A New Playbook: What the CFTC's Operating Divisions Will Consider When Making Enforcement Referrals

The three operating divisions of the CFTC (Division of Market Oversight, Market Participants Division, and the Division of Clearing and Risk, together the Operating Divisions) issued an advisory on April 17, explaining the materiality criteria they will use when determining whether to make a formal referral to the agency’s Division of Enforcement (DOE) for self-reported violations, supervision violations, or other non-compliance issues (the Referral Advisory).

The Referral Advisory comes off the heels of DOE’s February 25 advisory (the DOE advisory) regarding self-reporting, cooperation and remediation by a CFTC registered entity or registrant when recommending an investigation or enforcement action to the Commission, including the factors DOE will consider when evaluating whether to reduce the proposed civil monetary penalties in enforcement actions. Under the DOE Advisory, a registered entity or registrant may receive CMP credit for self-reporting a potential violation to the appropriate CFTC Operating Division. Under older DOE staff guidance (which has since been vacated), DOE would not provide such credit when a registered entity or registrant self-reported a potential violation to the appropriate Operating Division. 

        Read Katten's summary of the DOE Advisory.  

The Referral Advisory notes that the Operating Divisions may refer potential violations that are material to DOE, such as those that involve:

• Harm to clients, counterparties or customers, or members or participants; 
• Harm to market integrity; or 
• Significant financial losses. 

In circumstances where a material violation involves fraud, manipulation or abuse, the Referral Advisory recommends making a referral directly to DOE rather than to the Operating Divisions. 

The Operating Divisions will address supervision or noncompliance issues that are not material.  In other words, the Operating Divisions will no longer make referrals of these nonmaterial noncompliance issues.  This guidance is consistent with the Acting Chairman Caroline Pham’s push to have the Commission treat technical, noncompliance violations in the same way that exam deficiencies are addressed.  While a commissioner, she commented that “enforcement actions for one-off, non-material operational or technical issues is shooting fish in a barrel.” Acting Chairman Pham also suggested that, instead, the agency should “take an approach to operational and technical issues that is consistent with the requirements and intent of CFTC rules 3.3 and 23.602.” 

In determining the materiality of a supervision or noncompliance issue, the Referral Advisory provides that the appropriate Operating Division will apply a reasonableness standard to the following criteria:

1. Especially egregious or prolonged systematic deficiencies or material weakness of the supervisory system or controls, or program;
2. Knowing and willful misconduct by management, such as conduct evidencing an intent to conceal a potential violation, or supervision or noncompliance issue; or  
3. Lack of substantial progress towards completion of a remediation plan for an unreasonably lengthy period of time, such as several years, particularly after a sustained and continuous process with the appropriate Operating Division regarding the lack of substantial progress. 

The Referral Advisory makes clear, however, that the failure to meet a deadline for corrective action or remediation plan on its own will not be sufficient for a referral to DOE.