The Commodity Futures Trading Commission (CFTC) has announced that the US District Court for the Northern District of Illinois has entered into a consent order imposing permanent injunctive relief, civil monetary penalties and disgorgement against Chicago-based commodity pool operators (CPOs) LJM Partneres Ltd and LJM Management Ltd, plus two executives – former chairman and owner Anthony Caine and former chief portfolio manager Anish Parvataneni.
As described in the CFTC’s complaint, the defendants allegedly violated multiple provisions of the Commodity Exchange Act (CEA) and the Commission’s rules by engaging in deceptive and manipulative practices in connection with transactions involving commodities over an extended period.
Caine must pay a civil monetary penalty of $500,000; Parvataneni must pay a monetary penalty of $200,000; LJM and Caine must pay approximately $4.6m in disgorgement (jointly and severally); and Parvataneni must pay $721,093 in disgorgement. The order imposes a registration ban of three years for Caine and one year for Parvataneni.
Not really ‘robust’ risk management
As the complaint points out, selling options carries with it a large amount of risk, namely in terms of lost investment income. And can sometimes event generate significant losses. In its complaint, CFTC contended that LJM downplayed those risks by:
- Falsely claiming that, depending on the strategy, the maximum daily worst-case scenario for losses was 20% to 40%.
- Falsely touting it had ‘robust’ risk management in place that utilized historical scenario analysis for prospective pool participants.
- Ignoring the impact of volatility risk in monitoring the portfolio’s risk levels and dismissing the results of historical scenario analysis as improbable.
- Stating to pool participants that the business maintained a consistent risk profile, even though, by late 2027, the risk profile of the LJM portfolios had significantly deviated from their historical profile.
- And, related to the point above, the portfolio was positioned in a manner that essentially doubled the size of potential losses associated with a significant drop in the S&P and a spike in volatility, compared to the historic profile of LJM’s positions.
In a telling email sent in February 2018, just days after the collapse of LJM’s portfolio, an investment advisor wrote that he had “walked through the risk parameters in place to ensure something like this never happens” with his client and that he had assured the client “it wouldn’t and couldn’t happen.” The email identified Parvateneni as participating in the email exchange.
Rule violations
The defendants were charged with violating Section 4o(1)(A)-(B) of the CEA which addresses the act of defrauding pool participants or prospective ones; Sections 4c(b) and 6(c)(1) of the CEA which target frauds and deceptions on persons in the course of any commodity option transaction.
And the court charged Caine with failing to diligently supervise his employees and agents who were making such false and misleading statements under Regulation 166.3.
CFTC Commissioner Kristin Johnson submitted a statement noting that investors incurred substantial losses after LJM collapsed, thanks to being kept in the dark about the changing nature of its risk profile for two years. She pointed out that “[c]areful risk management enables market participants to detect and address the kinds of volatility that led to LJM’s collapse. Effective risk management oversight enhances the integrity and stability of global derivatives markets”.
“Where risk management fails or is completely neglected, we must endeavor through enforcement actions to achieve greater accountability, reduce repeated compliance failures through both general and specific deterrence, and enable the Commission to maximize the use of limited resources,” she added.
