The International Swaps and Derivatives Association, Inc., or ISDA, and the Securities Industry and Financial Markets Association, or SIFMA, have filed a legal challenge to the CFTC’s final rules that limit the positions that investors may own in certain commodities. The Associations believe that the position limits rule may adversely impact commodities markets and market participants, including end-users, by reducing liquidity and increasing price volatility. In addition, the Associations contend that the CFTC’s decision-making process in enacting the rule was procedurally flawed.

Prior to this litigation, SEC Rule 14a-11 allowed a shareholder (or group of shareholders) to include a shareholder nominee, in certain limited circumstances, in a public company’s proxy statement. The Business Roundtable and the US Chamber of Commerce challenged the rule before the Court of Appeals for the District of Columbia.  The Court issued a decision which vacated Rule 14a-11.  The proxy access decision is directly relevant to the position limits litigation.

It is interesting to compare the SEC and CFTC litigation.  The  SEC proxy access litigation was started with a three page straight forward petition for review.  The basis for vacating Rule 14a-11 at this stage was it is arbitrary and capricious.  In contrast, the ISDA and SIFMA complaint is 33 pages long with six causes of action.  It looks as if the plaintiffs are upping the ante.

In the CFTC litigation, the plaintiffs have included six causes of action.  Two relate to violations of the Commodity Exchange Act, and one is a general claim for injunctive relief.  Three claims relate to the Administrative Procedures Act, as did the proxy access litigation.  The claims are

• A count for arbitrary and capricious administrative action;
• A count related to the adoption of the specific positions in violation of the Administrative Procedures Act; and
• A count related to failure to provide interested persons a meaningful opportunity to participate in proposed rule making.

Eugene Scalia plays a key role in both litigations for the plaintiffs.  He is the son of Supreme Court Justice Antonin Scalia.

The crux of the CFTC litigation is whether the position limits rule was required by the Dodd-Frank Act, or was optional.  The CFTC apparently believes the position limits are required by the Dodd-Frank Act, according to the litigation.  A minority of the commissioners believe that CFTC should first make a determination that position limits are necessary and effective in relation to the identifiable burden of excessive speculation.

One of the beauties of the SEC is the commissioners know when to keep their mouth shut.  That it not the same with the CFTC.  As an example, the second paragraph of the complaint noted a statement by a commissioner that “no one has presented this agency with any reliable economic analysis to support the contention that excessive speculation is affecting the market we regulate or that position limits will prevent excessive speculation.”   Other portions of the complaint state that the CFTC found it impracticable to develop any calculation of the costs, the CFTC has limited data regarding the swaps in question and engaged in only a brief analysis under the Administrative Procedures Act.

Some of the other allegations of the complaint include:

• The CFTC grossly misinterpreted its statutory authority.
• The CFTC ignored data that position limits were unnecessary and would be ineffective and harmful to the US economy.
• There is no rational connection between the facts found and the decisions made.

Obviously the plaintiffs are sailing toward a replay of the SEC proxy access litigation. In the proxy access litigation, the court found the SEC:

• Inconsistently and opportunistically framed the costs and benefits of the rule;
• Failed adequately to quantify certain costs or to explain why those costs could not be quantified;
• Neglected to support its predictive judgments;
• Contradicted itself; and
• Failed to respond to substantial problems raised by commenters.

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