On March 4, 2019, the U.S. District Court for the Northern District of California acquitted a former sell-side foreign exchange trader on all counts brought against him arising from his alleged misuse of confidential client information in connection with a large foreign currency exchange trade. After the completion the government’s case, the trader moved for acquittal as a matter of law. The Court ruled that, viewing the evidence in the light most favorable to the government, the jury could not reasonably find the defendant guilty beyond a reasonable doubt and granted the motion. The essence of the Court’s decision was that the government had not established that the defendant, who was engaged in arm’s-length transaction with a customer, owed the customer the duties the government’s case assumed.
USA v. Bogucki, No. 18-00021, slip op. at 12 (N.D. Cal. Mar. 4, 2019). As discussed further below, the Court’s treatment of the concept of a sell-side trader “pre-positioning” (often referred to as “pre-hedging”) ahead of a customer’s trade is notable. The line between front-running/misuse of confidential information and appropriate pre-hedging, while always inherently case and situation specific, has been at the forefront of multiple criminal and civil regulatory investigations and cases in recent years.
In January of 2018, the Fraud Section of the Department of Justice (“DOJ”) announced a seven- count indictment for wire fraud and conspiracy to commit wire fraud against the trader for alleged “front-running” and manipulating the price of foreign currency options traded pursuant to an International Swaps Dealers Association (“ISDA”) agreement between his employer bank and the bank’s customer. The trader had been asked by a customer to execute a foreign exchange transaction that called for the sale of six billion British pounds’ worth of options in connection with the planned acquisition of a UK-based company. According to the DOJ, the trader used information the customer understood would be kept confidential to manipulate the value of foreign exchange options. The government proffered two theories of guilt: that the trader committed wire fraud by either (i) misappropriating confidential client information, in violation of a duty of trust and confidence, or (ii) depriving the client of its property through material misrepresentations and half-truths. In the indictment and at trial, the government asserted that the trader owed the customer “a duty of trust, confidence, honesty, and disclosure.”
After the government presented its case in chief, the trader moved for a judgment of acquittal, relying on two principal arguments. First, he argued there were no regulations or specialized rules during the relevant period that prohibited an FX options trader from “pre-hedging” a potential counterparty transaction, nor did he owe a duty to its customer or its representatives to refrain from engaging in the alleged trades. Second, he argued that he did not make any statements that were materially false or misleading. The Court granted the motion and entered a judgment of acquittal as to all counts. The Court’s decision to reject the government’s theory of guilt based on a violation of a duty of trust and confidence turned on two factors: (1) the fact that the ISDA agreement executed by the trader’s employer and the customer established that they were “engaged as principals at opposite sides of an arms’ length transaction” and expressly disclaimed any fiduciary, agency, or similar relationship that would impose a duty of trust and confidence, and (2) evidence that the “pre-positioning” of the type the trader engaged in was common and a well-known market practice, in the context of a lack of express rules prohibiting the conduct at the time. The Court further concluded that the purported false and misleading statements were “isolated” or “conditional” and insufficiently material for a claim of wire fraud.
The Court distinguished the case from that of another FX trader recently convicted of wire fraud on a misappropriation theory.
[1] The Court found that, while in the prior case the bank and allegedly defrauded party entered into written agreements that created a duty of trust and confidence between the parties—namely a non-disclosure agreement and a request for proposal—here, the parties only entered into the ISDA agreement, which established the arms-length nature of the relationship.
This decision is a potentially important finding (albeit from a single district judge) that a sell-side trader and firm operating under an ISDA (the dominant applicable contractual framework for the trading of currencies, swaps and other over-the-counter derivatives) owe only limited duties to their contractual counterparties. Such a decision may make it less attractive for the government to pursue criminal wire fraud charges (absent contrary regulation) built on alleged front running, omissions or purported misuse of customer information in the context of an arm’s-length trade.
[1] We covered that 2017 conviction here: https://www.lit-wc.shearman.com/forex-trader-found-guilty-of-defrauding-clientnbs
