It would not surprise me if the arrest of Navinder Sarao for manipulating the futures market through electronic trading in connection with the 2010 flash crash is the beginning of a series of larger enforcement actions against the high frequency trading industry. The Dodd-Frank Act explicitly made spoofing, the practice of bidding or offering with the intent to cancel the bid or offer before execution, a violation of the Commodity Exchange Act. Yet, the reports that I have seen suggest that many traders use electronic algorithms to quickly place and cancel bids and offers in the marketplace.
Sarao’s connection to the flash crash seems the obvious impetus for the regulators to take action against him. He has been on their radar for years. The communications released as part of the lawsuit indicate that he was in discussions about his trading practices with the CME as far back as 2009, before the flash crash, and responded to multiple inquiries over the years. With the five year anniversary of the flash crash approaching and a five year statute of limitations on the law, they apparently made the decision to proceed.
The press has so far painted him as a single trader operating from his parent’s basement. From what I have read though, the techniques that he used, or similar methods, are widespread among high frequency trading firms. For example, a recent paper written by a Special Counsel to the CFTC in his personal capacity questioned the legality of pinging by HFT firms. Yet, there have only been a few prosecutions, such as the 2013 settlement between the CFTC and Panther Energy Trading for $2.8 million.
We have seen in other industries that the government will often bring enforcement actions against a number of players in the industry when it finds objectionable conduct occurring on a widespread basis. The off-label marketing cases against pharmaceutical companies, the mortgage cases against the financial institutions resulting from the Great Recession and the prosecutions for violations of U.S. economic sanctions toward Iran are just a few of the cases where we have seen government regulators target an entire industry. Ultimately, we could very well see this happen to traders who have been spoofing.
One of the reasons this area seems interesting is that it is one where whistleblowers will almost always be required. There are an immense number of bids and orders in the marketplace at any given time and the resources of the regulators are in many cases insufficient to detect the difference between legitimate trading and improper manipulation of the markets through spoofing. Unless the regulators are looking at a specific day and product like the flash crash with careful scrutiny, the conduct of the traders may go unnoticed.
This is where the securities whistleblower programs come into play. The CFTC will pay a reward to eligible individuals of between 10 and 30 percent if an enforcement action results in monetary sanctions of more than $1 million and they have complied with the terms of the Dodd-Frank Act and the individual regulators program rules.
For questions about this and other aspects of the CFTC whistleblower program, as well as assistance reporting violations of the Commodity Exchange Act to the U.S Government, contact one of our whistleblower attorneys via our contact form or by calling 1-800-590-4116.