice that some APs and CTAs use to improve the efficiency of their process for entering similar orders for several different customers at the same time. For example, suppose an AP believes that 5 of his customers would benefit by selling May silver contracts at the market (e.g., 5 contracts for customer A, 5 contracts for customer B, 10 contracts for customer C, 15 contracts for customer D, and 25 contracts for customer E). The AP might effectuate these trades by completing separate order tickets for each customer and then communicating each of the five separate orders to the trading floor (e.g., sell 5 at market for customer A, sell 5 at market for customer B, etc.) Another AP might effectuate these trades by completing a single order ticket and then communicating one bunch order to the trading floor - sell 60 contracts at market.
By its nature, a bunch order requires three different allocations. Rule 1.35(a-1) requires that the first two be made at the time the bunch order is initiated. First, from among the group of eligible customers (e.g., all customers with discretionary accounts) the AP must select the subgroup that will share the bunch order (accounts A, B, and D participate but accounts C, E, and F do not). Second, the AP must determine the share of the bunch order each participating customer will be allocated (75% for A, 5% for B, 20% for D). Third, if the single order is filled at multiple prices, the AP must have a predetermined methodology to determine the priority given to each participating customer in the assignment of prices (better prices are allocated among participating customers based on random numbers generated by a computer program).
As noted above, Prival was the complainant in a successful reparations case against Nikkhah and Prudential. Prival's owner, Rolf Meijer-Werner, testified against Nikkhah during the reparations proceeding.
Nikkhah also signed a promissory note for $1,050,000. Nikkhah agreed to pay off the note in four yearly installments. Prival agreed that Nikkhah's debt under the promissory note would be reduced by the amount of profits earned in the discretionary account Prival funded.
The ALJ did not clearly hold that Nikkhah's deception
of Prival amounted to fraud under Section 4b(a) of the Act. We infer that he did,
however, in light of his more general statement that:
The weight of the evidence establishes that respondent Nikkhah violated sections 4b(a), 4c(b) of the Commodity Exchange Act, and Commission regulations 33.10, 1.56(c), 1.31, 1.35(a), 1.35(a-1) and 1.37 as charged in the complaint and described in the findings above.
Id. at 47,203 (emphasis supplied).
See Rice v. McKenzie, 581 F.2d 1114 (4th Cir. 1978) (A federal district court judge was assigned to a case requiring him to consider the federal constitutional validity of an action that he had previously approved as a member of the Supreme Court of West Virginia. On review, the court of appeals held that his prior role provided a reasonable basis for a reasonable person to question the judge's impartiality and his capacity to provide the independent federal review that was required.).
Division counsel had previously used portions of the Prival testimony and investigatory deposition to impeach Nikkhah's testimony. (Transcript at 135-137.)
Cf. Fed. R. Evid. 801(d)(2)(A).
The passage reads as follows:
Q. You keep mentioning these "white sheets."
Q. What do they look like?
A. Well, what is [sic] was, it was just a page of legal pad where I had on the left side the account numbers and the names and basically I traded the accounts and staffed them so that we knew when it was done, when it was given to the floor, in case there was [sic] any dispute as to the executions and the price and then I gave them -- passed them onto [sic] my colleagues. And they created the tickets from those whites.
Q. You were registered at this time, weren't you?
Q. And you were familiar with your obligations under the Commodity Exchange Act and the regulations, weren't you?
Q. Are you aware that you were required to maintain what you call the "white sheets"?
A. We should have maintained them.
MR. HANBURY: Objection. This is not a regulatory proceeding. This is a civil action.
JUDGE PAINTER: I am willing to hear the responses of this question.
A. We usually kept them for about a month in case there were any discrepancies in the executions or the floor came back to us with a problem or something, and then we rotated because we just couldn't keep everything.
Q. What do you mean you "rotated" them?
A. We just threw them out. I mean, sometimes we kept them for three months, I don't know, every once in a while. But I wasn't involved. As far as I was concerned, I executed the trade, I gave the white to my colleagues. After that, I was not involved in the administrative thing of them nor was I involved in the (Interposing)
DX 502 (rejected) at 737-738.
The record discloses one other procedural issue. Nikkhah did not submit all required documents when he filed his notice of appeal with the Commission. He later sought leave to correct this error by filing the omitted documents. Nikkhah's motion is granted.
GNP uses the terms "combined transaction" or "block" order rather than referring to a bunch order. These terms all refer to the same idea - the practice of combining the orders of several different customers into a single large order prior to execution. For the sake of consistency, our discussion uses the term the ALJ introduced in his Initial Decision.
Because GNP did not actually involve traders who used bunch orders, the guidance provided does not amount to binding Commission precedent. We have reassessed the guidance in the context of this case, however, and endorse it as a proper statement of the applicable law.
Moreover, Nikkhah testified that he did not have a program or system to assign trades. (Transcript at 100-101, 131-132.)
For example, suppose Nikkhah has ten customers with discretionary accounts. At the opening, he enters a bunch order to purchase 10 March silver contracts at market. Later in the day, the order is filled at a price of 5. At the close, the market settles at a price of 8. If Nikkhah fails to allocate the 10 contracts at the time he communicates the order to the floor and waits until the order is filled, each of his customers has an equally valid claim to the 10 profitable contracts. In these circumstances, the only equitable allocation would be on a pro rata basis. Similarly, if the market settles at a price of 4, each of Nikkhah's customers would have an equally valid right to avoid the 10 unprofitable contracts. Again, the only equitable allocation would be pro rata.
As noted above, the ALJ specifically labeled Nikkhah's claim that he did not allocate trades after he knew of the results "not believable." I.D. at 47,201.
In May 1993, the Commission proposed a revision to Rule 1-35(a-1) that would permit APs, such as Nikkhah, to employ a single series designation that identified both the accounts included in a bunch order and a predetermined allocation formula. While that provision was not adopted, the Commission issued an interpretive notice in June 9, 1997 that authorized this practice under specific conditions. Because the events at issue here took place in 1990 and 1991, neither the proposed rule amendment nor the interpretive notice have played a role in our analysis.
Nikkhah claims that his assistants did not fill out order tickets for several hours because they were busy with other duties. (Appeal Brief at 6.) Nikkhah's assistants, however, testified that they prepared and time-stamped the order tickets within five or ten minutes of receiving the "white sheets" from Nikkhah. (Transcript at 15, 218-219.)
Both parties submitted exhibits purporting to show how Nikkhah's allocation of profitable and losing contracts affected each customer with a discretionary account. While there are significant disagreements about the appropriate figures for each customer, both exhibits show that Prival's account suffered the bulk of the trading losses while other customers earned profits or suffered a smaller loss. Apart from this conclusion, which is supported by both parties' exhibits, we have not accorded either exhibit significant weight in our analysis.
This analysis also supports a conclusion that Nikkhah violated Section 4c(b) of the Act and Rule 33.10 (Prohibiting fraud in connection with commodity option transactions). As noted above, the Division's appeal urges us also to conclude that Nikkhah violated Section 4o of the Act. Because such a determination would not have a material effect on the sanctions we would impose, we need not resolve this aspect of the Division's appeal. Compare In re JCC, Inc., [1992-1994 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,080 at 41,580 (CFTC May 12, 1994).
As relevant here, Rule 1.35(a) requires FCMs to keep a complete and systematic record of all transactions relating to its business of dealing in commodity futures and options, including "all pertinent data and memoranda. . . ." These records must be retained in accordance with the requirements of Rule 1.31. The latter rule requires FCMs to retain records covered by Rule 1.35(a) for five years.
Rule 1.35(a-1) describes the type of record an FCM must "immediately" create when it receives a customer order. The FCM must prepare a written record of the order that includes (1) an account identification number, (2) an order number, and (3) a timestamp recording the date and time the order was received. If the order in question is for an option position, the written record prepared by the FCM must also include a timestamp recording the date and time the order is communicated to the trading floor.
Liability as an aider and abettor requires proof that (1) the Act was violated (the case law often refers to the violation as the "unlawful venture" that the alleged aider and abettor knowingly joins), (2) the named respondent had knowledge of the wrongdoing underlying the violation, and (3) the named respondent intentionally assisted the primary wrongdoer. R&W Technical Services, Ltd.,. ¶ 27, 582 at 47,746. In appropriate circumstances, passive conduct may amount to intentional assistance of the primary wrongdoer. See In re Western Financial Management, [1984-1986 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 22,814 at 31,401 (Nov. 14, 1985).
See Forsythe's testimony, Transcript at 335
Q. To the best of your knowledge -- first of all, while you were at Bache there, what happened to the white sheets? Where were they kept somewhere?
A. Usually in a drawer.
Q. A file drawer, or what?
A. Yes, a desk.
Q. When you went from Bache to Refco--
Q. --did you take the white sheets with you?
Q. When you left Bache, to your best knowledge, were they still in that file drawer?
A. As far as I know, yes.
Because the record does not establish that Prudential violated Rule 1.37, we vacate the ALJ's conclusion that Nikkhah aided and abetted violations of this rule.
As pertinent here, Rule 1.56 provides that "[n]o person may in any way represent" to another person that an FCM will (1) guarantee the person against loss; (2) limit the person's loss; or (3) not call for or attempt to collect initial and maintenance margin.
Respondent defines an "as of" trade as "a standard practice in the commodity industry to document a transfer of a trade error out of the wrong and into the right account. The 'as of' date shows the date on which the trade actually occurred on the floor." (Appeal Brief at 37 (citations to the transcript omitted).)
Similarly, Section 4c(a) of the Act recognizes that transfer trades and office trades should not be deemed among the "fictitious" sales prohibited by that section if they are "made in accordance with board of trade rules applying to such transactions and such rules have been approved by the Commission."
As the ALJ noted in his Initial Decision, as part of his July 1990 agreement with Prival's owner, Nikkhah promised to inform Prival if the value of the discretionary account it was funding fell by $100,000. Prival agreed to maintain this account until June 1994, but retained the right to close the account should the net liquidating value fall below $100,000. In this regard, the ALJ found that (1) Nikkhah failed to provide the required notice when the reporting level was reached on August 24, 1990, and (2) took a variety of steps between August 1990 and January 1991 to conceal the real status of the discretionary account from Prival. Nikkhah admits that he did not cease trading Prival's discretionary account in August 1990.
Marc Henrion signed a general power of attorney on March 7, 1990. He signed a letter to respondent on the same day that stated his understanding of Nikkhah's authority. The letter acknowledged that trading would generally be Nikkhah's responsibility. It further explained, however, that if the account equity decreased by 30 percent Nikkhah would cease all trading and not resume until instructed to do so by Henrion. Henrion initially funded the account with $100,000. The account's monthly statement for June 1990 indicates that, by the end of the month, account equity had fallen to $67,903.61. Nikkhah admits that he continued trading Henrion's account until October 1990.
A customer specifically authorizes an order by choosing to buy or sell and identifying both the precise commodity interest and the amount of the commodity interest to be ordered.
To the degree there were option transactions in Prival's account, Nikkhah's deceptive conduct also violated Section 4c(b) of the Act and Rule 33.10.
Nikkhah's emphasis on both Prival's and Henrion's failure to protest in the face of account statements revealing losses is misplaced. Nikkhah's fraudulent conduct deceived Prival regarding the true status of its discretionary account. At best, Henrion's silence could be understood as an indication that he did not object to Nikkhah's continued trading. Under Rule 166.2, however, the issue is whether the AP had either an effective written power of attorney or specific authorization for each trade. Lack of customer objection does not have significant meaning in the context of either alternative.
Such an interpretation could expose a customer's account to significant risk should the AP be unable to reach the customer at the time the established loss limit was reached. For example, if the power of attorney were deemed ineffective at the time a market was rapidly deteriorating, the AP would be without the authority necessary to protect the account by liquidating losing positions.
As pertinent here, Rule 33.7 requires an FCM both to (1) provide a special options risk disclosure document to a customer opening a commodity option account and (2) obtain a signed acknowledgement from the customer.
This is the effective date of the Futures Trading Practices Act of 1992, P.L. 102-546, 106 Stat. 3590.
As relevant here, former Section 6(d) of the Act, 7 U.S.C. § 9a (1992) provided that the latter factors be considered in the case of a person whose primary business involves the use of the commodity futures market.
The record documents Nikkhah's allocation scheme from January 2 to April 9, 1990 and from July 17 to October 10, 1990. The letter reflecting Nikkhah's assurances in violation of Rule 1.56 was dated February 1991.
The ALJ held that he lacked the authority to revoke a lapsed registration. As the Division notes, however, the legal principle at issue is narrower. The Commission has held that it cannot revoke a registration that did not exist at the time an enforcement case is commenced. In re First Regal Commodities, Inc., [1984-1986 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 22,600 at 30,570 (May 22, 1985).
As noted above, former Section 6(d) directs us to consider the size of respondent's business and ability to continue in business in the case of a respondent whose primary business involves the use of the commodity futures markets. Since Nikkhah is not registered and will be banned from trading for ten years, we conclude that his primary business will not involve the use of the commodity futures market.
See In re R&W Technical Services, [1998-1999 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,582 at 47,745 (CFTC Mar. 16, 1999) ("Because we have found that [respondents] violated Section 4b(a) of the Act and that they acted as CTAs, further analysis is not needed to conclude that [respondents] also violated Section 4o(1) of the Act.").
I am also concerned that by declining to address all the fraud violations alleged, the Commission may inadvertently send the message that the Division of Enforcement need not investigate or recommend action on each violation it identifies.
The conduct alleged in this action took place in 1990 and 1991. Revisions to the Act between then and now have affected the numbering and organization of some of the sections discussed in this dissent, but have not altered the effect of these sections in any material way. Accordingly, all cites in this dissent are to the Act as it appears at 7 U.S.C. § 1, et seq. (1994).
48 The definition of CTA excludes certain specified persons who furnish CTA services that are "solely incidental to the conduct of their business or profession." 7 U.S.C. §§ 1a(5)(B)-(C). As a registered associated person ("AP"), Mr. Nikkhah was not among those specified persons. Thus, he was not subject to this statutory exclusion. See also Commission Regulation 4.6, 17 C.F.R. 4.6.
Certainly, this approach finds support in Commission regulation 4.14, which exempts certain persons from registration as a CTA. Subsection 4.14(c) specifically provides that if a person is exempt from registration under Regulation 4.14(a), but nonetheless registers as a CTA, then "that person must comply with ... Part 4 as if such person were not exempt from registration as a [CTA]." 17 C.F.R. § 4.14(c).
Finding that the Commission failed to establish that New York Currency had acted as a CPO or CTA, the Second Circuit remanded the case to the Commission with directions to dismiss. New York Currency, 180 F.3d at 92-93. The Commission subsequently dismissed the case. In re New York Currency Research Corp., Comm. Fut. L. Rep. (CCH) ¶ 27,772 (CFTC Sept. 22, 1999).
See Crandon v. United States, 494 U.S. 152, 158 (1990) ("In determining the meaning of the statute, we look not only to the particular statutory language, but to the design of the statute as a whole and to its object and policy"); Johnson v. United States, 123 F.3d 700, 702 (2nd Cir. 1997) (same); New York State Comm'n on Cable Television v. FCC, 571 F.2d 95, 98 (2d Cir.1978) ("appropriate methodology" for statutory construction is to "look to the `common sense' of the statute or regulation, to its purpose, to the practical consequences of the suggested interpretations, and to the agency's own interpretation for what light each inquiry might shed").
The purpose of Section 4n is plainly to provide the Commission with an expeditious, self-executing method of obtaining certain records from its CTA/CPO registrants. Under the Second Circuit's analysis, the Commission would not be able to exercise this right until it had definitively established that its registrant was, in fact, engaged in activity bringing it within the definition of a CTA or CPO under the Act. In the absence of inspection powers, the only method for obtaining that information from the registrant would be to obtain the registrant's records via a subpoena. If these records established that the registrant was, in fact, engaged in activities bringing it within the definition of a CTA or CPO, only then could the Commission have access to the very same records via its inspection powers. Obviously, such a procedure necessitating the issuance of a subpoena as a predicate to exercise of inspection powers would render those inspection powers largely moot.
When questioned about services he provided his clients,
Mr. Nikkhah testified that he used his own trading system:
Q. Did you use any system, for instance, a program system to trade in the accounts that you traded with discretion at Prudential?
A. Not a program system.
Q. Did you have some other system that you used?
A. I had a system.
Q. What was your system?
A. My system of trading was contingent upon my anticipated projected ranges for a product on a particular day.
Transcript of Hearing at 96-97. Mr. Nikkhah also testified at some length about "my decisionmaking process" [sic], and the fact that he personally monitored several variables when determining whether to initiate a trade. Id. at 97-99.
See CFTC Interpretive Letter No. 75-6 [1975-1977 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 20,093 (CFTC Div. of Trading and Markets Aug. 13, 1975) (registered AP of futures commission merchant who provides own advice to customers acted as a CTA). I am not suggesting an expansion of the potential liability to which APs are exposed. APs who provide commodity trading advice solely in connection with their employment as APs are exempt from registration pursuant to Commission regulation 4.14(a)(3). In the instant case, however, Mr. Nikkhah was registered and acting as a CTA, and there is no reason to allow Mr. Nikkhah to shield himself from liability under Section 4o for activities that are clearly those of a CTA simply by claiming that he engaged in the fraudulent conduct while also registered as an AP. Cf. In re Heitschmidt, [1994-1996 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,264 at 42,204 (CFTC Nov. 9, 1994) (Commission rejects argument of respondent registered CTA that he need not comply with CTA disclosure requirements since he acted as the AP of an IB when soliciting customers).
As discussed in footnote 1 above, in the past the Commission has, without further analysis, used a finding of liability under Section 4b(a) as the basis for a finding of a CTA's violation of Section 4o(1). See In re R&W Technical Services, [1998-1999 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,582 at 47,745 (CFTC Mar. 16, 1999).