In evaluating claims against J.P. Morgan1 in its role as Amaranth Advisors LLC‟s ("Amaranth") futures commission merchant ("FCM") and clearing broker, the Second Circuit followed Learned Hand‟s 1938 articulation "that aiding and abetting requires the defendant to in some sort associate himself with the venture, that he participate in it as in something that he wishes to bring about, that he seek by his action to make it succeed.‟"2 In evaluating allegations of two manipulative schemes – Amaranth‟s buildup of large NYMEX positions and "slamming the close" – the Second Circuit affirmed that allegations of J.P. Morgan‟s support for Amaranth‟s manipulation fell short of such aiding and abetting liability.
Introduction
On September 23, 2013, the Second Circuit affirmed the Southern District of New York‟s dismissal of claims by traders who purchased and sold NYMEX natural gas futures contracts in 2006.3 The traders claimed that J.P. Morgan aided and abetted Amaranth‟s manipulation of natural gas futures by providing Amaranth with services through J.P. Futures in its capacity as an FCM and clearing broker for Amaranth. The District Court dismissed the traders‟ claim. The Second Circuit upheld the dismissal on grounds that the allegations that J.P. Morgan knew Amaranth intended to manipulate the price of natural gas futures and intended to assist Amaranth in that regard fail to constitute an aiding and abetting claim under the Commodity Exchange Act ("CEA").
For the first time, the Second Circuit evaluated "aiding and abetting" liability under the CEA. Consistent with its precedents in the securities and criminal contexts, as well as that of other circuits, the Second Circuit stated that aiding and abetting liability under the CEA requires that a defendant must know that a party intends to engage in manipulation and must intend to assist the party in that regard. In applying the standard, the Second Circuit noted that a plaintiff must allege "that the defendant associated himself with a violation of the Act, participated in it as something that he wished to bring about, and sought by his actions to make the violation succeed."4 The Second Circuit held that a clearing firm‟s provision of routine clearing services and its knowledge that certain trading activity is "highly suggestive" of manipulation are insufficient to support an aiding and abetting claim under the CEA.
Background
Amaranth was a hedge fund that collapsed in late 2006. Amaranth, according to the Second Circuit, engaged in two manipulative trading strategies during that same year. First, Amaranth acquired large "calendar spread" positions in NYMEX natural gas futures contracts for different months. In so doing, Amaranth was betting that the spread between the price of natural gas in the summer and winter would increase, while using the large size of its position kept the spread between the summer and winter natural gas futures contracts artificially wide.5
Second, Amaranth engaged in a strategy known as "slamming the close." Amaranth would acquire a large long position in natural gas futures on NYMEX, simultaneously acquire a large short position in corresponding swaps on the Intercontinental Exchange ("ICE"), and sell most of its natural gas futures during the last thirty minutes of trading on the last trading day for that futures contract (i.e., the "settlement period"). The sell-off would drive down the settlement price for the NYMEX futures contract and thereby benefit Amaranth‟s short position in corresponding swaps on ICE and other NYMEX natural gas futures. As Amaranth‟s FCM and clearing broker, J.P. Futures processed and settled Amaranth‟s natural gas trades on NYMEX and ICE during this time period.
Plaintiffs alleged that J.P. Morgan, via J.P. Futures, aided and abetted Amaranth‟s manipulative trading in violation of Section 22(a)(1) of the CEA. The District Court held that Plaintiffs failed to state a claim against J.P. Morgan because their claim failed to support the allegation that J.P. Futures acted overtly in furtherance of any manipulation and failed to show that J.P. Futures‟ actions extended beyond those routinely provided by clearing firms.6
Second Circuit Decision
The Second Circuit addressed whether Appellants‟ complaint states a claim against J.P. Morgan for aiding and abetting Amaranth‟s manipulative trading under the CEA7.
Aiding and Abetting Standard
The Second Circuit adopted the standard articulated in United States v. Peoni for evaluating aiding and abetting allegations of CEA violations.8 Under Peoni, the standard for aiding and abetting is that "proof of a specific unlawful intent to further the underlying violation is necessary before one can be found liable for aiding and abetting a violation of the [CEA].‟"9 Such standard "requires the defendant to in some sort associate himself with the venture, that he participate in it as in something that he wishes to bring about, that he seek by his action to make it succeed.‟"10 The Second Circuit clarified that inherent in such standard is the relationship between a defendant‟s knowledge, intent, and action. Thus, in aiding and abetting claims under the CEA, allegations regarding a defendant‟s knowledge, intent, and action must be evaluated in light of the entire complaint.11
Decision
Under applicable law,12 Appellants "were required to allege that J.P. Futures knew that Amaranth specifically intended to manipulate the price of NYMEX natural gas futures and that J.P. Futures intended to help [Amaranth‟s manipulation]."13 The Second Circuit found that Appellants‟ "allegations of such knowledge and intent . . . fail to state a claim for aiding and abetting manipulation under the CEA."14
In so finding, the Second Circuit addressed Appellants‟ two theories of manipulation. As discussed above, Appellants alleged that Amaranth manipulated the price of NYMEX natural gas futures by acquiring large open positions and slamming the close.15 The Second Circuit found that Appellants‟ first theory alleges "a very weak inference" that J.P. Futures knew of or intended to assist Amaranth‟s manipulative intent because, "while J.P. Futures may have known about Amaranth‟s large positions in natural gas futures and swaps, such large positions do not necessarily imply manipulation."16 The Court explained that the acquisition of large open positions may indicate a trader‟s belief that futures prices will move in a favorable direction for reasons other than manipulation (i.e., speculation). The Second Circuit found that Appellants‟ second theory "does not allege that J.P. Futures did anything more to assist Amaranth in these trades than to provide routine clearing firm services."17 The Court conceded that the "slamming the close" trades strongly suggest manipulation. However, it explained that "the provision of routine clearing services, when combined only with allegations that the clearing firm knew of trading activity that was highly suggestive but not dispositive of manipulation, is not enough to state a claim for aiding and abetting under Section 22 of the CEA."18
Furthermore, in response to Appellants‟ argument that J.P. Futures also performed "non-routine" tasks to assist Amaranth‟s manipulation,19 the Second Circuit dismissed such argument on grounds that J.P. Futures performed such tasks in connection with trading activity not suggestive of manipulation (i.e., Amaranth‟s large open positions, rather than its slamming the close trades). The Second Circuit also found that FCMs such as J.P. Futures are not required to monitor clients‟ trading to prevent manipulation, nor would such an assertion of manipulation constitute a viable theory in support of an aiding and abetting allegation under the CEA.
Conclusion
As stated above, this case affirms the standard that the Second Circuit will use in evaluating aiding and abetting claims under the CEA. In this regard, the Second Circuit clarified that a clearing firm‟s provision of routine clearing services and its knowledge that certain trading activity is "highly suggestive" of manipulation are insufficient to support an aiding and abetting claim under the CEA.
Footnotes
1 The "J.P. Morgan" defendants are J.P. Morgan Chase & Co., J.P. Morgan Chase Bank, Inc., and J.P. Morgan Futures, Inc. ("J.P. Futures").
2 In re Amaranth Natural Gas Commodities Litig., No. 12-2075-cv, at 26 (2nd Cir. 2013) ("Amaranth") (citing United States v. Peoni, 100 F.2d 401, 402 (2nd Cir. 1938) ("Peoni")).
3 See generally Amaranth.
4 Id. at 27.
5 However, by September 2006, the price of natural gas did not continue to rise and Amaranth‟s summer/winter price spreads began falling. Amaranth at 15. Amaranth struggled to meet its rising margin requirements and eventually sold its natural gas portfolio and liquidated its remaining assets. Id. at 15-16.
6 See Amaranth at 21 (citing In re Amaranth Natural Gas Commodities Litig., 612 F. Supp. 2d 376, 392-93 (S.D.N.Y. 2009) ("Amaranth II")). The District Court "concluded that the amended complaint sufficiently stated a claim against Amaranth for manipulation based on its acquisition of large open positions." Amaranth at 20 (referencing Amaranth II, 612 F. Supp. 2d 376). In December 2011, the parties reached a settlement for $77.1 million regarding claims against Amaranth and floor broker defendants. Amaranth at 21.
7 See Amaranth at 3 (declining to address whether the District Court applied the correct standard for evaluating the sufficiency of the complaint).
8 See generally Peoni, 100 F.2d 401.
9 Amaranth at 25 (citing Peoni, 100 F.2d at 402).
10 Amaranth at 26 (citing Peoni, 100 F.2d at 402).
11 Amaranth at 29.
12 The Second Circuit stated that commodities manipulation contains four elements: (1) an ability to influence market prices, (2) an artificial price, (3) an artificial price caused by defendant, and (4) specific intent to cause an artificial price. See Amaranth at 4 and 29. Further, manipulation requires intent to cause an artificial price and aiding and abetting requires knowledge of the primary violation and intent to assist such violation. See id. at 29.
13 Amaranth at 29 (emphasis added).
14 Id. at 30.
15 The Second Circuit also noted that Appellants made several allegations related to their two theories of manipulation. Specifically, Appellants alleged that J.P. Futures knew of Amaranth‟s manipulation because J.P. Futures had information regarding Amaranth‟s daily trading and open positions. Such information, in turn, alerted J.P Futures that Amaranth violated the NYMEX position limits or accountability levels. Appellants further alleged that J.P. Futures performed certain overt acts to assist Amaranth‟s manipulation and assisted Amaranth because J.P. Futures received large commissions, fees, and interest from Amaranth‟s trading and margin deposits. See Amaranth at 30; see also id. at 31-33 (dismissing these related allegations).
16 Amaranth at 31.
17 Id. at 33.
18 Id. at 34.
19 These tasks included "helping to transfer positions from NYMEX to ICE, extending credit limits, and bypassing internal position limits." See Amaranth at 35; see also id. at 30.
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