CFTC Alert! CFTC Orders HSBC to Pay a $30 Million Penalty for Recordkeeping and Supervision Failures for Widespread Use of Unapproved Communication Methods.
HSBC admitted their employees often communicated “off-channel” about securities business matters on their personal devices, using WhatsApp.
Source: https://www.cftc.gov/PressRoom/PressReleases/8701-23
The Commodity Futures Trading Commission today issued an order simultaneously filing and settling charges against HSBC Bank USA, N.A., a provisionally registered swap dealer, HSBC Securities (USA) Inc., a futures commission merchant, and HSBC Bank plc, a provisionally registered swap dealer (collectively HSBC Affiliates). The order charges HSBC Affiliates with failing to maintain, preserve, or produce records that were required to be kept under CFTC recordkeeping requirements, and failing to diligently supervise matters related to their businesses as CFTC registrants.
The HSBC Affiliates admit the facts detailed in the order, are ordered to cease and desist from further violations of recordkeeping and supervision requirements, and are ordered to engage in specified remedial undertakings.
“Recordkeeping requirements are critical to the Commission’s oversight of registrants, and when a registrant disregards its obligations, it undermines the Commission’s ability to effectively and efficiently conduct examinations and investigations,” said Director of Enforcement Ian McGinley. “As this action and previous actions demonstrate, the Commission remains focused on diligently enforcing compliance with recordkeeping, supervision and other regulatory obligations.”
Case Background
The order finds HSBC Affiliates for a period of years, failed to stop their employees, including those at senior levels, from communicating both internally and externally using unapproved communication methods, including messages sent via personal text and WhatsApp. The HSBC Affiliates were required to keep certain of these written communications because they related to the HSBC Affiliates’ businesses as CFTC registrants. These written communications generally were not maintained and preserved by the HSBC Affiliates, and the HSBC Affiliates generally would not have been able to furnish them promptly to the CFTC when requested.
The order further finds the widespread use of unapproved communication methods violated HSBC’s own policies and procedures, which generally prohibited business-related communication taking place via unapproved methods. Further, some of the very same supervisory personnel responsible for ensuring compliance with the firms’ policies and procedures themselves used non-approved methods of communication to engage in business-related communications, in violation of firm policy.
The order finds the Division of Enforcement became aware during investigations into certain of HSBC’s trading that the institutions’ traders had been using unapproved communication methods on their personal devices for business-related communications. Following a review, HSBC acknowledged to CFTC staff that it was aware of widespread and longstanding use by its employees of unapproved methods to engage in business-related communications.
As a result of each registrant’s failure to ensure that its employees—including supervisors and senior-level employees—complied with communications policies and procedures, each registrant failed to maintain hundreds if not thousands of business-related communications, including CFTC-required transaction records and pre-execution communications in connection with its commodities and swaps businesses. Each registrant thus failed diligently to supervise its business as a CFTC registrant or registrants, in violation of CFTC recordkeeping and supervision provisions.
Related Civil Action
The Securities and Exchange Commission (SEC) announced entry of orders filing and settling charges against an SEC-registered HSBC affiliate and imposing civil monetary penalties for related recordkeeping and supervision violations.
The Division of Enforcement staff responsible for this matter are James Wheaton, Devin Cain, Benjamin Rankin, Alejandra de Urioste, R. Stephen Painter, Jr., Lenel Hickson, Jr., and Manal M. Sultan, and former staff members Candice Aloisi and Gabriella Geanuleas.
Order: HSBC Bank USA, N.A., et, al:
Statement of Commissioner Christy Goldsmith Romero
I support the enforcement action that the CFTC brings today against HSBC Bank USA, N.A. because it protects market integrity, brings accountability for market manipulation, and builds on the CFTC’s record of holding banks accountable for their pervasive use of unauthorized communications to evade regulatory oversight. The communications between traders in the records that were properly kept reveal HSBC’s manipulative trading practices, and serve as an example of just how critical regulatory visibility into trader communications is to protect markets and investors, and promote market integrity.
This action illustrates why the CFTC’s previous “offline communication” enforcement actions, which levied over $700 million in penalties against 11 Wall Street banks,[1] are critically important. Actions to evade regulatory oversight send a strong signal that there may be something that bankers are looking to hide. The CFTC, in partnership with the Securities and Exchange Commission (“SEC”), will continue to show zero tolerance for evading, or attempting to evade, regulatory oversight.
HSBC’s manipulation harmed clients and the integrity of markets.
HSBC’s illegal conduct stemmed from a widespread culture of non-compliance. Over the course of four years, HSBC traders used manipulative tactics to move swap and Treasury prices in a way that raised HSBC’s own profits at the expense of clients who were engaging in the trades as part of a broader deal to have HSBC issue bonds for them.
HSBC senior leadership directed these trades. Leadership and traders openly discussed their goal of manipulating prices, both internally and with the brokers whose prices screens were being manipulated. In one issuer swap transaction, the HSBC Head of North American Rates directed a trader to “push the screen as much as we can before the pricing.” Traders also described manipulation or potential manipulation using terms such as “hitting spreads down,” “hit[ting] the screen to avoid a los[s],” “hit[ting] the sht [sic] out of it,” “trying to get this screen down,” needing to “move [the] screen,” and “pushing [basis swaps] down.” These are but a few of many communications that evidence intent to manipulate the market.
Even discussions like these on HSBC’s recorded phone lines were not flagged by any type of surveillance, nor was the trading flagged by any trade surveillance system. When a broker firm raised instances of manipulative trading to HSBC’s attention, the bank’s compliance team did not investigate and simply warned the trader to be more careful.
Market manipulation undermines U.S. markets and threatens the public interest. There are concerning indications from this investigation that trading patterns like the ones the Commission found at HSBC may be followed by others in the swap markets.[2]
Accountability for recordkeeping requirements increases the CFTC’s ability to identify market manipulation and other illegal conduct.
This action, and other “offline communication” cases, prove how critical recordkeeping requirements are to regulators’ ability to police U.S. markets. Some of the evidence of intent to manipulate prices come from messages recorded in compliance with CFTC requirements. That proves how pernicious it is for HSBC to flout recordkeeping requirements. HSBC’s culture of evasion threatens to undermine the visibility regulators use to stop illegal conduct and bring accountability. It also makes it much harder for the bank itself to operate a compliance program that can actually identify and halt manipulation.
Similar to other cases of this unacceptably common Wall Street offline communications practice,[3] during an investigation into HSBC’s trading, the CFTC found that HSBC was unable to provide all responsive records. This triggered another investigation, where we found that most employees used unmonitored channels like personal text message, WhatsApp, or personal email, for firm business. Just like when they learned about market manipulation, senior leadership with compliance responsibilities knew and did nothing to fix the problem. Indeed, the senior officials responsible for HSBC’s compliance also used illegal offline communication platforms.
That awareness and participation by senior leadership in violations of law and bank policies is the common thread tying this case together. Banks serve as the first line of defense against insider trading, market manipulation and other illegal behavior that undermines market integrity.[4] But they cannot serve that function if the “tone at the top” of the organization is one of evasion, manipulating markets for their own advantage, and seeing what they can get away with.
It’s far past time for all banks (Wall Street, foreign, or otherwise) to stop waiting until they are caught by regulators before halting illegal conduct. And if those banks cannot or will not shift their culture to one of compliance, then it’s time for the Commission to ramp up the penalties and other tools designed to deter illegal behavior.
Given the importance of recordkeeping to policing markets, resolution of this enforcement action must be strong to deter violations across the market.
We are now seeing that attempts to evade recordkeeping requirements are a global problem. The CFTC must use all of its tools to deter this conduct and send a zero-tolerance message. While I support the $90 million in combined penalties with the SEC, deterrence comes from more than penalties. In fact, penalties risk becoming a cost of business to large banks. Requiring defendants to admit to their wrongdoing is another important tool to promote deterrence to the fullest extent.
Last year, I proposed a Heightened Enforcement Accountability and Transparency (“HEAT”) Test for the CFTC to identify where the public interest goals of law enforcement would benefit from defendant admissions.[5] This HEAT Test lays out conditions to identify cases where the CFTC should send a message about the strength of the enforcement program and the seriousness of the conduct at issue—and this case meets that test.[6] The use of unauthorized communications platforms, including by senior supervisors and managing directors, was egregiously pervasive at HSBC. Continued use of unauthorized communication platforms threatens market integrity and may obstruct enforcement investigations, like those in the manipulation action, by obscuring or hiding records and communications. As we are seeing that use of unauthorized communication tools is a common evasive technique for both Wall Street and foreign banks, it is especially important to reinforce that requiring admissions of wrongdoing will be a routine feature of all settlements for these actions.
I applaud the CFTC for requiring HSBC to admit its unauthorized communications. Defendant admissions should be required in all offline communication cases, as a powerful tool of accountability, justice and deterrence.
Statement of Commissioner Caroline D. Pham
I support this enforcement action against HSBC Bank USA, N.A., and thank the Division of Enforcement for their hard work on this matter. Fraud, manipulation, and disruptive trading practices have no place in our markets. I commend the Division for their aggressive pursuit of wrongdoing to the fullest extent permissible by law.
However, I feel compelled to remind the Commission and staff of our public responsibility to adhere to administrative law and best practices for administrative agency policymaking. See, e.g., Office of Management and Budget, Final Bulletin for Agency Good Guidance Practices, 72 Fed. Reg. 3432 (Jan. 25, 2007). By doing so, we can minimize the pitfalls of regulation by enforcement.
It is incumbent upon the Commission to be guided by these three key objectives in its speaking orders on enforcement actions: (1) provide regulatory clarity and clear expectations for compliance; (2) deter future violations to the greatest extent possible; and (3) avoid disruption to the markets and market participants.
Accordingly, in order to serve these objectives and provide robust legal discussion of authorities, the Commission must include its prior interpretations of the Commodity Exchange Act (CEA) as cited precedent in its speaking orders.
For example, the Commission promulgates regulations (usually through Administrative Procedure Act notice-and-comment rulemaking) to interpret and implement the CEA. In addition, particularly with respect to Dodd-Frank amendments, the Commission issues interpretive guidance and policy statements to interpret and implement the CEA.
Such Commission interpretive guidance and policy statements are “agency action” voted on by the Commission, and are distinct from staff guidance such as staff letters and advisories that do not bind the Commission.
Under administrative law, agency guidance includes “interpretive rules and policy statements.” See, e.g., Blake Emerson and Richard M. Levin, Agency Guidance through Interpretive Rules: Final Report (May 28, 2019), Administrative Conference of the United States Judicial Review Committee, available at https://www.acus.gov. The Commission has issued such an “interpretive rule” (as opposed to a “legislative rule”) stylized as, or part of, an “interpretive guidance and policy statement.” See, e.g., SIFMA v. CFTC, 67 F. Supp.3d 373, 424 (D.D.C. 2014).
Where the Commission has taken agency action to interpret the CEA, that Commission interpretation controls until the Commission changes its interpretation on a “reasoned basis.” I emphasize this specific canon of administrative law, because the Commission does not often issue interpretive guidance, policy statements, or interpretive rules, and so it bears reminding now.
Therefore, I believe that cited precedents in consent orders for enforcement actions must include not only the CEA and Commission regulations, but also Commission interpretive guidance and policy statements, especially Commission interpretive rules. This is particularly necessary for speaking orders where there is new precedent being created, or heightened sensitivity regarding the above objectives of providing regulatory clarity, deterring violations, or avoiding disruption.
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This is the first time that the Commission will find a violation of spoofing in voice brokered swaps markets under Section 4c(a)(5)(C) of the Act, 7 U.S.C. Section 6c(a)(5)(C) (“anti-spoofing provision”).
Because this is a case of first impression, the Commission must ensure that its Order meets these three objectives: (1) to provide regulatory clarity and clear expectations for compliance; (2) to deter future violations to the greatest extent possible; and (3) to avoid disruption to the markets and market participants.
To address these objectives, and in recognition of the need to distinguish legitimate trading activity from spoofing, the Commission engaged in substantial policymaking efforts over three years (from 2010-2013) to interpret and implement the anti-spoofing provision of the CEA, and established an incredibly extensive administrative record with public comment to support those efforts, including an advance notice of proposed rulemaking, public roundtable, proposed interpretive order, and finally, issued an Antidisruptive Practices Authority Interpretive Guidance and Policy Statement, 78 Fed. Reg. 31890 (May 28, 2013) (“2013 spoofing interpretation”).
The same concerns and considerations that were well-founded at that time remain of equal import today. As registered entities such as swap execution facilities (SEFs) and market participants consider where to draw the line between legitimate trading activity in voice brokered markets and spoofing violations, it is informative to look to the Commission’s controlling 2013 spoofing interpretation:
“[T]he Commission interprets the statute to mean that a legitimate, good-faith cancellation or modification of orders (e.g. partially filled orders or properly placed stop-loss orders) would not violate CEA section 4c(a)(5)(C) . . . When distinguishing between legitimate trading . . . and “spoofing,” the Commission intends to evaluate the market context, the person’s pattern of trading activity . . . and other relevant facts and circumstances.”
Because the facts of the alleged spoofing violation in this case as described in the consent order are significantly different from previous cases involving electronic / algorithmic trading and order books, it is even more important for SEFs and market participants to note the Commission’s 2013 spoofing interpretation where the Commission identified four non-exclusive examples of spoofing behavior.
Although the facts in this case do not fall within the first three examples of “classic” spoofing behavior, it does fall within the fourth example: “submitting or canceling bids or offers with intent to create artificial price movements upwards or downwards.”
Further, the United States Court of Appeals for the Seventh Circuit stated in United States v. Coscia, 866 F.3d 782, 787, 795 (7th Cir. 2017), that spoofing “differs from legitimate trading, however, in that it can be employed to artificially move the market price of a stock or commodity up or down, instead of taking advantage of natural market advantages[] . . . Spoofing . . . requires an intent to cancel the order at the time it was placed” (emphasis in original).
This enforcement speaking order does not reference the Commission’s 2013 spoofing interpretation. Therefore, I have issued this statement on spoofing in voice brokered swaps markets to better provide regulatory clarity and clear expectations for compliance, deter future violations to the greatest extent possible, and avoid disruption to the markets and market participants.
