2011-17549

Federal Register, Volume 76 Issue 135 (Thursday, July 14, 2011)[Federal Register Volume 76, Number 135 (Thursday, July 14, 2011)]

[Rules and Regulations]

[Pages 41398-41411]

From the Federal Register Online via the Government Printing Office [www.gpo.gov]

[FR Doc No: 2011-17549]

[[Page 41398]]

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Part 180

RIN Number 3038-AD27

Prohibition on the Employment, or Attempted Employment, of

Manipulative and Deceptive Devices and Prohibition on Price

Manipulation

AGENCY: Commodity Futures Trading Commission.

ACTION: Final rules.

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SUMMARY: The Commodity Futures Trading Commission (``CFTC'' or

``Commission'') is adopting final rules pursuant to section 753 of the

Dodd-Frank Wall Street Reform and Consumer Protection Act (``Dodd-Frank

Act''), to implement amended subsections (c)(1) and (c)(3) of section 6

of the Commodity Exchange Act (``CEA''). These rules broadly prohibit

fraud and manipulation in connection with any swap, or contract of sale

of any commodity in interstate commerce, or contract for future

delivery on or subject to the rules of any registered entity.

DATES: Effective Date: These final Rules will become effective August

15, 2011.

FOR FURTHER INFORMATION CONTACT: David Meister, Director, Division of

Enforcement, 202-418-5624, or Mark D. Higgins, Counsel, Office of the

General Counsel, 202-418-5864, [email protected].gov, Commodity Futures

Trading Commission, Three Lafayette Centre, 1151 21st Street, NW.,

Washington, DC 20581.

SUPPLEMENTARY INFORMATION:

I. Background

On July 21, 2010, President Obama signed the Dodd-Frank Act into

law. Title VII of the Dodd-Frank Act amended the CEA to establish a

comprehensive new regulatory framework for swaps and security-based

swaps. The legislation was enacted to reduce risk, increase

transparency, and promote market integrity within the financial system

by, among other things: (1) Providing for the registration and

comprehensive regulation of swap dealers and major swap participants;

(2) imposing clearing and trade execution requirements on standardized

derivative products; (3) creating robust recordkeeping and real-time

reporting regimes; and (4) enhancing the Commission's rulemaking and

enforcement authority with respect to, among others, all registered

entities and intermediaries.

In the wake of the financial crisis of 2008, Congress adopted

section 753 of the Dodd-Frank Act, which provided the Commission with

additional and broad authority to prohibit fraud and manipulation. In

the following paragraphs, the Commission summarizes Dodd-Frank Act

section 753's amendments to CEA section 6(c).

New section 6(c)(1), the full text of which is provided in Section

III below, broadly prohibits the use or employment of, or an attempt to

use or employ, any ``manipulative or deceptive device or contrivance''

in contravention of such rules and regulations as the Commission

``shall promulgate no later than 1 year after the date of enactment''

of the Dodd-Frank Act.

As discussed below, final Rule 180.1 implements the provisions of

CEA section 6(c)(1) by prohibiting, among other things, manipulative

and deceptive devices, i.e., fraud and fraud-based manipulative devices

and contrivances employed intentionally or recklessly, regardless of

whether the conduct in question was intended to create or did create an

artificial price. This final Rule will help promote the integrity of

the markets, and protect market participants.

Section 6(c)(1)(A), a ``Special Provision for Manipulation by False

Reporting,'' extends the Commission's prohibition against unlawful

manipulation to include ``delivering, or causing to be delivered for

transmission through the mails or interstate commerce, by any means of

communication whatsoever, a false or misleading or inaccurate report

concerning crop or market information or conditions that affect or tend

to affect the price of any commodity in interstate commerce, knowing,

or acting in reckless disregard of the fact that such report is false,

misleading or inaccurate.'' \1\ Importantly, section 6(c)(1)(C)

provides a ``Good Faith Mistakes'' exception to this prohibition such

that ``[m]istakenly transmitting, in good faith, false or misleading or

inaccurate information to a price reporting service would not be

sufficient to violate subsection (c)(1)(A).''

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\1\ Section 9(a)(2) of the CEA, 7 U.S.C. 13(a)(2), also

expressly prohibits false reporting.

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Section 6(c)(2) prohibits the making of ``any false or misleading

statement of a material fact to the Commission. * * *'' A prohibition

regarding false statements to the Commission was previously included in

section 6(c). Dodd-Frank Act section 753 expands the prohibition

against false statements made in registration applications or reports

filed with the Commission to include any statement of material fact

made to the Commission in any context.

CEA section 6(c)(3), the full text of which is provided in Section

III below, makes it unlawful to ``manipulate or attempt to manipulate

the price of any swap, or of any commodity in interstate commerce, or

for future delivery on or subject to the rules of any registered

entity.'' Final Rule 180.2 codifies section 6(c)(3).

Section 753 of the Dodd-Frank Act also amends prior CEA section

6(c) to provide, in cases of manipulation or attempted manipulation in

violation of sections 6(c) or 9(a)(2), for a civil penalty of up to the

greater of $1,000,000 or triple the monetary gain to the person for

each such violation; and restitution to customers of damages

proximately caused by violations of the person. For other violations,

section 6(c)(10)(C) provides for a civil penalty of not more than an

amount equal to the greater of $140,000 or triple the monetary gain for

each such violation.

Finally, section 753 of the Dodd-Frank Act provides that the above-

summarized amendments to CEA section 6(c) ``shall take effect on the

date on which the final rule promulgated by the Commodity Futures

Trading Commission pursuant to this Act takes effect.'' The final Rules

will take effect 30 days after publication in the Federal Register.

II. The Rulemaking Proceeding Under CEA Section 6(c)

This rulemaking proceeding \2\ began with the issuance of a Notice

of Proposed Rulemaking (``NOPR'') on October 26, 2010, which was

published in the Federal Register on November 3, 2010.\3\ Pursuant to

CEA section 6(c),\4\ as amended by section 753 of the Dodd-Frank Act,

the Commission proposed to add a new Part 180 to Title 17 of the Code

of Federal Regulations. In the NOPR, the Commission solicited comments

on all aspects of proposed Part 180. Twenty-seven parties filed

comments, representing a variety of interested parties, including a

member of the United States Congress, a law professor, economists,

industry members and trade associations, energy news and price

reporting organizations, designated contract markets

[[Page 41399]]

(exchanges), a government-sponsored enterprise, and members of the

public.\5\

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\2\ Rulemaking documents are available at: (http://www.cftc.gov/LawRegulation/DoddFrankAct/Rulemakings/23_DFManipulation/index.htm).

\3\ Prohibition of Market Manipulation, 75 FR 67657 (Nov. 3,

2010).

\4\ Section 753 of the Dodd-Frank Act directed the Commission to

promulgate implementing rules and regulations by not later than one

year after the date of enactment of the Dodd-Frank Act.

\5\ Attachment A contains a list of the 27 parties who submitted

comments related to this rulemaking.

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Upon careful review and consideration of the entire record in this

rulemaking and based on its extensive market regulation experience, the

Commission has determined that it is appropriate and in the public

interest to adopt the final Rules, which among other things, define for

the public the statutory prohibition under CEA section 6(c)(1) against

using or employing ``any manipulative or deceptive device or

contrivance'' in connection with any swap, or a contract of sale of any

commodity in interstate commerce, or for future delivery on or subject

to the rules of any registered entity. Consistent with section 6(c)(1),

the final Rule 180.1 prohibits, among other things, fraud and fraud-

based manipulative schemes, employed intentionally or recklessly (as

discussed below), regardless of whether the conduct in question was

intended to or did create an artificial price. Final Rules 180.1 and

180.2 will help to promote the integrity of the markets, and protect

market participants.

After carefully reviewing the entire rulemaking record, the

Commission finds it unnecessary to change the wording of the proposed

regulatory text, except in one respect: Adding ``inaccurate'' to

section 180.1(a)(4) (``* * * no violation of this subsection shall

exist where the person mistakenly transmits, in good faith, false or

misleading or inaccurate information to a price reporting service.'').

This change is necessary to ensure symmetry between final Rule 180.1

and CEA section 6(c)(1)(C). However, based on the public comments, the

Commission has determined to provide clarification and interpretive

guidance in this Preamble to final Rules 180.1 and 180.2.

The Commission's statutory and legal basis for promulgating the

final Rules, their purpose, and the Commission's responses to comments

filed in this rulemaking, are discussed below.

III. Statutory Basis for the Final Rules

CEA section 6(c)(1), entitled ``Prohibition Against Manipulation,''

is the statutory basis for final Rule 180.1, and provides that:

It shall be unlawful for any person, directly or indirectly, to

use or employ, or attempt to use or employ, in connection with any

swap, or a contract of sale of any commodity in interstate commerce,

or for future delivery on or subject to the rules of any registered

entity, any manipulative or deceptive device or contrivance, in

contravention of such rules and regulations as the Commission shall

promulgate by not later than 1 year after the date of enactment of

the [Dodd-Frank Act], provided no rule or regulation promulgated by

the Commission shall require any person to disclose to another

person nonpublic information that may be material to the market

price, rate, or level of the commodity transaction, except as

necessary to make any statement made to the other person in or in

connection with the transaction not misleading in any material

respect.

CEA section 6(c)(3), entitled ``Other Manipulation,'' provides

that:

[I]t shall be unlawful for any person, directly or indirectly,

to manipulate or attempt to manipulate the price of any swap, or of

any commodity in interstate commerce, or for future delivery on or

subject to the rules of any registered entity.

CEA section 6(c)(3) and the Commission's general rulemaking

authority pursuant to CEA section 8a(5) provide the statutory basis for

final Rule 180.2.

Commenters are overwhelmingly supportive of the Commission's

efforts to implement clear and fair rules designed to protect market

participants and promote the integrity of the markets. In the following

sections, the Commission summarizes and responds to the comments

received in this rulemaking.

IV. Discussion of CEA Section 6(c)(1) and Final Rule 180.1

A. Overview

The language of CEA section 6(c)(1), particularly the operative

phrase ``manipulative or deceptive device or contrivance,'' is

virtually identical to the terms used in section 10(b) of the

Securities Exchange Act of 1934 (``Exchange Act'').\6\ The Supreme

Court has interpreted these words to ``clearly connot[e] intentional

misconduct.'' \7\ The Court has also stated that the statute was

``designed as a catchall clause to prevent fraudulent practices.'' \8\

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\6\ 15 U.S.C. 78j(b). Differences between the wording of

Exchange Act Section 10(b) and CEA section 6(c)(1) include, but are

not limited to, the express prohibition of the ``attempt to use''

any ``manipulative or deceptive device or contrivance'' in CEA

section 6(c)(1), and the absence of a ``purchase or sale''

requirement in CEA section 6(c)(1). The Commission understands that

under SEC Rule 10b-5 a plaintiff is not required to prove that money

was actually invested in a specific security. See, e.g., SEC v.

Zandford, 535 U.S. 813, 819-21 (2002).

\7\ Ernst & Ernst v. Hochfelder, 425 U.S. 185, 201 (1976).

\8\ Chiarella v. United States, 445 U.S. 222, 226 (1980), citing

Hochfelder, 425 U.S. at 202, 206.

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Based on the language in Exchange Act section 10(b), the Securities

and Exchange Commission (``SEC'') promulgated SEC Rule 10b-5, which

makes it unlawful for any person:

(a) To employ any device, scheme, or artifice to defraud,

(b) To make any untrue statement of a material fact or to omit

to state a material fact necessary in order to make the statements

made, in the light of the circumstances under which they were made,

not misleading, or

(c) To engage in any act, practice, or course of business which

operates or would operate as a fraud or deceit upon any person, in

connection with the purchase or sale of any security.\9\

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\9\ 17 CFR 240.10b-5.

Given the similarities between CEA section 6(c)(1) and Exchange Act

section 10(b), the Commission deems it appropriate and in the public

interest to model final Rule 180.1 on SEC Rule 10b-5.\10\ To account

for the differences between the securities markets and the derivatives

markets, the Commission will be guided, but not controlled, by the

substantial body of judicial precedent applying the comparable language

of SEC Rule 10b-5.\11\ Such extensive judicial review serves as an

important benefit to the Commission and provides the public with

increased certainty because the terms of Exchange Act Section 10(b) and

SEC Rule 10b-5 have withstood challenges to their constitutionality in

both civil and criminal matters.\12\

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\10\ See, e.g., Morissette v. United States, 342 U.S. 246, 263

(1952) (noting that where Congress borrows terms of art it

``presumably knows and adopts the cluster of ideas that were

attached to each borrowed word''); Nat'l Treasury Employees Union v.

Chertoff, 452 F.3d 839, 857 (DC Cir. 2006) (stating that ``[t]here

is a presumption that Congress uses the same term consistently in

different statutes'').

\11\ Further, by modeling final Rule 180.1 on SEC Rule 10b-5,

the Commission takes an important step toward harmonization of

regulation of the commodities, commodities futures, swaps and

securities markets given that new CEA section 6(c)(1) and Exchange

Act Section 10(b) include virtually identical prohibitions against

``any manipulative or deceptive device or contrivance.''

\12\ See, e.g., United States v. Persky, 520 F.2d 283, 287 (2d

Cir. 1975) (rejecting criminal defendant's argument that Exchange

Act section 10(b) and SEC Rule 10b-5 are unconstitutionally vague);

SEC v. Pirate Investor LLC, 580 F.3d 233, 254 (4th Cir. 2009)

(upholding civil judgment and finding that ``[a]ppellants' reliance

on any ambiguity in the [section 10(b)] phrase `in connection with'

as a reason to employ the canon of constitutional avoidance fails in

light of the statute's purpose--providing a flexible regime for

addressing new, perhaps unforeseen, types of fraud''), cert. denied,

130 S. Ct. 3506, 2010 U.S. LEXIS 5345 (2010). The Federal Energy

Regulatory Commission and the Federal Trade Commission have relied

upon a statutory framework largely identical to Exchange Act section

10(b) when promulgating rules similar to SEC Rule 10b-5. In so

doing, both agencies have stated their intent to be guided by

securities law precedent, as appropriate to their unique regulatory

missions. FERC, Prohibition of Energy Market Manipulation, 71 FR

4244, 4250 (Jan. 26, 2006) (FERC final anti-manipulation rule); FTC,

Prohibitions on Market Manipulation, 74 FR 40686, 40688-89 (Aug. 12,

2009) (FTC final anti-manipulation rule).

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[[Page 41400]]

Final Rule 180.1 prohibits fraud and fraud-based manipulations, and

attempts: (1) By any person (2) acting intentionally or recklessly (3)

in connection with (4) any swap, or contract of sale of any commodity

in interstate commerce, or contract for future delivery on or subject

to the rules of any registered entity (as defined in the CEA). CEA

section 6(c)(1) and final Rule 180.1, like Exchange Act section 10(b)

and SEC Rule 10b-5 upon which they are modeled, focus on conduct

involving manipulation or deception.\13\

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\13\ Santa Fe Industries v. Green, 430 U.S. 462, 473-76 (1977);

Dirks v. SEC, 463 U.S. 646, 667 n. 27 (1983) (concluding that ``to

constitute a violation of Rule 10b-5, there must be fraud'');

Chiarella v. United States, 445 U.S. 222, 234-35 (1980) (stating

that Exchange Act ``section 10(b) is aptly described as a catchall

provision, but what it catches must be fraud''); Ernst & Ernst v.

Hochfelder, 425 U.S. 185, 199 (1976) (rejecting argument for

imposition of negligence standard that ``simply ignore[d] the use of

the words `manipulative,' `device,' and `contrivance'--terms that

make unmistakable a congressional intent to proscribe a type of

conduct quite different from negligence. Use of the word

`manipulative' is especially significant. It is and was virtually a

term of art when used in connection with securities markets. It

connotes intentional or willful conduct designed to deceive or

defraud investors by controlling or artificially affecting the price

of securities'') (internal citations omitted).

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In the following paragraphs, the Commission addresses the comments

that pertain to final Rule 180.1 in the following categories: (1) Scope

of application of the final Rule; (2) disclosure implications of the

final Rule; (3) operation of the provision prohibiting material

misstatements and omissions; (4) statutory exception for good faith

mistakes; (5) required scienter for a violation of the final Rule; (6)

scope of the phrase ``in connection with''; and (7) penalty, procedure,

effect on automated trading systems, and a proposal to define

manipulation.\14\

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\14\ The extent to which securities law precedent should apply

is an issue that commenters often linked to more specific comments

pertaining to the interpretation of the statute and proposed rule

text. As such, the Commission considers commenters' views about

securities law precedent in the specific contexts in which they

arise.

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B. The Scope of the Application of Final Rule 180.1

1. Comments

The Commission received several comments on the scope of the

application of proposed Rule 180.1. United States Senator Carl Levin

(``Senator Levin''), Chairman of the Permanent Subcommittee on

Investigations, Committee on Homeland Security and Governmental

Affairs, believes that the CFTC and SEC should harmonize their

regulatory structures for combating disruptive and manipulative

activities.\15\

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\15\ Senator Levin Comment Letter at pages 3-4.

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Better Markets, a non-profit public interest advocacy organization,

states that the proposed Rules are critical to implementing the

important expansion of the Commission's enforcement capability so that

the transparent and reliable marketplace envisioned by the Dodd-Frank

Act can be realized.\16\ Similarly, the Council of Institutional

Investors (``Council'') supports proposed Rule 180.1 and believes that

it will help promote the integrity of the price discovery process and

fair dealing between market participants. The Council believes that, if

accompanied by robust enforcement, the proposed Rule would promote

investor confidence in the markets and contribute to the overall safety

and soundness of the financial system.\17\ Likewise, the Petroleum

Marketers Association of America (``PMAA'') believes that proposed

Rules 180.1 and 180.2 will effectively implement the statutory and

Congressional directive to clearly delineate and prevent impermissible

conduct by market participants.\18\

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\16\ Better Markets Comment Letter at page 1.

\17\ Council Comment Letter at pages 1-2.

\18\ PMAA Comment Letter at page 1.

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University of Maryland School of Law Professor Michael Greenberger

(``Professor Greenberger'') believes that proposed Rule 180.1 reflects

an effective anti-manipulation rule mandated by section 753 of the

Dodd-Frank Act. Professor Greenberger further believes that the

Commission correctly asserts that proposed Rule 180.1 be given a broad,

remedial reading similar to SEC Rule 10b-5.\19\

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\19\ Professor Greenberger Comment Letter at page 2.

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The CME Group, Inc. (``CME Group'') and the Commodity Markets

Council (``CMC'') believe that proposed Rules 180.1 and 180.2 are vague

and fail to provide market participants with sufficient notice of

whether contemplated trading practices run afoul of a prohibition.\20\

Further, CME Group and CMC believe that proposed Rule 180.1 is

susceptible to constitutional challenge under the Due Process

Clause.\21\

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\20\ CME Group Comment Letter at pages 2-3; CMC Comment Letter

at page 2.

\21\ CME Group at page 3; CMC at page 2.

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The Futures Industry Association (``FIA''), International Swaps and

Derivatives Association, Inc. (``ISDA''), and the Securities Industry

and Financial Markets Association (``SIFMA'') (together, ``the

Associations'') believe that the Commission should clarify the scope of

the proposed regulation, the Commission's existing anti-manipulation

authority under CEA section 9(a)(2), and its anti-fraud authority under

CEA section 4b.\22\ The Associations urge the Commission to remove from

all subparts of the proposed Rule language that prohibits an

``attempt'' to manipulate and to clarify that the requirements for

attempted manipulation remain consistent with current law under CEA

section 6(c).\23\ The Managed Funds Association (``MFA'') believes that

the Commission should interpret CEA section 6(c)(1) merely to clarify

and refine the Commission's authority over swaps, and not to create any

new antifraud authority or to create any new duties or obligations.\24\

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\22\ Associations Comment Letter at page 9.

\23\ Associations at page 8.

\24\ MFA Comment Letter at pages 6-7.

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The American Petroleum Institute (``API'') together with the

National Petrochemical and Refiners Association (``NPRA''), and the

Coalition of Physical Energy Companies (``COPE'') state that Congress

intended the scope of section 753 of the Dodd-Frank Act to address only

actual fraudulent manipulation of the commodities markets.\25\ Absent a

manipulative effect on the market, API and NPRA believe that there

should be no liability under proposed Rule 180.1.\26\ Further, API and

NPRA state that the Commission should require proof that a party's

deceptive or fraudulent conduct caused market conditions to deviate

materially from the conditions that would have existed but for that

conduct.\27\ Similarly, the Derivatives and Futures Law Committee of

the Business Law Section of the American Bar Association (``ABA

Derivatives Committee'') states that any Commission rules under CEA

section 6(c)(1) should expressly target intentional or extremely

reckless deceitful conduct specifically intended to cause artificial

prices by corrupting or disabling the integrity of market price-setting

processes and mechanisms rather than by a general anti-fraud rule

patterned on SEC Rule 10b-5.\28\ The ABA Derivatives Committee believes

that mere unfairness or impermissible overreaching without deception

does not violate section 10(b) or SEC Rule 10b-5 thereunder.\29\

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\25\ API and NPRA Comment Letter at page 3; COPE Comment Letter

at page 2.

\26\ API and NPRA at pages 2, 9, and 24.

\27\ API and NPRA at page 10.

\28\ ABA Derivatives Committee Comment Letter at pages 5 and 11-

13. According to the ABA Derivatives Committee, ``[a] rule that does

not require evidence of a specific intent to cause artificial market

prices as an element of a violation would result in a dangerously

vague rule * * * [which] could expose participants to the threat of

arbitrary and unfair enforcement.'' Id. at page 12.

\29\ ABA Derivatives Committee at page 6.

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[[Page 41401]]

Freddie Mac recommends that the Commission strengthen the

protection of customers by clarifying that CEA section 6(c), as amended

by section 753 of the Dodd-Frank Act and implemented by proposed Rule

180.1, expressly prohibits ``front running'' and similar misuse of

customer information by swap dealers as a form of fraud-based

manipulation.\30\

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\30\ Freddie Mac Comment Letter at pages 1-5.

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2. Commission Determination

Upon review of the entire rulemaking record, the Commission

determines that final Rule 180.1 is in the public interest and provides

fair, reasonable, and adequate notice of the prohibited conduct. With

respect to comments claiming that final Rule 180.1 is susceptible to a

due process constitutional challenge because it purportedly does not

give market participants fair notice of the prohibited conduct, the

Commission notes that final Rule 180.1 is modeled on SEC Rule 10b-5,

which has been subjected to extensive judicial review and has withstood

constitutional challenges, including those based on a fair notice

argument.\31\

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\31\ The fair notice argument has been repeatedly rejected in

the SEC Rule 10b-5 context in a wide variety of fact patterns. See,

e.g., United States v. Carpenter, 791 F.2d 1024 (2d Cir. 1986),

aff'g in part and rev'g in part United States v. Winans, 612 F.

Supp. 827, 848 (S.D.N.Y. 1985); United States v. Newman, 664 F.2d

12, 18-19 (2d Cir. 1981), aff'd after remand, 722 F.2d 729 (2d

Cir.), cert. denied, 464 U.S. 863 (1983); United States v.

Chiarella, 588 F.2d 1358, 1369 (2d Cir. 1978); United States v.

Brown, 555 F.2d 336, 339-40 (2d Cir. 1977); United States v. Persky,

520 F.2d 283, 286-88 (2d Cir. 1975); SEC v. Shapiro, 494 F.2d 1301,

1308 (2d Cir. 1974).

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In response to comments requesting clarification regarding the

relationship among final Rule 180.1 and existing CEA sections 4b and

9(a)(2), the Commission notes that section 753(a) of the Dodd-Frank Act

makes clear that nothing in new CEA section 6(c)(1) ``shall affect, or

be construed to affect, the applicability of section 9(a)(2).''

Likewise, the Commission finds nothing in CEA section 6(c)(1) or final

Rule 180.1 that affects, or should be construed to affect, the

applicability of CEA section 4b.\32\ Section 6(c)(1) and final Rule

180.1 augment the Commission's existing authority to prohibit fraud and

manipulation.

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\32\ Section 4b of the CEA, 7 U.S.C. 6b, prohibits, for example,

a person from defrauding another person in connection with the

making of commodity futures contracts for or on behalf of that other

person. Clayton Brokerage Co. v. CFTC, 794 F.2d 573, 578 (11th Cir.

1986). Thus, a broker's misrepresentations to his customer about

risk may subject the broker to liability under CEA section 4b. Id.

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The Commission declines to adopt the request of one commenter to

remove language from proposed Rules 180.1 and 180.2 that make it a

violation to ``attempt'' to engage in manipulation.\33\ The Commission

is controlled by the language of CEA section 6(c)(1), which

specifically directs the Commission to prohibit the ``attempt[ed]'' use

or employment of any manipulative or deceptive devices or

contrivances.\34\

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\33\ Associations at page 8.

\34\ The Commission understands that courts interpreting the

statutory phrase ``any manipulative or deceptive device'' as it is

used in Section 10(b) of the Exchange Act have deemed it broad

enough to encompass an attempt. See, e.g., SEC v. Martino, 255 F.

Supp. 2d 268, 287 (S.D.N.Y. 2003) (``[A]n attempted manipulation is

as actionable as a successful one'').

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The Commission declines to adopt the request of certain commenters

to interpret CEA section 6(c)(1) as merely extending the Commission's

existing anti-fraud and anti-manipulation authority to cover swaps.

Such an interpretation would be inconsistent with the language of CEA

section 6(c)(1), as amended by section 753 of the Dodd-Frank Act, under

which Congress granted the Commission broad new authority to prohibit

``any manipulative or deceptive device or contrivance'' in connection

with any swap, or a contract of sale of any commodity in interstate

commerce, or for future delivery on or subject to the rules of any

registered entity.

The Commission intends to interpret and apply CEA section 6(c)(1)

and final Rule 180.1 ``not technically and restrictively, but flexibly

to effectuate its remedial purposes.''\35\ Comments that the

Commission's use of the word ``commodity'' in proposed Rule 180.1

``indicates that the rule will apply to virtually every commercial

transaction in the economy'' are misplaced.\36\ The final Rule requires

a fraud or manipulation, or attempted fraud or manipulation, and that

the fraud or manipulation or attempted fraud or manipulation, be ``in

connection with'' any swap, or contract of sale of any commodity in

interstate commerce, or contract for future delivery on or subject to

the rules of any registered entity. The ``in connection with''

requirement is discussed in subsection G. below. And although CEA

section 6(c)(1) and final Rule 180.1 give the Commission broad

enforcement authority to prohibit fraud and manipulation in connection

with a contract of sale for any commodity in interstate commerce, the

Commission expects to exercise its authority under 6(c)(1) to cover

transactions related to the futures or swaps markets, or prices of

commodities in interstate commerce, or where the fraud or manipulation

has the potential to affect cash commodity, futures, or swaps markets

or participants in these markets.\37\ This application of the final

Rule respects the jurisdiction that Congress conferred upon the

Commission and fulfills its core mission and the purposes of the Act to

protect market participants and promote market integrity.

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\35\ See, e.g., Zandford, 535 U.S. at 819 (where a statute has a

remedial purpose such as the prevention of fraud, the statute should

be construed ``not technically and restrictively, but flexibly to

effectuate its remedial purposes'') (internal quotation marks and

citations omitted). See also R&W Technical Servs., Ltd. v. CFTC, 205

F.3d 165, 173 (5th Cir. 2000) (In 1974, Congress gave the CFTC

``even greater enforcement powers in part because of the fear that

unscrupulous individuals were encouraging amateurs to trade in the

commodities markets through fraudulent advertising. Remedial

statutes are to be construed liberally, and in an era of increasing

individual participation in commodities markets, the need for such

protection has not lessened'').

\36\ API and NPRA at page 3.

\37\ By way of non-exclusive example, if an entity employed a

deceptive device to sell precious metals to customers as a way for

the customers to speculate on the value of such commodities, or if

an entity employed a deceptive device to sell an agricultural

commodity to persons seeking to hedge price risk in that commodity,

depending on the facts and circumstances, the Commission would

exercise its authority against the entity under Section 6(c)(1) and

final Rule 180.1.

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The foregoing should not be interpreted, however, to mean that a

violation of final Rule 180.1 necessarily requires proof of a market or

price effect, as some commenters' recommend. It does not.\38\ A market

or price effect may well be indicia of the use or employment of a

manipulative or deceptive device or contrivance; nonetheless, a

violation of final Rule 180.1 may exist in the absence of any market or

price effect.\39\

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\38\ In interpreting Exchange Act section 10(b) and SEC Rule

10b-5, the Supreme Court has recognized that the interest in

preserving the integrity of the securities markets was one of the

purposes animating Exchange Act section 10(b), but rejected the

notion that section 10(b) is limited to serving that objective

alone. See Superintendent of Ins. of N.Y. v. Bankers Life & Casualty

Co., 404 U.S. 6, 11-13 (1971).

\39\ Id.

---------------------------------------------------------------------------

In response to comments requesting that ``front-running'' and

similar misuse of customer information be considered a form of fraud-

based manipulation under final Rule 180.1, the Commission declines to

adopt any per se rule in this regard, but clarifies that final Rule

180.1 reaches all manner of fraud and manipulation within the scope of

the statute it implements, CEA section 6(c)(1).

C. The Disclosure Implications of Final Rule 180.1

1. Comments

Some commenters express concern regarding whether proposed Rule

180.1

[[Page 41402]]

would impose new disclosure obligations on commodities market

participants.\40\ According to the Associations, MFA, CME Group, CMC,

COPE, and the Working Group of Commercial Energy Firms (``CEF''),

futures, options, swaps, and physical commodity markets are different

from securities markets, which have extensive disclosure obligations,

and nothing in the CEA mandates disclosure of market conditions or

facts pertaining to the markets for commodities.\41\

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\40\ See, e.g., Associations at pages 1-5; MFA at pages 2-4; CME

Group at pages 2-3; CMC at page 2. The Associations assert, for

example, that unlike the securities antifraud laws and rules, which

are designed primarily for investor protection, the antifraud

provisions in the futures markets are focused in large part,

although not exclusively, on protections against manipulation.

Associations at page 4.

\41\ See, e.g., Associations at pages 1-5; MFA at pages 2-5; CME

Group at pages 2-3; CMC at page 2; COPE at page 3; CEF Comment

Letter at pages 3 and 8.

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The Associations, CEF, and MFA state that proposed Rule 180.1

should not impose any new duties of disclosure, inquiry or diligence

between two sophisticated parties to a bilateral transaction.\42\

Likewise, the ABA Derivatives Committee believes the Commission should

make clear that the anti-manipulation rule under section 6(c)(l) does

not create any new duties of inquiry, diligence or disclosure to

parties to futures, options, swaps or cash commodity transactions.\43\

The ABA Derivatives Committee, the Associations, and MFA urge the

Commission to make it explicit that any final Rule will be violated

only if a party violates a pre-existing duty arising under contract,

common law, or some other non-CEA source.\44\

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\42\ Associations at page 4; CEF at page 8; MFA at pages 2 and

4.

\43\ ABA Derivatives Committee at page 15.

\44\ ABA Derivatives Committee at page 15; Associations at pages

4-5; MFA at pages 4-5.

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API and NPRA urge the Commission to state explicitly that silence,

pure omissions (omissions that do not relate to explicit

representations), and ``no comment'' statements are not actionable.

They also contend that ``[t]here should be no affirmative duty to

convey information to a counterparty in the nature of the reporting and

information requirements as under securities law.'' \45\ Similarly, API

and NPRA recommend that the Commission confirm that there is no duty to

update statements that were truthful at the time that they were

made.\46\ CME Group states that the duty to correct inaccurate

statements should be limited to circumstances where a futures market

participant realizes a statement was incorrect when the statement was

made.\47\

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\45\ API and NPRA at page 19.

\46\ API and NPRA at page 24.

\47\ CME Group at page 8.

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The Associations seek clarification that proposed Rule 180.1 will

not impede the ability of market participants to take positions and

trade on the basis of nonpublic information that they obtain

legitimately (i.e., not through the breach of a pre-existing duty to

keep such information confidential or through another party's similar

breach of a pre-existing duty).\48\ CME Group further states that the

Commission should not adopt a ``misappropriation'' theory of ``insider

trading''--that is, where one misappropriates confidential information

for securities trading purposes, in breach of a duty owed to the source

of the information.\49\ The ABA Derivatives Committee recommends the

Commission make clear that securities law doctrines such as the

prohibition on insider trading and the ``fraud-on-the-market'' theory

do not apply under the final Rule.\50\

---------------------------------------------------------------------------

\48\ Associations at page 5.

\49\ CME Group at pages 4-5.

\50\ ABA Derivatives Committee at pages 8-9 (stating that the

fraud-on-the-market theory ``establishes a rebuttable presumption in

private rights of action under Exchange Act Section 10(b) and SEC

Rule 10b-5 that in an efficient market for a security a plaintiff

can be held to have relied on a defendant's fraudulent

misrepresentation or omission in connection with the purchase or

sale of a security--even if the plaintiff was not aware of the

misrepresentation or omission--by virtue of the plaintiff's reliance

on the fact that a security's price reflects the fraudulent

misrepresentation and omission'') (citations omitted) (emphasis in

original).

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The West Virginia Oil Marketers & Grocers Association (``OMEGA'')

states that trading based on inside information should be

prohibited.\51\

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\51\ OMEGA Comment Letter at page 3; accord Mr. Peter Carini

Comment Letter at page 3; Pen Fern Oil Co., Inc. Comment Letter at

page 3; Scullin Oil Co. Comment Letter at page 3.

---------------------------------------------------------------------------

Responding to other commenters that the CFTC should not incorporate

the standards and case law under SEC Rule 10b-5, Professor Greenberger

states that the anti-manipulation rules and regulations are not bound

by the legal frameworks of the two markets. Professor Greenberger

states that the focal point of these anti-manipulation rules is to

maintain market integrity, which is a common goal shared by both the

securities and futures markets.\52\

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\52\ Professor Greenberger at pages 2-4. Professor Greenberger

further states that the influx of capital from retail investors to

the commodity markets through Exchange Traded Funds has changed the

dynamics of the futures markets. Id.

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PMAA believes that the Commission, in relying on SEC Rule 10b-5, is

cognizant of and more than capable of advancing its distinct regulatory

responsibilities in ensuring a transparent marketplace free from

manipulation.\53\ PMAA believes that proposed Rule 180.1 will

effectively implement the statutory and Congressional directive to

clearly delineate and prevent impermissible conduct by market

participants.\54\

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\53\ PMAA at page 1.

\54\ PMAA at page 2.

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2. Commission Determination

As a general matter, the Commission does not believe that final

Rule 180.1, or the statute it implements, are problematic or will

create uncertainty as to the existence of disclosure obligations when

applied to the markets the Commission regulates. This is not to say

that commenters did not raise valid concerns about how securities law

precedent will be applied in the commodities markets with respect to

disclosure obligations. The Commission believes that Congress addressed

these concerns, however, by enacting CEA section 6(c)(1), which

provides that ``no rule or regulation promulgated by the Commission

shall require any person to disclose to another person nonpublic

information that may be material to the market price, rate, or level of

the commodity transaction, except as necessary to make any statement

made to the other person in or in connection with the transaction not

misleading in any material respect.'' To be clear, the Commission is

not, by this rulemaking, imposing any new affirmative duties of

inquiry, diligence, or disclosure.\55\

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\55\ The derivatives markets are not, however, caveat emptor

markets. The CEA has many provisions designed to protect market

participants through disclosure requirements applicable to

Commission registrants. See, e.g., 17 CFR part 155 (risk disclosure

obligations); 17 CFR 4.20-27 (duties and disclosure obligations on

Commodity Pool Operators). Depending on the facts and circumstances,

violation of such duties could constitute a violation of the final

Rule.

---------------------------------------------------------------------------

Further, it is not a violation of final Rule 180.1 to withhold

information that a market participant lawfully possesses about market

conditions. The failure to disclose such market information prior to

entering into a transaction, either in an anonymous market setting or

in bilateral negotiations, will not, by itself, constitute a violation

of final Rule 180.1. Therefore, the Commission clarifies that silence,

absent a pre-existing duty to disclose, is not deceptive within the

meaning of final Rule 180.1.\56\ Similarly, the Commission interprets

``no comment'' statements as

[[Page 41403]]

``generally the functional equivalent of silence.'' \57\

---------------------------------------------------------------------------

\56\ Cf. Basic Inc. v. Levinson, 485 U.S. 224, 239 n. 17 (1988)

(``Silence, absent a duty to disclose, is not misleading under [SEC]

Rule 10b-5'').

\57\ Id. (internal quotation marks and citation omitted).

---------------------------------------------------------------------------

The Commission received comments regarding hedging or speculating

(i.e., trading) on the basis of material nonpublic information.\58\

These comments use the label ``insider trading,'' which can mean

different things in different contexts. The Commission recognizes that

unlike securities markets, derivatives markets have long operated in a

way that allows for market participants to trade on the basis of

lawfully obtained material nonpublic information. This final Rule does

not prohibit trading on the basis of material nonpublic information

except as provided in the following paragraph or otherwise prohibited

by law.\59\ Further, the Commission reiterates that the final Rule does

not create an affirmative duty of disclosure (except, as provided by

section 6(c)(1), ``as necessary to make any statement made to the other

person in or in connection with the transaction not misleading in any

material respect'').

---------------------------------------------------------------------------

\58\ See, e.g., Associations at page 5; MFA at page 5.

\59\ See, e.g., Dodd-Frank Act section 746, amending CEA section

4c(a) (7 U.S.C. 6c(a)).

---------------------------------------------------------------------------

Depending on the facts and circumstances, a person who engages in

deceptive or manipulative conduct in connection with any swap, or

contract of sale of any commodity in interstate commerce, or contract

for future delivery on or subject to the rules of any registered

entity, for example by trading on the basis of material nonpublic

information in breach of a pre-existing duty (established by another

law or rule, or agreement, understanding, or some other source), or by

trading on the basis of material nonpublic information that was

obtained through fraud or deception, may be in violation of final Rule

180.1. The Commission believes that this application of the final Rule

would be consistent with our responsibility to protect market

participants and promote market integrity and with our statement in the

NOPR that section 6(c)(1) is a broad catch-all provision, reaching any

manipulative or deceptive device or contrivance.'' \60\

---------------------------------------------------------------------------

\60\ 75 FR at 67658.

---------------------------------------------------------------------------

The Commission declines to adopt comments recommending outright

rejection of the potential application of the ``fraud-on-the-market''

theory under final Rule 180.1.\61\ The ``fraud-on-the-market'' theory

includes a presumption of reliance, which is a required element in

private rights of action arising under SEC Rule 10b-5. Unlike a private

litigant, however, the government is not required to prove reliance in

an enforcement action under SEC Rule 10b-5 just as it is not required

to demonstrate harm to investors.\62\ Consistent with judicial

interpretations of Exchange Act section 10(b) and SEC Rule 10b-5, the

Commission does not interpret the final Rule as requiring a showing of

reliance or harm to market participants in a government action brought

under CEA section 6(c)(1) and final Rule 180.1. At the same time, we

decline to opine on the required elements of a private right of action

under CEA section 6(c)(1) and final Rule 180.1 as it is beyond the

purview of this rulemaking.

---------------------------------------------------------------------------

\61\ In the securities context, ``the `fraud-on-the-market'

presumption helps investors who cannot demonstrate that they,

themselves, relied on fraud that reached the market.'' Stoneridge In

v. Partners, LLC v. Scientific-Atlanta, Inc., 552 U.S. 148, 171

(2008).

\62\ See, e.g., Berko v. SEC, 316 F.2d 137, 143 (2d Cir. 1963)

(finding reliance and injury to private shareholders ``legally

irrelevant'' to the SEC's Exchange Act section 10(b) and SEC Rule

10b-5 claim); see also United States v. Haddy, 134 F.3d 542 (3d Cir.

1998) (concluding that securities laws did not require proof of

reliance in an Exchange Act section 10(b) action brought by

government).

---------------------------------------------------------------------------

D. The Operation of the Provision Prohibiting Material Misstatements

and Omissions

1. Comments

COPE states that inclusion of the words ``attempt to make'' any

untrue or misleading statement of a material fact in proposed Rule

180.1(a)(2) is vague and confusing. COPE requests that the Commission

clarify proposed Rule 180.1(a)(2) to state that the proscribed acts

must be done with the intent to deceive, manipulate, or defraud.\63\

---------------------------------------------------------------------------

\63\ COPE at page 5.

---------------------------------------------------------------------------

API and NPRA believe that the Commission should clarify that only

statements and acts pertaining to transactions in futures, swaps, or

commodities markets underlying futures or swaps may give rise to

liability under proposed Rule 180.1.\64\ API and NPRA also believe that

the Commission should exercise its discretion to exclude ``partial

omissions'' from any final Rule.\65\

---------------------------------------------------------------------------

\64\ API and NPRA at page 11.

\65\ API and NPRA at page 23.

---------------------------------------------------------------------------

Mr. Chris Barnard (``Barnard'') believes the proposed rules should

apply to both positive misconduct and misconduct by omission given the

ongoing nature of the rights and obligations that may be created in a

swap agreement.\66\

---------------------------------------------------------------------------

\66\ Barnard Comment Letter at page 2.

---------------------------------------------------------------------------

2. Commission Determination

The Commission declines to adopt comments recommending deletion of

the phrase ``or attempt to make'' in final Rule subsection 180.1(a)(2).

This phrase captures situations where a person attempts to employ a

manipulative device or artifice to defraud. For example, when a

supervisor attempts to have a subordinate make a fraudulent material

misstatement or omission but that subordinate rebuffs the supervisor,

the phrase ``or attempt to make'' would operate to reach the

supervisor's attempted fraud.

The Commission declines to modify the proposed Rule in response to

comments requesting that only statements and acts pertaining to

``transactions'' in futures, swaps, or commodities markets underlying

futures or swaps may give rise to liability under proposed Rule

180.1.\67\ Rather, CEA section 6(c)(1) prohibits manipulative or

deceptive devices or contrivances in connection with any swap, or a

contract of sale of any commodity in interstate commerce, or for future

delivery on or subject to the rules of any registered entity.\68\ The

Commission also declines to make modifications in response to comments

recommending that the Commission exercise its discretion to exclude

``partial omissions'' from the final Rule.\69\ Fraud-by-partial-

omission or half-truths could violate final Rule 180.1 if the facts and

circumstances of a particular case so warrant. Finally, the Commission

declines to impose any restriction on final Rule 180.1(a)(2) to

misstatements or omissions that distort or, in the case of an attempted

violation of 180.1(a)(2), are likely to distort market conditions. Such

a restriction would be tantamount to requiring a price or market effect

for a violation of final Rule 180.1. As stated above, the Commission

rejects any such requirement for a violation of final Rule 180.1

because the statute it implements, CEA section 6(c)(1), imposes no such

requirement.

---------------------------------------------------------------------------

\67\ API and NPRA at page 11.

\68\ See discussion in subsection G below.

\69\ API and NPRA at page 23.

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E. The Statutory Exception for Good Faith Mistakes

1. Comments

When considering the application of final Rule 180.1(a)(2), several

commenters asked the Commission to extend CEA section 6(c)(1)(C)'s

provision for ``Good Faith Mistakes'' in the mistaken transmission of

``false or misleading or inaccurate information to a price reporting

service'' to other

[[Page 41404]]

violations under CEA section 6(c)(1) and proposed Rule 180.1. API and

NPRA request that the good faith exception be expanded to cover ``all

public statements or reports by a market participant or other

communications covered by the proposed rule.'' \70\ Platts seeks

extension of CEA section 6(c)(1)(C)'s good faith mistakes exception to

proposed Rules 180.1 and 180.2, and Argus Media, Inc. (``Argus'') asks

the Commission to extend CEA section 6(c)(1)(C) to CEA section

9(a)(2).\71\

---------------------------------------------------------------------------

\70\ API and NPRA at page 25.

\71\ Platts Comment Letter at pages 4-6; Argus Comment Letter at

pages 1 and 5-6.

---------------------------------------------------------------------------

2. Commission Determination

In crafting CEA section 6(c)(1)(C), Congress could have extended

the exception for good faith mistakes to all of CEA sections 6(c) and

9(a)(2) but did not do so. Following the plain text of CEA section

6(c)(1)(C), the Commission limited the good faith exception in final

Rule 180.1 to the mistaken transmission of false or misleading or

inaccurate information to a price reporting service. The Commission

also makes clear that the scienter requirement of final Rule 180.1,

final Rule 180.2, and CEA section 9(a)(2) functions to ensure that

good-faith mistakes or negligence will not constitute a violation of

the final Rules under any circumstance. Thus, a person lacking the

requisite scienter cannot be found to have engaged in a manipulative or

deceptive device or contrivance within the meaning of CEA section

6(c)(1).

F. The Required Scienter for a Violation of Final Rule 180.1

1. Comments

Several commenters asked the Commission to clarify the standard of

scienter under proposed Rule 180.1.

Senator Levin recommends that the Commission shift the burden of

proof with respect to intent to market participants, which would

require them to show that their conduct was not manipulative.\72\

---------------------------------------------------------------------------

\72\ Senator Levin at page 4.

---------------------------------------------------------------------------

API and NPRA state that the Commission should clarify that scienter

may not be premised on the collective knowledge of an entire company,

but instead must be based on the knowledge of the person participating

in the deceptive or fraudulent conduct.\73\

---------------------------------------------------------------------------

\73\ API and NPRA at page 18.

---------------------------------------------------------------------------

The ABA Derivatives Committee, CEF, MFA, API and NPRA disagree with

the Commission's proposal to adopt recklessness as the scienter

requirement, believing instead that the language of the statute

supports a specific intent standard.\74\ In the alternative, API and

NPRA, CMC, Edison Electric Institute (``EEI''), MFA, and the

Associations propose a standard of ``extreme recklessness.'' \75\

Additionally, commenter COPE states that the Commission should make

clear that the type of recklessness contemplated is not recklessness in

a tort sense, but rather a business activity that diverges so greatly

from rational market behavior as to indicate a fraudulent intent.\76\

---------------------------------------------------------------------------

\74\ ABA Derivatives Committee at pages 11-13; CEF at page 5;

MFA at pages 6-7; API and NPRA at pages 12-16. API and NPRA also

believe that a recklessness standard may be appropriate in the

highly regulated securities context with its fiduciary duties and

strict disclosure requirements, but a recklessness standard in this

context would increase the costs of complying with a market

manipulation rule and deter market participants from disclosing

relevant information that helps markets to function more

efficiently.

\75\ API and NPRA at page 17; CMC at page 2; EEI Comment Letter

at page 4; MFA at page 6; Associations at pages 2 and 6-9.

\76\ COPE at page 7.

---------------------------------------------------------------------------

The ABA Derivatives Committee requests that in cases alleging

manipulation under final Rule 180.1, the Commission must show a

specific intent to cause an artificial price to satisfy the scienter

requirement.\77\

---------------------------------------------------------------------------

\77\ ABA Derivatives Committee at pages 11-15.

---------------------------------------------------------------------------

CEF requests that if a recklessness standard is adopted, it should

not extend to violations arising under CEA section 9(a)(2).\78\ In

addition, CEF suggests that the Commission confirm that it will not

adopt a scienter requirement ``that creates an implied presumption that

sophisticated traders understand and are aware of the effects of their

actions taken in the normal course of business on other commodity or

securities markets.'' \79\

---------------------------------------------------------------------------

\78\ CEF at page 7.

\79\ CEF at page 7. Rather, CEF believes that the CFTC should

evaluate alleged manipulation on a case-by-case basis, taking into

consideration the facts and circumstances of each case.

---------------------------------------------------------------------------

PMAA supports and encourages the Commission to adopt

``recklessness'' as the level of scienter, particularly when evaluating

issues relating to algorithmic market manipulation.\80\ According to

PMAA, the Commission's adoption of a ``recklessness'' standard in CEA

section 4c(a)(7) and proposed Rules 180.1 and 180.2 should impose

enhanced duties of diligence on those using or employing automated

trading systems.\81\

---------------------------------------------------------------------------

\80\ PMAA at page 2.

\81\ PMAA at page 2.

---------------------------------------------------------------------------

Mr. Clarence Townsend (``Townsend'') believes the standard of

scienter should be strengthened to ``reckless manipulation.'' \82\

---------------------------------------------------------------------------

\82\ Townsend Comment Letter at page 1.

---------------------------------------------------------------------------

Professor Greenberger states that section 6(c)(1) lowers the

standard of manipulation from ``knowingly'' to ``reckless.'' \83\

Professor Greenberger states that CEA section 6(c)(1) was designed to

empower the Commission with ``the same anti-manipulation standard

employed by the [SEC] for more than 75 years, which has been upheld and

defined in many court cases, including the Supreme Court.'' \84\

---------------------------------------------------------------------------

\83\ Professor Greenberger at page 2.

\84\ Professor Greenberger at page 2 (internal quotation marks

and citation omitted). Professor Greenberger states that the

Commission correctly proposes that judicial precedent interpreting

and applying Exchange Act Section 10(b) and SEC Rule 10b-5 in the

context of the securities markets should guide application of the

scienter standard relevant to proposed Rule 180.1 given that

proposed Rule 180.1 is modeled on SEC Rule 10b-5. Id. In Professor

Greenberger's view, such judicial precedent ``will provide

regulatory certainty and will not disrupt the market function.'' Id.

---------------------------------------------------------------------------

The Air Transport Association (``ATA'') believes that the scienter

standard should enable the Commission to police and punish a broader

array of potentially manipulative conduct than is reachable under the

CEA section 9(a)(2) anti-manipulation provision.\85\

---------------------------------------------------------------------------

\85\ ATA Comment Letter at page 4.

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2. Commission Determination

Upon consideration of all the comments in this rulemaking record,

the Commission clarifies that a showing of recklessness is, at a

minimum, necessary to prove the scienter element of final Rule

180.1.\86\ Consistent with long-standing precedent under the

commodities and securities laws, the Commission defines recklessness as

an act or omission that ``departs so far from the standards of ordinary

care that it is very difficult to believe the actor was not aware of

what he or she was doing.'' \87\ Proof of knowledge, however, is not

required.\88\ Certain commenter requests for a scienter standard of

``specific intent'' would unduly limit the scope of final Rule 180.1.

Likewise,

[[Page 41405]]

in response to comments calling for a bifurcated approach to scienter

under 6(c)(1) and final Rule 180.1, that is, specific intent to effect

a price or price trend that does not reflect legitimate forces of

supply and demand for non-fraud based manipulations, and ``extreme

recklessness'' in fraud-based manipulations, the Commission states, as

it did in the NOPR, that it will be guided, but not controlled by,

judicial precedent interpreting and applying scienter under Exchange

Act section 10(b) and SEC Rule 10b-5.\89\ At the same time, the

Commission makes clear that final Rule 180.1 does not reach inadvertent

mistakes or negligence. Final Rule 180.1 will not affect market

participants engaged in legitimate market activity undertaken in good

faith.\90\ Under final Rule 180.1, the plaintiff bears the burden of

proving the violation by a preponderance of the evidence.\91\

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\86\ See, e.g., SEC v. U.S. Envtl., Inc., 155 F.3d 107, 111 (2d

Cir. 1998) (finding allegation of reckless participation in a market

manipulation sufficient to state a claim of violation of Exchange

Act section 10(b)).

\87\ Drexel Burnham Lambert Inc. v. CFTC, 850 F.2d 742, 748 (DC

Cir. 1988); see also Sundstrand Corp. v. Sun Chem. Corp., 553 F.2d

1033, 1045 (7th Cir. 1977), cert. denied, 434 U.S. 875 (1977)

(holding that recklessness under SEC Rule 10b-5 means ``an extreme

departure from the standards of ordinary care, and which presents a

danger of misleading buyers or sellers that is either known to the

defendant or is so obvious that the actor must have been aware of

it'') (internal quotation marks and citation omitted); SEC v.

Platforms Wireless Int'l Corp., 617 F.3d 1072, 1093-94 (9th Cir.

2010) (``scienter [under SEC Rule 10b-5] requires either deliberate

recklessness or conscious recklessness, and [ ] it includes a

subjective inquiry turning on the defendant's actual state of

mind'') (internal quotation marks and citations omitted).

\88\ See, e.g. Hollinger, v. Titan Capital Corp., 914 F.2d 1564,

1568-96 (9th Cir. 1990) (en banc), cert. denied, 111 S. Ct. 1621

(1991).

\89\ 75 FR at 67659.

\90\ Consistent with the Supreme Court's interpretation of

Exchange Act section 10(b) in Ernst & Ernst v. Hochfelder, 425 U.S.

185, 206 (1976), the Commission finds no indication in CEA section

6(c)(1) that Congress intended anyone to be made liable for a

violation of final Rule 180.1 unless he or she acted other than in

good faith.

\91\ See, e.g., Herman & Maclean v. Huddleston, 459 U.S. 375,

387-90 (1983), citing SEC v. C. M. Joiner Leasing Corp., 320 U.S.

344, 355 (1943).

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With respect to comments requesting clarification that scienter may

not be premised on the collective knowledge of an entire company, the

Commission notes that there is disagreement among the circuits on the

collective knowledge theory--that is, the courts disagree on whether

the conduct of one corporate agent can be aggregated with another

corporate agent's state of mind in holding a corporation liable for

fraud.\92\ The judicial decisions on the applicability of the

collective knowledge theory under Exchange Act section 10(b) involve

only private securities litigation; the Commission is unaware of any

judicial decision applying the so-called collective knowledge theory

under Exchange Act section 10(b) where the government is the plaintiff.

Further, the Supreme Court has not spoken to the issue under Exchange

Act section 10(b) or any other similar fraud-based prohibition.

---------------------------------------------------------------------------

\92\ Compare, e.g., United States v. Bank of New England, N.A.,

821 F.2d 844, 856 (1st Cir. 1987) (holding in a corporate criminal

liability action arising under the Currency Transaction Reporting

Act, that ``[c]orporations compartmentalize knowledge, subdividing

the elements of specific duties and operations into smaller

components. The aggregate of those components constitutes the

corporation's knowledge of a particular operation * * * [and the]

corporation cannot plead innocence by asserting that the information

obtained by several employees was not acquired by any one individual

who then would have comprehended its full import''); City of Monroe

Employees Retirement System v. Bridgestone Corp., 387 F.3d 468, 690

(6th Cir. 2004) (finding that plaintiffs adequately pleaded

securities fraud claims against a corporate defendant even though

the complaint failed to allege that the corporate agent whose

scienter was imputed to the corporation ``played any role in

drafting, reviewing, or approving'' the allegedly false

representations or ``that he was, as a matter of practice, or by job

description, typically involved in the creation of such

documents''); with Nordstrom Inc. v. Chubb & Son Inc., 54 F. 3d

1424, 1435 (9th Cir. 1995) (``there is no case law supporting an

independent `collective scienter' theory,'' i.e., the theory ``that

a corporation's scienter could be different from that of an

individual director or officer''); Southland Sec. Corp. v. INSpire

Ins. Solutions Inc., 365 F.3d 353, 364-65 (5th Cir. 2004) (quoting

In re Apple Computer Inc., 243 F. Supp. 2d 1012, 1023 (N.D. Cal.

2002)) (`` `A defendant corporation is deemed to have the requisite

scienter for fraud only if the individual corporate officer making

the statement has the requisite level of scienter * * * at the time

he or she makes the statement' * * * [T]he required state of mind

must actually exist in the individual making the misrepresentation

and may not simply be imputed to that individual on general

principles of agency''), cited with approval in Makor Issues &

Rights, Ltd. v. Tellabs Inc., 513 F.3d 702, 708 (7th Cir. 2008);

United States v. Sci. Applications Int'l Corp., 626 F.3d 1257, 1274-

75 (DC Cir. 2010) (holding a ``collective knowledge'' jury

instruction inconsistent with the scienter requirement under the

False Claims Act and expressing doubt, in dicta, regarding the use

of ``collective knowledge'' to establish corporate scienter in non-

FCA cases).

---------------------------------------------------------------------------

Given that the collective knowledge theory of alleging and proving

scienter against corporate defendants is permissible in certain

circuits, and because the Commission finds the policy rationale

underlying the theory to be in the public interest (i.e., that it

creates incentives for the corporate entity to create and maintain

effective internal communications and controls to prevent wrongful and

harmful conduct), the Commission declines to adopt comments requesting

that the Commission foreclose the collective knowledge theory in any

case. Rather, the Commission intends to follow the law of the various

circuits and, in all cases, consider the totality of the facts and

circumstances of a particular case before deciding whether enforcement

action is appropriate and in the public interest.

G. The Scope of the Phrase ``In Connection With''

1. Comments

In response to the NOPR, Better Markets requested the Commission

interpret the ``in connection with'' language of Proposed Rule 180.1

broadly to include not only the transaction giving rise to a swap

agreement, but also all of the continuing performance obligations under

such agreement.\93\

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\93\ Better Markets at page 2. Better Markets notes that the SEC

employed the language in connection with the ``offer, purchase or

sale'' of any security-based swap, and also targeted a specific

characteristic of swaps--the ongoing payments or deliveries between

the parties throughout the life of the security-based swap in

accordance with their rights and obligations.

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CME Group states that the Commission should interpret the ``in

connection with'' standard to require a ``nexus'' between transactions

(or offers to transact) subject to CFTC jurisdiction and prohibited

fraudulent or deceptive conduct.\94\ CEF expressed concern that a broad

interpretation of the phrase ``in connection with'' may result in

conflicting or duplicative regulation with other agencies, including

the Federal Energy Regulatory Commission (``FERC''), SEC, Federal Trade

Commission (``FTC'') and the Public Utility Commission of Texas.\95\

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\94\ CME Group at pages 9-10.

\95\ CEF at pages 3-4.

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Senator Levin believes the Commission should employ its new

authority under CEA section 6(c) to prevent manipulative and disruptive

activities even where the impacts may only be felt in other markets--

including markets regulated by the SEC.\96\ Senator Levin expresses

concern that, as currently drafted, the proposed rules may not allow

the CFTC to effectively regulate market activity that is intended to or

actually does artificially change prices in another market or

product.\97\

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\96\ Senator Levin at pages 5-6.

\97\ Senator Levin at pages 5-6.

\98\ SEC v. Zandford, 535 U.S. 813 (2002).

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2. Commission Determination

Upon careful consideration of the entire rulemaking record, the

Commission finds it unnecessary to alter the text of final Rule 180.1.

The Commission interprets the words ``in connection with'' broadly, not

technically or restrictively. Section 6(c)(1) and final Rule 180.1

reach all manipulative or deceptive conduct in connection with the

purchase, sale, solicitation, execution, pendency, or termination of

any swap, or contract of sale of any commodity in interstate commerce,

or contract for future delivery on or subject to the rules of any

registered entity. Accordingly, final Rule 180.1 covers conduct

including, but not limited to, all of the payment and other obligations

arising under a swap.

While broad, the elasticity of the ``in connection with'' language

is not limitless. In this regard, the Commission finds the Supreme

Court's decision in Zandford interpreting SEC Rule 10b-5's ``in

connection with'' language particularly instructive.\98\ In its

opinion, the Court gave the following example to

[[Page 41406]]

highlight the limits of SEC Rule 10b-5 applicability:

If * * * a broker embezzles cash from a client's account or

takes advantage of the fiduciary relationship to induce his client

into a fraudulent real estate transaction, then the fraud would not

include the requisite connection to a purchase or sale of

securities. Likewise if the broker told his client he was stealing

the client's assets, that breach of fiduciary duty might be in

connection with a sale of securities, but it would not involve a

deceptive device or fraud.\99\

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\99\ Id. at 825 n. 4. The holding of Zandford is consistent with

judicial interpretations of the phrase ``in or in connection with''

in the anti-fraud provisions of the CEA, particularly section 4b(a),

which prohibits any person from defrauding another person ``in or in

connection with'' a commodity futures transaction. For example, in R

& W Tech. Servs. Ltd., v. CFTC, 205 F.3d 165 (5th Cir. 2000), cert.

denied, 531 U.S. 817 (2000), the Fifth Circuit, in affirming the

liability of a defendant for defrauding another person, refused to

construe ``in or in connection with'' and 4b(a) narrowly. Id. at

171-74. Rather, the court endorsed the Commission's position that

fraud in the sale of investment advice will be ``in connection

with'' the sale of a commodities futures contract ``if the fraud

relates to'' the risk of trading and the primary purpose of the

advice is to execute trades. Id. at 172-73. As a general matter, the

Supreme Court has stated that anti-fraud and anti-manipulation

provisions of the CEA are to be construed broadly. See, e.g., CFTC

v. Schor, 478 U.S. 833, 836 (1986) (``The CEA broadly prohibits

fraudulent and manipulative conduct in connection with commodity

futures transactions.'').

The Commission intends to be guided by this and other precedent

interpreting the words ``in connection with'' in the securities

context.\100\

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\100\ Zandford, 535 U.S. 813 (2002); see also Merrill Lynch,

Pierce, Fenner & Smith, Inc. v. Dabit, 547 U.S. 71, 85 (2006)

(holding that the ``in connection with'' language of SEC Rule 10b-5

requires a nexus between fraudulent conduct and a securities

transaction).

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As to comments regarding cross-market manipulation, the Commission

intends to apply final Rule 180.1 to the fullest extent allowed by law

when determining whether conduct in one market is ``in connection

with'' an activity or product subject to the jurisdiction of the

Commission. Further, where the Commission's jurisdiction is not

exclusive,\101\ the Commission will, to the extent practicable and

consistent with its longstanding practice, coordinate its enforcement

efforts with other federal or state law enforcement authorities.

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\101\ 7 U.S.C. 2(a)(1)(A).

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H. Penalty, Procedure, Effect on Automated Trading Systems, and a

Proposal To Define Manipulation

1. Comments

With regard to the penalty for violating final Rule 180.1, API and

NPRA state that if the Commission chooses to promulgate a catch-all

anti-fraud rule without regard to whether the conduct had a

manipulative purpose or effect (a proposal that API and NPRA submit

would exceed the Commission's authority), then the Commission should

clarify that the enhanced sanctions in section 753 of the Dodd-Frank

Act apply only to cases of manipulation or attempted manipulation, and

not to every alleged violation of the rule.\102\ CEF seeks

clarification that, in a case of a false reporting violation under CEA

section 6(c)(1)(A), the Commission is not permitted to impose a penalty

of an amount equal to the greater of $1 million or treble damages

pursuant to CEA section 6(c)(10)(C)(ii).\103\

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\102\ API and NPRA at pages 10-11.

\103\ CEF at page 8.

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On the subject of implementation, API and NPRA ask that any final

rule adopt a 180-day effective date to enable the industry to design

and implement comprehensive compliance programs.\104\ EEI and CEF

recommend that the CFTC implement its new authority in a cooperative

manner with FERC and further recommend that it hold a workshop, before

the final Rule is issued, on a variety of subjects related to

interpretation and application of the final Rule.\105\ Professor

Greenberger believes that the Commission correctly states in the NOPR

that market participants should already have constructed and

implemented procedures to guard against their employees' and agents'

attempts at manipulation. As such, Professor Greenberger believes that

there should not be any additional cost to the existing market

participants.\106\

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\104\ API and NPRA at page 27.

\105\ EEI at pages 2-4; CEF at pages 4-5.

\106\ Greenberger at page 4.

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On the issue of use or employment of algorithmic or automated

trading systems, the PMAA requests that the Commission establish

standards governing the use of algorithmic trading technology by

requiring internal controls such as logs and specific notification

protocols, directed to the trading entity, when significant code

modification of its algorithm takes place, including interpretation by

the algorithm of digitized news and social networking sources.\107\

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\107\ PMAA at pages 1-2.

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Finally, the Brattle Group economists state that the Commission

should adopt its proposed definition of manipulation: ``Manipulation is

engaging in anomalous price-making behavior intended to alter a price

in order to profit in affected price-taking transactions.'' \108\ The

Brattle Group economists contend that manipulation thus defined can be

interpreted as a form of fraud whereby anomalous behavior (non-

economic, stand-alone transactions for the actor) injects false or

misleading information into a market and consequently impairs its

integrity.\109\

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\108\ Brattle Group economists Comment Letter at page 6.

\109\ Brattle Group economists at pages 6-7.

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2. Commission Determination

With respect to penalties, the Commission will follow CEA section

6(c)(10)(C)(ii), which states that the Commission may assess ``in any

case of manipulation or attempted manipulation in violation of [CEA

section 6(c)] or section 9(a)(2), a civil penalty of not more than an

amount equal to the greater of--(I) $1,000,000; or (II) triple the

monetary gain to the person for each such violation.'' CEF's request

that the penalties for manipulation not apply to violations of CEA

section 6(c)(1)(A) is declined because such an outcome would conflict

with the plain language of the statute. False or misleading or

inaccurate reporting is a type of unlawful manipulation specifically

prohibited by CEA section 6(c)(1)(A). Accordingly, where section

6(c)(1)(A) applies, the Commission may assess a penalty of an amount

equal to the greater of $1 million or treble damages under CEA section

6(c)(10)(C)(ii) for each such violation.

The Commission declines to adopt comments recommending that it

conduct further technical conferences on this rulemaking. The

Commission has provided notice and opportunity to comment and has met

with numerous groups to discuss this rulemaking.\110\ Further, as noted

above, there is extensive case law interpreting SEC Rule 10b-5 upon

which final Rule 180.1 is modeled.\111\

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\110\ A list of all external meetings held on Dodd-Frank Act

section 753 is available at: http://www.cftc.gov/LawRegulation/DoddFrankAct/ExternalMeetings/index.htm.

\111\ Similarly, the Commission has ample experience enforcing

the predecessor provisions of final Rule 180.2.

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The Commission declines to adopt comments requesting heightened

supervision of algorithmic and automated trading systems as beyond the

scope of this rulemaking. Nevertheless, as a general matter, a

supervisory failure may be one of the facts and circumstances that the

Commission considers in determining whether a violation of the final

Rule exists.

The Commission declines to adopt comments proposing a new

economics-based definition of manipulation. Instead, as stated above,

all relevant

[[Page 41407]]

facts and circumstances must be considered in determining whether a

violation of final Rule 180.1 exists.

V. Discussion of CEA Section 6(c)(3) and Final Rule 180.2

The Commission proposed Rule 180.2 under its general rulemaking

authority, CEA section 8a(5) and its statutory authority to prohibit

manipulation under new CEA section 6(c)(3). Proposed Rule 180.2 mirrors

the text of new CEA section 6(c)(3), by stating that ``[i]t shall be

unlawful for any person, directly or indirectly, to manipulate or

attempt to manipulate the price of any swap, or of any commodity in

interstate commerce, or for future delivery on or subject to the rules

of any registered entity.'' In the NOPR, the Commission proposed to

continue ``interpreting the prohibition on price manipulation and

attempted price manipulation to encompass every effort to improperly

influence the price of a swap, commodity, or commodity futures

contract.'' \112\

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\112\ 75 FR at 67658.

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A. Comments

The CME Group believes that the Commission should employ a bright-

line test under final Rule 180.2 that distinguishes prohibited

manipulative conduct from legitimate competitive trading activities. To

that end, CME Group urges the Commission to clarify what factors or

types of activity the Commission considers to be ``intended to

interfere with the legitimate forces of supply and demand.'' \113\ The

CME Group believes the Commission's statement in the NOPR that ``an

illegal effect on price can often be conclusively presumed from the

nature of the conduct in question and other factual circumstances not

requiring expert economic analysis'' \114\ is tantamount to a ``we-

know-it-when-we-see-it-approach'' that impermissibly collapses the

third and fourth elements of the traditional framework for manipulation

outlined in Cox.\115\

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\113\ CME Group at page 11. CME Group states that the Commission

also should clarify how to determine whether a price has been

affected by illegitimate factors. CME Group at pages 11-12.

\114\ 75 FR at 67660-61.

\115\ In the Matter of Cox, [1986-1987 Transfer Binder] Comm.

Fut. L. Rep. (CCH) P 23,786 at 34,060-61 (CFTC July 15, 1987).

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COPE and EEI believe that the provisions in proposed Rule 180.1 are

the same as proposed Rule 180.2 and thus the latter should be

deleted.\116\ EEI recommends that if the Commission chooses not to

delete proposed Rule 180.2, it should carve this section out of the

current rulemaking initiative and issue a separate and more detailed

NOPR for public comment.\117\

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\116\ COPE at pages 6-7; EEI at page 6.

\117\ EEI at page 6.

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EEI requests that the Commission affirm in regulatory text that the

scienter requirement for proposed Rule 180.2 is specific intent under

the Commission's four-prong test.\118\ This four-part test is described

in subsection B below. Likewise, the Associations believe that the

Commission should not use CEA section 6(c)(3) as a mechanism to lower

the specific intent standard traditionally required in manipulation

cases. Instead, the Commission should issue clarifying guidance that

conforms to the traditional framework of enforcement, including the

theory of liability set forth in the Di Placido matter.\119\

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\118\ EEI at page 7.

\119\ Associations at page 10 referring to In re Di Placido,

2008 WL 4831204 (CFTC 2008), affd in pertinent part, Di Placido v.

CFTC, 364 Fed Appx. 657, 2009 WL 3326624 (2d Cir. 2009), cert.

denied, 130 S. Ct. 1883 (Mar. 22, 2010).

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With respect to the scope of application of proposed Rule 180.2,

CMC recommends the Commission clarify that CEA section 6(c)(3) does not

confer any additional enforcement authority beyond the holding in the

Di Placido matter.\120\

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\120\ CMC at pages 2-3.

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CMC and MFA recommend that the Commission make clear that proposed

Rule 180.2 does not create a presumption that a price is artificial

merely because one or more isolated transactions are deemed uneconomic

without proof of a specific intent to move prices.\121\ The

Associations and MFA believe that the Commission's statement in the

NOPR ``that prices [are] affected by a factor not consistent with

normal forces of supply and demand will often follow inescapably from

proof of the actions of the alleged manipulator'' is an overly

aggressive reading of judicial precedent like Di Placido. \122\ MFA

believes that the Commission should not create a ``conclusive

presumption'' that a price is artificial without proof of specific

intent to move prices.\123\

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\121\ CMC at pages 2-3; MFA at pages 7-8.

\122\ Associations at page 11; MFA at pages 7-8.

\123\ MFA at pages 7-8.

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Professor Greenberger states that although the Commission has

already interpreted the ``prohibition on price manipulation and

attempted price manipulation to encompass every effort to influence the

price of a swap, commodity, or commodity futures contract that is

intended to interfere with the legitimate forces of supply and demand

in the marketplace,'' it is important to reaffirm the relevance of that

legal interpretation.\124\ Professor Greenberger believes that

Commission precedent supports the position that illegal effect on price

can often be conclusively presumed from the nature of the conduct in

question and other factual circumstances not requiring expert economic

analysis.\125\

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\124\ Professor Greenberger at page 4.

\125\ Professor Greenberger at page 4.

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ATA believes that the Commission should consider whether its

complete reliance on past precedent in interpreting manipulation under

proposed Rule 180.2 needlessly narrows the potential reach of the

amended anti-manipulation provision of section 6(c)(3), anchoring its

interpretation to a past standard that has proven remarkably difficult

to enforce.\126\ ATA notes that section 6(c)(3) as amended is broader

than both its prior version and section 9(a)(2) by its inclusion of the

word ``indirectly,'' making it unlawful to indirectly manipulate or

attempt to manipulate prices.\127\

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\126\ ATA at page 1.

\127\ ATA at page 4.

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B. Commission Determination

In response to the comments received regarding this matter, the

Commission reiterates that, in applying final Rule 180.2, it will be

guided by the traditional four-part test for manipulation that has

developed in case law arising under 6(c) and 9(a)(2): (1) That the

accused had the ability to influence market prices; (2) that the

accused specifically intended to create or effect a price or price

trend that does not reflect legitimate forces of supply and demand;

\128\ (3) that artificial prices existed; and (4) that the accused

caused the artificial prices.\129\

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\128\ In re Indiana Farm Bureau Cooperative Assn., Inc., [1982-

1984 Transfer Binder] Comm. Fut. L. Rep. (CCH) ] 21,796 (CFTC Dec.

17, 1982), citing Volkart Bros., Inc. v. Freeman, 311 F.2d 52 (5th

Cir. 1962); In re Hohenberg Bros. Co., [1975-1977 Transfer Binder]

Comm. Fut. L. Rep. (CCH) ] 20,271 (CFTC Feb. 18, 1977).

\129\ In re Cox [1986-1987 Transfer Binder], Comm. Fut. L. Rep.

(CCH) ] 23,786, 1987 CFTC LEXIS 325, at *9, 1987 WL 106879, at *3

(CFTC July 15, 1987). In cases of attempted manipulation under

section 9(a)(2), the CFTC is required to show: (1) An intent to

affect the market price; and (2) some overt act in furtherance of

that intent. See In re Hohenberg Bros. Co., ] 20,271 at 21,477.

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The Commission reaffirms the requirement under final Rule 180.2

that a person must act with the requisite specific intent. In other

words, recklessness will not suffice under final Rule 180.2 as it will

under final Rule 180.1. The Commission finds this level of intent

necessary to ensure that legitimate conduct is not captured by final

Rule 180.2, which covers non-fraud based manipulation. Given the

[[Page 41408]]

differences in scope of application between the final Rules, the

Commission declines requests to consolidate them.

The Commission declines requests to limit the application of final

Rule 180.2 to the circumstances set forth in the commenters' analysis

of particular cases, including the Di Placido matter. Likewise, the

Commission's statement in the NOPR that an artificial price may be

``conclusively presumed'' under certain facts and circumstances does

not mean that an artificial price may be conclusively presumed in all

cases. For example, where, as in Di Placido, a trader violates bids and

offers in order to influence the volume-weighted average settlement

price, an artificial price will be a ``reasonably probable

consequence'' of the trader's intentional misconduct. Moreover, the

Commission in the proposed Rule did not say that an artificial price

will be conclusively presumed in the absence of any evidence, only that

``extensive economic analysis may not be necessary'' to prove that an

artificial price existed.\130\ To be clear, in some cases the

conclusion that prices were affected by a factor not consistent with

normal forces of supply and demand will require economic analysis, but

in other cases, such a showing may, as the Commission stated in the

proposed Rule, ``follow inescapably from proof of the actions of the

alleged manipulator.'' \131\ This is unsurprising given the fact and

circumstance specific nature of manipulation cases. Accordingly, the

Commission is not, as some commenters state, collapsing the third and

fourth elements of the traditional four-part test for manipulation

under section 6(c)(3) and final Rule 180.2.

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\130\ 75 FR at 67660 (emphasis added).

\131\ 75 FR at 67660.

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The Commission interprets the terms ``directly or indirectly'' as

describing the level of involvement necessary to establish a violation

of final Rule 180.2. In this context, the Commission interprets

``indirectly'' to include the circumstance where a person uses a third

party (e.g., an executing broker) to execute trades designed to

manipulate, so it will be no defense that the person did not himself

execute the transaction.

Notwithstanding the fact that final Rule 180.2 mirrors the text of

CEA section 6(c)(3), the Commission deems it appropriate and in the

public interest to promulgate this rule and, in so doing, provide the

above clarifications to the manner in which the Commission interprets

and intends to apply final Rule 180.2.

V. Administrative Compliance and Cost-Benefit Considerations

CEA section 15(a) \132\ requires the Commission to consider the

costs and benefits of its actions before promulgating a regulation

under the CEA. By its terms, CEA section 15(a) does not require the

Commission to quantify the costs and benefits of a rule or to determine

whether the benefits of the regulation outweigh its costs; rather, it

requires the Commission to ``consider'' the costs and benefits of its

actions. CEA section 15(a) further specifies that the costs and

benefits shall be evaluated in light of five broad areas of market and

public concern: (1) Protection of market participants and the public;

(2) efficiency, competitiveness and financial integrity of futures

markets; (3) price discovery; (4) sound risk management practices; and

(5) other public interest considerations. The Commission may in its

discretion give greater weight to any one of the five enumerated areas

and could in its discretion determine that, notwithstanding its costs,

a particular rule is necessary or appropriate to protect the public

interest or to effectuate any of the provisions or accomplish any of

the purposes of the CEA.

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\132\ 7 U.S.C. 19(a).

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In the NOPR, the Commission stated that the proposed rules would

enhance the authority of the Commission to ensure fair and equitable

markets, and that market participants and the public will substantially

benefit from such enhanced prevention and deterrence of manipulation.

With respect to costs, the Commission also stated that participants in

the markets should already have policies and procedures in place to

ensure that their employees, affiliates and agents will refrain from

attempting to manipulate the markets. The Commission invited public

comment on its cost-benefit considerations.\133\ Below, we summarize

and respond to those comments.\134\ Both in the response to comments

and in the preamble, we address the areas of market and public concern

for consideration of costs and benefits under CEA section 15(a).

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\133\ 75 FR at 67661.

\134\ See note 2 for access to public comment file.

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API and NPRA commented that the potentially significant compliance

costs and legal uncertainty must be weighed against the limited

benefits of the proposed rules. Specifically, API and NPRA believe that

it is problematic to expand the scope of the Commission's enforcement

authority to cover routine cash market transactions in all areas of the

economy, as it would potentially create inconsistencies with existing

statutory and common law standards and would place a tremendous burden

on the Commission's resources.\135\ Further, API and NPRA comment that

the risk of inconsistent standards with federal and state enforcement

authorities may exacerbate market participants' regulatory and

compliance risk and burden.\136\ API and NPRA also believe that a

recklessness standard under Section 753 would increase the costs of

complying with a market manipulation rule and deter market participants

from engaging in legitimate business activities and disclosing relevant

information that helps markets to function more efficiently as price

discovery venues.\137\ API and NPRA contend that where market

participants seek to comply with an omissions rule by disclosing more

information, companies will have an incentive to exercise great caution

to ensure that no affirmative statement may be subjectively considered

misleading through any omission.\138\

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\135\ API and NPRA at pages 4 and 8.

\136\ API and NPRA at page 8.

\137\ API and NPRA at pages 12-17.

\138\ API and NPRA at page 22.

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MFA is concerned that ambiguity with respect to legal standards

would increase transaction costs and chill legitimate trading

practices, in turn decreasing market depth and liquidity.\139\ The

Associations state that no new duties of disclosure, inquiry, or

diligence should be imposed between two sophisticated parties to a

bilateral transaction. Any such new duties may discourage legitimate

trading activities, increase transaction costs, and, as a result,

reduce liquidity and market depth.\140\ CME and Argus make similar

comments as to the potential effects on markets as a whole, but do not

express their concerns in terms of costs. The CME comments that the

Commission must provide greater clarity as to the scope of prohibited

conduct to maintain and promote fair and efficient markets and to

protect market liquidity, price discovery, and the risk management

functions of futures markets.\141\ Argus states that absent

clarification from the Commission, the proposed rules may unnecessarily

chill the voluntary submission of transaction related data by market

participants to compilers of price indices which, in turn, hinders the

Dodd-Frank Act's goal of market transparency.\142\ CEF comments that

[[Page 41409]]

market participants will face substantially more uncertainty with

respect to their activities in energy markets and significant costs in

attempting to comply with multiple regulatory regimes, thereby likely

reducing participation in energy markets.\143\ CEF also comments that

jurisdictional overlap of agencies will result in increased litigation

costs, depletion of scarce resources, and uncertainty for both the

Commission and market participants.\144\ CEF states the false reporting

provision will place a heavy burden on all market participants as they

attempt to comply with the new reporting requirements proposed by the

Commission pursuant to the Act.\145\

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\139\ MFA at pages 3-4.

\140\ Associations at pages 1 and 4.

\141\ CME at page 3.

\142\ Argus at page 1.

\143\ CEF at pages 2-3.

\144\ CEF at page 4.

\145\ CEF at page 7.

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In contrast, Barnard believes the implementation costs of the

proposed rules should be minimal.\146\ Professor Greenberger believes

that the Commission correctly states that market participants should

already have constructed and implemented procedures to guard against

their employees' and agents' attempts at market manipulation. As such,

Professor Greenberger believes that there should not be any additional

costs to existing market participants.\147\

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\146\ Barnard at page 2.

\147\ Professor Greenberger at page 4.

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The Commission has carefully considered the concerns expressed by

some of the commenters that the final Rules could substantially

increase costs on market participants, reduce market liquidity or chill

legitimate market activity. However, commenters provide no

quantification of the potential costs or reliable data as a basis for

conclusions that substantial costs will be incurred as a result of the

final Rules. Furthermore, commenters have not shown how such rules have

negatively impacted comparable markets that trade comparable

instruments and operate under comparable anti-manipulation rules.

Specifically, regarding the comments received by API, NPRA, MFA,

CME, Argus, and the Associations as to how the new rules may directly

increase transaction costs, reduce market liquidity and depth, and

hinder risk management functions of markets subject to the Commission's

jurisdiction, the Commission notes that final Rule 180.1 is modeled on

SEC Rule 10b-5. Many derivatives products in securities markets are

traded on national securities exchanges under SEC regulation (e.g.,

equity options, stock index options, and stock index exchange-traded

funds (``ETFs'')) and are therefore subject to the SEC anti-

manipulation rule.

Many of these SEC-regulated derivatives products exhibit high and

growing volumes, narrow bid-ask spreads, and high levels of market

depth. SEC-regulated stock index ETFs and stock-index options are

economically similar to CFTC-regulated stock index futures and options

on those futures and, like these CFTC-regulated derivatives, serve

primarily as risk-shifting instruments rather than instruments for

capital formation. Any argument that the SEC's anti-fraud and anti-

manipulation regime has negatively affected the growth of SEC-regulated

derivatives lacks a basis in fact and contradicts the generally

accepted purpose of the SEC's anti-fraud and anti-manipulation rules,

which is to protect investors and to promote market integrity.\148\

Moreover, the FERC also promulgated a rule modeled on SEC Rule 10b-5

for FERC-jurisdictional markets in natural gas and electricity

following the enactment of the Energy Policy Act of 2005. The FTC

promulgated a comparable prohibition for petroleum markets. In the

absence of any facts that anti-fraud and anti-manipulation rules

negatively affect markets, the Commission does not find such assertions

persuasive.

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\148\ See, e.g., Chemical Bank v. Arthur Andersen & Co., 726

F.2d 930, 943 (2d Cir. 1984) (``The purpose of Sec. 10(b) and Rule

10b-5 is to protect persons who are deceived in securities

transactions--to make sure that buyers of securities get what they

think they are getting * * *.'') (Friendly, J.); Laird v. Integrated

Res., 897 F.2d 826, 831 at n.10 (5th Cir. 1990), quoting 3 Fletcher

Cyclopedia of Corporations, section 900.3 (perm. ed. 1986) (``The

general purpose and intent of the broad anti-fraud provisions of

Section 10(b) and Rule 10b-5 is to protect investors, to prevent

inequitable and unfair practices and to insure fairness in

securities transactions generally * * *'').

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As to the concerns of API and NPRA regarding increased costs from

the Commission's purported expansion of its authority to cover a

plethora of routine cash market transactions in all areas of the

economy, with respect to the scope of final Rule 180.1, as discussed

above, the Commission intends to exercise its authority under 6(c)(1)

to cover transactions related to the futures or swaps markets, or

prices of commodities in interstate commerce, or where the fraud or

manipulation has the potential to affect cash commodities, futures, or

swaps markets or participants in these markets. Thus, concerns about

purported increased costs are misplaced in that they rest on an

incorrect assumption about the scope of the Commission's expanded

authority.

In response to comments from CEF, the Commission re-iterates that

the final Rules do not contain any requirement to create, retain,

submit, or disclose any information. The final Rules impose no

recordkeeping or related data retention or disclosure requirements on

any person, including small businesses. Given that the final Rules

impose no affirmative duties, it is unlikely that the final Rules will

impose any additional ongoing costs beyond the existing costs

associated with ensuring that behavior and statements are not

fraudulent or manipulative. In that regard, the Commission believes

that it will not be necessary for firms that currently have adequate

compliance programs to hire additional staff or significantly upgrade

their systems to comply with the new Rules. Firms may incur some one-

time costs such as costs associated with training traders and staff in

the new Rules.

The Commission believes the comments from API, NPRA, and CEF

regarding increased costs pertaining to compliance, litigation, and

uncertainty with respect to inconsistent standards with other

regulatory agencies are misplaced. To the contrary, the Commission

believes that market participants and the public will benefit from

enhanced regulatory certainty that will arise from the Commission's

adoption of an anti-manipulation rule that is more harmonized with

existing anti-manipulation rules of the SEC, FERC, and FTC.

In the NOPR, the Commission stated, and re-iterates here, that with

respect to benefits, the proposed rules would enhance the authority of

the Commission to ensure fair and equitable markets. The Commission

stated, inter alia, that market participants and the public will

benefit substantially from enhanced prevention and deterrence of

manipulation. In light of public considerations under CEA section 15(a)

in promulgating this rule, the Commission concludes that market

participants and the public will benefit substantially from increased

protection through the prevention and deterrence of fraud and

manipulation. The final Rules will help ensure the efficiency,

competitiveness, and financial integrity of derivatives markets.

Markets free from fraud and manipulation function better as venues for

price discovery and risk management.

A. Paperwork Reduction Act

As discussed above, the provisions of Commission Regulations Part

180 would not result in new recordkeeping

[[Page 41410]]

requirements within the meaning of the Paperwork Reduction Act of 1995.

B. Regulatory Flexibility Act

The Regulatory Flexibility Act \149\ requires that agencies

consider whether the rules they propose will have a significant

economic impact on a substantial number of small entities and, if so,

provide a regulatory flexibility analysis respecting such impact.\150\

The final Rules will not have a significant economic impact on a

substantial number of small entities. As explained above, legitimate

market participants should already have procedures in place to prevent

their employees and agents from manipulating the markets. The Chairman,

on behalf of the Commission, hereby certifies, pursuant to 5 U.S.C.

605(b), that the final Rules will not have a significant impact on a

substantial number of small entities.

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\149\ 5 U.S.C. 601.

\150\ Id.

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C. Effective Date

API and NPRA ask the Commission to adopt a 180-day delay in the

effective date of the final Rules to enable the industry to design and

implement comprehensive compliance programs.\151\ The Commission

declines this request. A 180-day delayed effective date would unduly

limit the Agency's responsibility to protect market participants and

promote the integrity of the markets. Rather, consistent with Dodd-

Frank Act section 753(d) and Administrative Procedure Act section

553(d), 5 U.S.C. 553(d), the final Rules will take effect 30 days after

they are published in the Federal Register.

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\151\ API and NPRA at page 27.

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List of Subjects in 17 CFR Part 180

Commodity futures.

Authority and Issuance

For the reasons stated in the preamble, the Commodity Futures

Trading Commission adds a new 17 CFR Part 180 as set forth below:

PART 180--PROHIBITION AGAINST MANIPULATION

Sec.

180.1 Prohibition on the employment, or attempted employment, of

manipulative and deceptive devices.

180.2 Prohibition on price manipulation.

Authority: 7 U.S.C. 6c(a), 9, 12(a)(5) and 15, as amended by

Title VII of the Dodd-Frank Wall Street Reform and Consumer

Protection Act, Pub. L. 111-203, 124 Stat. 1376 (2010); 5 U.S.C. 552

and 552(b), unless otherwise noted.

Sec. 180.1 Prohibition on the employment, or attempted employment, of

manipulative and deceptive devices.

(a) It shall be unlawful for any person, directly or indirectly, in

connection with any swap, or contract of sale of any commodity in

interstate commerce, or contract for future delivery on or subject to

the rules of any registered entity, to intentionally or recklessly:

(1) Use or employ, or attempt to use or employ, any manipulative

device, scheme, or artifice to defraud;

(2) Make, or attempt to make, any untrue or misleading statement of

a material fact or to omit to state a material fact necessary in order

to make the statements made not untrue or misleading;

(3) Engage, or attempt to engage, in any act, practice, or course

of business, which operates or would operate as a fraud or deceit upon

any person; or,

(4) Deliver or cause to be delivered, or attempt to deliver or

cause to be delivered, for transmission through the mails or interstate

commerce, by any means of communication whatsoever, a false or

misleading or inaccurate report concerning crop or market information

or conditions that affect or tend to affect the price of any commodity

in interstate commerce, knowing, or acting in reckless disregard of the

fact that such report is false, misleading or inaccurate.

Notwithstanding the foregoing, no violation of this subsection shall

exist where the person mistakenly transmits, in good faith, false or

misleading or inaccurate information to a price reporting service.

(b) Nothing in this section shall be construed to require any

person to disclose to another person nonpublic information that may be

material to the market price, rate, or level of the commodity

transaction, except as necessary to make any statement made to the

other person in or in connection with the transaction not misleading in

any material respect.

(c) Nothing in this section shall affect, or be construed to

affect, the applicability of Commodity Exchange Act section 9(a)(2).

Sec. 180.2 Prohibition on price manipulation.

It shall be unlawful for any person, directly or indirectly, to

manipulate or attempt to manipulate the price of any swap, or of any

commodity in interstate commerce, or for future delivery on or subject

to the rules of any registered entity.

Issued in Washington, DC, on July 7, 2011, by the Commission.

David A. Stawick,

Secretary of the Commission.

Appendices to Prohibition on the Employment, or Attempted Employment,

of Manipulative and Deceptive Devices; Prohibition on Price

Manipulation--Commission Voting Summary and Statements of Commissioners

Note: The following appendices will not appear in the Code of

Federal Regulations.

Appendix 1--Commission Voting Summary

On this matter, Chairman Gensler and Commissioners Dunn,

Sommers, O'Malia and Chilton voted in the affirmative; no

Commissioner voted in the negative.

Appendix 2--Statement of Chairman Gary Gensler

I support the final rulemaking to enhance the Commission's

ability to protect against manipulation. Effective regulation

requires an effective enforcement program. The Dodd-Frank Act

enhances the Commission's enforcement authorities in the futures

markets and expands them to the swaps markets. This rule implements

new Dodd-Frank authorities to police against fraud and fraud-based

manipulative schemes, based upon similar authority that the

Securities and Exchange Commission, Federal Energy Regulatory

Commission and Federal Trade Commission have for securities and

certain energy commodities.

In the past, the CFTC had the ability to prosecute manipulation,

but to prevail, it had to prove the specific intent of the accused

to create an artificial price. Under the new law and one of the

rules before us today, the Commission's anti-manipulation reach is

extended to prohibit the reckless use of fraud-based manipulative

schemes. This closes a significant gap, as it will broaden the types

of cases we can pursue and improve the chances of prevailing over

wrongdoers.

The rule also implements the Dodd-Frank Act's price-based

manipulation authority to police against corners and squeezes. These

new authorities expand the CFTC's arsenal of enforcement tools and

strengthen the Commission's ability to effectively deal with threats

to market integrity. We will use these tools to be a more effective

cop on the beat, to promote market integrity and to protect market

participants.

I thank Senator Maria Cantwell for her work to secure this

important authority for the CFTC. As Senator Cantwell explained in

proposing that this authority be included in the Commodity Exchange

Act, ``It is a strong and clear legal standard that allows

regulators to successfully go after reckless and manipulative

behavior.''

Attachment A

Parties filing comments:

Air Transport Association (ATA)

[[Page 41411]]

American Bar Association, Derivatives and Futures Law Committee,

Business Law Section (ABA Derivatives Committee)

American Petroleum Institute (API) and National Petrochemical and

Refiners Association (NPRA)

Argus Media, Inc. (Argus)

Barnard, Chris (Barnard)

Better Markets

Brattle Group Economists (Brattle Group)

Carini, Peter*

CME Group, Inc. (CME Group)

Coalition of Physical Energy Companies (COPE)

Commodity Markets Council (CMC)

Council of Institutional Investors (Council)

Edison Electric Institute (EEI)

Freddie Mac

Futures Industry Association, International Swaps and Derivatives

Association, Inc. (ISDA) and Securities Industry and Financial

Markets Association (SIFMA) (together, the Associations)

Managed Funds Association (MFA)

Pen Fern Oil Co., Inc.*

Petroleum Marketers Association of America (PMAA)

Platts

Scullin Oil Co.*

Townsend, Clarence (Townsend)

U.S. Senator Carl Levin (Senator Levin)

University of Maryland School of Law, Professor Michael Greenberger

(Professor Greenberger)

Weir, Bix

West Virginia Oil Marketers & Grocers Association (OMEGA)*

Working Group of Commercial Energy Firms (CEF)

Zwack, Joseph

* Denotes commenters filing identical comments which were

consolidated.

[FR Doc. 2011-17549 Filed 7-13-11; 8:45 am]

BILLING CODE 6351-01-P

Last Updated: July 14, 2011