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BOARD OF TRADE OF CHICAGO v. CFTC

September 27, 1989

BOARD OF TRADE OF THE CITY OF CHICAGO, Plaintiff,
v.
COMMODITY FUTURES TRADING COMMISSION, Defendant


Milton I. Shadur, United States District Judge.


The opinion of the court was delivered by: SHADUR

MILTON I. SHADUR, UNITED STATES DISTRICT JUDGE

 Board of Trade of the City of Chicago ("CBOT") has sought, by way of declaratory judgment and injunctive relief, judicial review of a decision by Commodity Futures Trading Commission ("CFTC") to reduce a penalty imposed by CBOT on one of its members. Both parties have moved for summary judgment under Fed. R. Civ. P. ("Rule") 56. In the alternative, CFTC has moved to dismiss the Complaint under Rules 12(b)(1) and (6). For the reasons stated in this memorandum opinion and order:

 
1. CFTC's motion to dismiss is denied.
 
2. Each party's motion for summary judgment is granted in part and denied in part.

 Procedural History

 CBOT is a federally regulated exchange providing markets for trading futures and options on futures. *fn1" On August 28, 1984 it issued a decision (the "Decision") finding one of its members, Lawrence Malato ("Malato"), had committed 12 violations of CBOT Rules and Regulations during five separate episodes of illegal trading.

 Episode 1

 On May 19, 1983 *fn2" Malato received customer orders to sell 225 December 1983 United States Treasury Bonds ("December Bonds") "on the close" (at the end of the daily trading session) within the closing price range. At 1:49 p.m. (about 10 minutes ahead of schedule) Malato began to execute those orders: He sold 50 December Bonds to Gedon Hertschten ("Hertschten") at 75.15 *fn3" and 35 December Bonds to Thomas Morrow ("Morrow") at the same price.

 Morrow's sale of 50 December Bonds to Malato occurred without an offer by "open outcry" to all traders in the pit. Additionally, because of the actions and statements by Malato, Morrow and other traders in the pit knew that Malato was holding a large number of sell orders for December Bonds.

 Telescoping Malato's transactions reveals the effective substitution of a 50-bond sale at 75.10 (to Morrow) for an earlier like sale at 75.15 (to Hertschten). Thus CBOT found Malato's customers suffered to the tune of $ 7,812.50 through his cover-up of the misexecuted trade.

 Episode 2

 On June 7 Morrow was holding customer orders to sell 5 December Bonds at the market and to buy 10 December Bonds at 74.00. Before executing those orders he disclosed them to Malato. As an accommodation to Morrow, Malato then bought from him 5 December Bonds at 74.00 and sold him 5 December Bonds at 74.00.

 Episode 3

 On June 7 Morrow was also holding customer orders to sell 6 December Bonds at the market and to buy 2 December Bonds at 74.00 or better. As before, he disclosed those orders to Malato before executing them. As an accommodation to Morrow, Malato then bought 2 December Bonds at 73.31 and sold him 2 December Bonds at 74.00.

 Episode 4

 On June 17 Malato was holding two customer limit orders, one to buy 25 June Bonds at 76.13 and one to sell 25 June Bonds at 76.14. Before executing those orders Malato disclosed them to Shelley Squire ("Squire"). As an accommodation to Malato, Squire bought from and sold to Malato 20 June Bonds at 76.13.

 Episode 5

 On June 27, Squire was holding a customer stop order to sell eight March 84 Bonds at 72.22. Squire disclosed the order to Malato before executing it. Later, when 72.23 was being bid, Squire sold the eight bonds to Malato for his personal account at 72.22.

 * * * *

 As to all five episodes, CBOT found Malato had violated its Regulation prohibiting accommodation trading. CBOT also found the following activities were in violation of its Rules and Regulations:

 
Episode 1: - failing to execute an order competitively by open outcry on the open market (Rule 232.00)
 
- disclosing that he was holding the orders of other persons (Reg. 350.05(d))
 
- engaging in prearranged trading (Reg. 350.05(f)).
 
Episode 4: - failing to execute orders competitively by open outcry on the open market
 
- disclosing that he was holding the orders of other persons.

 All in all CBOT found 12 individual violations. Finally CBOT found Malato had violated its Rules in that (1) his conduct "demonstrated a pattern of concerted trading activity with [] Morrow and [] Squire which was anti-competitive in nature" and constituted "dishonorable and dishonest conduct inconsistent with just and equitable principles of trade" (Rule 500.00) and (2) "he engaged in acts detrimental to the interest and welfare of the Association" (Rule 504.00).

 CBOT's Board of Directors fined Malato $ 50,000 and voted to suspend Malato from membership for seven years effective September 10, 1984. Malato appealed to CFTC, which reviewed the decision in " Malato I " (In re Malato, [1986-87 Transfer Binder]Comm. Fut. L. Rep. (CCH) para. 24,084).

 Malato I also brought out some interesting facts. Apparently Malato and Morrow had a working relationship (although not necessarily a partnership) in which they shared brokerage business. Usually Malato acted as a sell broker and Morrow acted as a buy broker, although that was not always the case (as the episodes in question reflect). Squire was a "protege" of Malato who had been trading for less than six months at the time of the episodes in which she was involved.

 In evaluating the Decision, CFTC examined whether it "ha[d] a reasonable basis in fact" (Malato I at 34,706). Where there were credibility disputes CFTC left their resolution to CBOT and said it does not "second-guess" CBOT (id. at 34,707). CFTC also said (id. at 34,708):

 
As experienced professionals cognizant of the customs in the pit, the members of [CBOT's] Floor Governors Committee are in the best position to draw inferences from the evidence presented to them.

 CFTC also examined the severity of the sanctions. Malato claimed he was treated far more harshly than the others involved in the episodes. CFTC recognized that CBOT had recently imposed similar sanctions in other cases, though not in the companion cases in this instance (id.). But CFTC did not determine the appropriateness of the sanctions. Instead, in light of its having vacated four of the violations, it remanded the case to CBOT for determination of an appropriate sanction in terms of the relevant factors CFTC had recently set out in another case, In re First Commodity Corp. of Boston [1986-87 Transfer Binder]Comm. Fut. L. Rep. (CCH) para. 23,694 at 33,801-02.

 Supplemental Decision

 On February 16, 1988 CBOT issued its decision on remand (the "Supplemental Decision") in accordance with Malato I. Supplemental Decision at 3 first set out the appropriate factors from First Commodity to determine the appropriate sanctions:

 
the gravity of the offenses; whether the penalty will be sufficiently remedial to deter future violations by the respondents and others; the number and kinds of other violations engaged in by the respondent, if any; the size of the respondent's business; and ...

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