National Futures Association Reins In Futures Commission Merchants In Marshall v. Interactive Brokers

On May 6, 2014, a panel of arbitrators appointed by the National Futures Association, the self-regulatory organization for the U.S. futures industry, rendered an award for the firm's client, claimant George F. Marshall, against Interactive Brokers, LLC (Interactive), one of the largest online discount brokerage firms in the country, in the amount of $553,566, plus pre-award interest of 5 percent per annum. The dispute involved a claim by Marshall under Section 4b of the Commodity Exchange Act (7 U.S.C. §6b) that on June 21, 2012 Interactive wrongfully liquidated 470 light sweet crude oil futures contracts held by Marshall in several of his Interactive accounts.

This award is notable not only for its amount, but also because, given the high volatility of, and low margin required to trade, futures contracts, futures commission merchants (FCMs) enjoy great latitude in deciding when it is necessary for their own protection to liquidate customers' accounts, often with little or no notice. Claims of this species of fraud under the Commodity Exchange Act are routinely denied by both federal courts and arbitral forums, principally, as repeatedly argued by Interactive in pre-hearing briefing and during the six-day hearing, because of the great leeway afforded to FCMs in protecting themselves against customer default on highly-leveraged instruments such as crude oil futures contracts. Typically, FCMs will exercise their wide discretion by increasing customers' margin requirements or liquidating in the event of a margin deficit, occasionally even without issuing a margin call. See, e.g., Capital Options Invs., Inc. v. Gold-berg Bros. Commodities, Inc., 958 F.2d 186 (7th Cir. 1992); ADM Investor Servs., Inc. v. Ramsay, 558 F. Supp. 2d 855 (N.D. Ill. 2008). Marshall v. Interactive Brokers demonstrates, however, that an FCM's discretion is not unfettered.

The facts underlying the dispute involved Interactive's liquidation of 568 crude oil futures contracts over an approximately two-hour period on June 21, 2012. At the time of the liquidation, Interactive claimed that the "net liquidating value" of the positions in Marshall's accounts (Interactive's calculation of the aggregate cash value of the commodities contracts and options in Marshall's six commodities accounts) was less than the required maintenance margin across these accounts. In computing the net liquidating value of Marshall's accounts, Interactive used a proprietary computer algorithm to value...