Is DOJ’s “Spoofing as Wire Fraud” Theory Really Just “Right to Control” by Another Name?

The federal wire fraud statute prohibits “any scheme or artifice to defraud, or for obtaining money or property by means of false or fraudulent pretenses, representations, or promises” via an electronic communication.¹ The statute’s loose wording makes it adaptable, and federal prosecutors have creatively used it to target a “staggeringly broad swath of behavior.”² While courts have generally validated this expansive approach, DOJ has on occasion drawn criticism for trying to “stretch the reach” of the wire fraud statute “far beyond where [it] should go.³

To deceive is not necessarily to defraud    

In cases brought under the controversial “right to control” wire fraud theory, the government has pushed for criminal convictions even though the alleged scheme did not, and was not intended to, cause direct financial injury to the purported victim.  The government’s typical allegation in such cases is that a defendant withheld or misstated “information that could impact on economic decisions” and thereby deprived the victim of their “right to control” their own assets, an intangible right that purportedly qualifies as “property” under the wire fraud statute.⁴

The contours of this theory are set forth in a line of cases decided by the Second Circuit.⁵ The “common thread” in these cases is “that misrepresentations or non-disclosure of information cannot support a conviction under the ‘right to control’ theory unless those misrepresentations or non-disclosures can or do result in tangible economic harm.”⁶ In other words, while the Second Circuit considers the intangible right to control one’s assets a cognizable “property” right, to be convicted of wire fraud a defendant must intend to do two things: deprive another party of this right through a material deception, and cause actual pecuniary injury as a result. ⁷

Thus, “[i]t is not sufficient . . . [for the government] to show merely that the victim would not have entered into a discretionary economic transaction but for the defendant’s misrepresentations” because the “‘right to control one’s assets’ does not render every transaction induced by deceit actionable” as wire fraud.⁸Instead, the defendant’s deception must “affect the very nature” of the transaction at issue.⁹ This test therefore seeks to draw a “‘fine line between schemes that do no more than cause their victims to enter into transactions they would otherwise avoid’—which do not violate the wire fraud statute—and those schemes that ‘depend for their completion on a misrepresentation of an essential element of the bargain.”¹⁰

At bottom, then, the law is clear that deceptively inducing a counterparty into entering a transaction whose terms are otherwise fully and accurately disclosed does not satisfy the elements of a wire fraud offense.¹¹

Spoofing through a “right to control” lens

Although never explicitly labelled as such, the wire fraud theories advanced in DOJ’s recent spate of spoofing cases are essentially a repackaging of the right to control.¹² In United States v. Bases, for example, DOJ alleged that two former traders conspired to commit wire fraud by “injecting materially false and misleading information into the precious metals futures markets . . . in order to induce market participants to buy or to sell precious metals futures contracts at prices, quantities, and times that they would not have otherwise.”¹³ Stated differently, by placing spoof orders the defendants purportedly supplied inaccurate information intended to influence prospective counterparties’ decision as to whether or not to transact, just as in right to control cases. ¹⁴

But critically, the Bases indictment does not allege that this scheme was intended to cause tangible financial harm to the targeted victims.  Instead, DOJ posited that the object of defendants’ conspiracy was merely to “make money and avoid losses” for themselves and their employers by facilitating execution of their non-spoof orders.¹⁵The importance of this for defendants in spoofing cases is twofold.

First, it creates a pathway to challenge the sufficiency of an indictment in a pre-trial motion to dismiss under Fed. R. Crim. P. 12(b).  In the Seventh Circuit, where most spoofing cases are brought, the “right to control” theory has been described as “close to the edge of the [wire fraud statute’s] reach,”¹⁶ meaning that it lies on the narrow boundary between legal and illegal conduct.  And while the Seventh Circuit has used certain Second Circuit “right to control” cases to inform its own decisions, it has never expressly adopted the doctrine.¹⁷ Whether it would be accepted in a spoofing context is therefore an open question, and at least one other circuit has questioned the theory’s validity when applied to comparable economic transactions.¹⁸

Moreover, the Supreme Court’s recent decision in Kelly v. United States casts doubt on “right to control’s” continued viability in general.¹⁹ In that case, the Court reversed wire fraud convictions premised on an allegation that defendants had used deception to deprive a government agency of its right to control traffic on the George Washington Bridge.²⁰ The Court held that this scheme did not count as wire fraud because it was aimed at depriving “citizens of their intangible rights to honest and impartial government” instead of “property.”²¹ Although Kelly obviously involved a much different fact pattern than the typical spoofing case, it nevertheless provides a framework for how spoofing defendants might argue that the right purportedly taken from their victims—i.e., the intangible right to decide, free of misinformation, when, and on what terms, to trade²²—is not “property” as a matter of law.²³

Second, even if “property” is a target of spoofing schemes, DOJ’s “right to control” wire fraud theory in spoofing cases opens another line of attack—specifically, that the alleged spoofer’s deception did not implicate an “essential element of the bargain” with their victim.  

As illustrated in the Bases indictment, DOJ believes that “spoof” orders are placed to help a trader fill “real” orders on the other side of the market,²⁴ with the victim being the counterparty who is duped into executing such “real” orders.²⁵ Accepting this at face value, it is clear that the spoofer in this scenario has not misrepresented any “essential element” of this transaction.  

To see why, consider the mechanics of a typical “spoof.”  Trader A enters two orders for gold futures contracts into the market: a large order to buy for $1,000 and small order to sell at $1000.20.  Unbeknownst to the market, Trader A intends to cancel the buy order as soon as the sell order is filled (and in any event within a few seconds).  A counterparty, Trader B, interpreting the large buy as a signal that prices will soon rise, decides to accept the sell order in the hopes that it can then be resold at a profit when the anticipated price increase occurs.  But instead, after Trader B fills Trader A’s sell order, the buy order is cancelled and prices drop, leaving Trader B with gold futures contracts he bought for $1000.20.²⁶

For purposes of the right to control theory, the critical issue is whether Trader A’s buy order implicates an “essential element” of the executed transaction involving Trader A’s sell order.  Even assuming that the “spoof” buy order materially misrepresented supply at the moment Trader B decided to transact,²⁷ a material misrepresentation is not enough.  Rather, the misrepresentation must be “capable of resulting in ‘tangible harm,’”²⁸ and in this example, Trader B still got exactly what he bargained for—a gold futures contract at the specified price.  Whether that purchase translates into a gain or a loss for Trader B depends on what he chooses to do with it: if he holds until prices tick up again he will record a gain; if he decides to sell while prices are below $1,000.20 he will record a loss.  But in either case, the gold futures contract itself has not been misrepresented.²⁹

The only harm Trader A inflicted on Trader B, if any, is inducing him to enter into a transaction he would not have but for Trader A’s spoof order.  Indeed, DOJ admits as much when it alleges that the purpose of spoofing schemes is merely to get the spoofer’s own outstanding orders executed.³⁰ But this is precisely the type of intangible harm courts have repeatedly found do not constitute wire fraud.³¹ As the 11th Circuit summed it up: 

“[A] schemer who tricks someone to enter into a transaction has not ‘schemed to defraud’ so long as he does not intend to harm the person he intends to trick.  And this is so even if the transaction would not have occurred but for the trick.  For if there is no intent to harm, there can only be a scheme to deceive, but not one to defraud.”³²

Stretching it too far

While the scope of the wire fraud statue is unquestionably broad, it is not limitless and effort must be made to ensure that DOJ does not “stretch the long arms of the fraud statutes too far.”³³ By charging spoofing as a variant of “right to control” wire fraud, DOJ has improperly conflated deception with fraud, and expanded the wire fraud statute beyond where it should go.

ENDNOTES

1. 18 U.S.C. § 1343.
2. Sorich v. United States, 555 U.S. 1204, 1204 (2009) (Scalia, J., dissenting).
3. United States v. Weimert, 819 F.3d 351, 355 (7th Cir. 2016).
4. United States v. Wallach, 935 F.2d 445, 463 (2d Cir. 1991); see also United States v. Finazzo, 850 F.3d 94, 97 (2d Cir. 2017) (DOJ charging wire fraud where defendant engaged in a kickback scheme with one of his employer’s suppliers based on a theory that defendant had deprived his company “of the opportunity to make informed decisions, . . . seek[] lower prices for merchandise it purchased from [the supplier], and the opportunity to select other vendors.”).
5. See, e.g., United States v. Mittelstaedt, 31 F.3d 1208 (2d Cir. 1994); United States v. Dinome, 86 F.3d 277 (2d Cir. 1996); United States v. Viloski, 557 Fed. App’x 28 (2d Cir. 2014); United States v. Binday, 804 F.3d 558 (2d Cir. 2015).
6. Finazzo, 850 F.3d at 111.
7. United States v. Johnson, 945 F.3d 606, 614 (2d Cir. 2019) (“The requirement of materiality thus differs from the requirement of fraudulent intent, which is that the misrepresentation must be ‘capable of resulting in tangible harm.’”); United States v. Sadler, 750 F.3d 585, 591 (6th Cir. 2014) (more is required than intentional misrepresentations or omissions, and simply “equating deceptions with property deprivation” is insufficient to support a wire fraud charge).
8. Binday, 804 F.3d at 570.
9. Johnson, 945 F.3d at 612 (quoting United States v. Starr, 816 F.2d 94, 98 (2d Cir. 1987)); see also Binday, 804 F.3d at 569-70, 75 (finding defendant’s deception goes to “an essential element of the bargain” if defendant “contemplated harm” to the victim).
10. Johnson, 945 F.3d at 613 (quoting United States v. Shellef, 507 F.3d 82, 108 (2d Cir. 2007)).
11. See, e.g., Weimert, 819 F.3d at 370 (“Deception and misdirection about a party’s values, priorities, preferences, and reserve prices are common in negotiation. . . . [Defendant’s] dealings in [the real estate transaction at issue] were sharp and self-interested, but they did not amount to wire fraud. By the time [the counterparty] signed the contract to sell, all terms of the deal were on the table. [The counterparty] might have been able to secure a better deal if it had known [about the deception prefacing the deal], but that is . . . a matter for . . . civil law, not a federal criminal trial.”).
12. “Spoofing” is a trading technique categorized as a “disruptive practice” under the Commodity Exchange Act (7 U.S.C. § 6c(a)(5)). In general, spoofing involves placing “fake” orders intended to be cancelled on one side of the market in order to deceptively induce other traders to fill “real” orders lying in wait on the other side. See United States v. Coscia, 866 F.3d 782, 787 (7th Cir. 2017).
13. 18-cr-00048 (N.D. Ill.), ECF No. 217 at 6.
14. See, e.g., Wallach, 935 F.2d at 463; Finazzo, 850 F.3d at 97.
15. Bases, No. 18-cr-00048 (N.D. Ill.), ECF No. 217 at 6-8; see also id., ECF No. 301 (“In short, the indictment alleges, Defendants’ scheme of placing the [spoof orders] with the intent not to execute them induced other market participants to buy or sell precious metals futures contracts at times, prices, and quantities that they otherwise would not have but for Defendants’ actions, in a way that benefited Defendants financially.”) (emphasis added). A nearly identical allegation was made in United States v. Vorley, another case where DOJ charged spoofing as wire fraud. No. 18-cr-00035 (N.D. Ill.), ECF No. 127 at 4.
16. United States v. Kelerchian, 937 F.3d 895, 913 (7th Cir. 2019).
17. Id. at 913-914.
18. See, e.g., United States v. Bruchhausen, 977 F.2d 464, 466-67 (9th Cir. 1992) (finding defendant had not defrauded victim of a “property interest” where victims “received full sale price for their products” and were only deceived “into entering sales that they had the right to refuse”).
19. 140 S. Ct. 1565 (2020); see also Sekhar v. United States, 570 U.S. 729, 736 (2013) (holding that the term “property” as used in another federal statute refers only to property that is transferable from the victim).
20. Id. at 1572.
21. Id. at 1574 (citing McNally v. United States, 483 U.S. 350, 355 (1987)). In another recent decision, the Supreme Court vacated a Second Circuit ruling affirming insider trading convictions in light of Kelly, ordering the lower court to re-consider what qualifies as “property” under the federal anti-fraud statutes. See United States v. Blaszczak, No. 20-5649 (Sup. Ct. Jan. 11, 2021).
22. See Vorley, No. 18-cr-00035 (N.D. Ill. Dec. 23, 2020), ECF No. 363 at 24 (DOJ arguing that defendants’ spoofing victims “bargained to trade in a market that was not polluted with misinformation and for a price that was not manipulated”).
23. See, e.g., United States v. Palma, No. 19-cr-20626 (E.D. Mich. Nov. 17, 2020), ECF No. 58 (granting defendant’s motion to dismiss wire fraud counts premised on a right to control theory where alleged object of the scheme was not “property”) (citing Kelly, 140 S. Ct. at 1571, 1573).
24. No. 18-cr-00048 (N.D. Ill.), ECF No. 217 at 6-8.
25. Id., at 7 (“[D]efendants placed [spoof orders] with the intent to benefit their [real orders] by artificially moving the prevailing price in a manner that would increase the likelihood that one or more of their [real orders] would be filled at their desired price.”); ECF No. 301 at 7 (“[I]n the fraudulent scheme described in the indictment, the primary victims . . . were not the counterparties to Defendants’ [spoof orders], but the counterparties to the [real orders], who—along
with the rest of the market—reasonably believed that the [spoof orders] were posted to the exchange . . . with the intent to fill them.”).
26. This example is a modified version of the one described by the Seventh Circuit in Coscia, 866 F.3d at 787.
27. Bases, No. 18-cr-00048 (N.D. Ill.), ECF No. 217 at 6 (alleging spoof orders injected “materially false and misleading information” regarding “supply or demand”).
28. Johnson, 945 F.3d at 614 (distinguishing between the materiality requirement and the requirement of fraudulent intent, which requires that the misrepresentation must be “capable of resulting in tangible harm”); Finazzo, 850 F.3d at 109 n.16 (“It is . . . possible for a misrepresentation to influence decisionmaking in a manner that nevertheless does not produce tangible harm.”).
29. Cf. Johnson, 945 F.3d at 613 (“[F]raudulent intent may be ‘apparent’ where ‘the false representations are directed to the quality, adequacy or price of the goods themselves . . . because the victim is made to bargain without facts obviously essential in deciding whether to enter the bargain.”) (quoting United States v. Regent Office Supply Co., 421 F.2d 1174, 1182 (2d Cir. 1970)).
30. Bases, No. 18-cr-00048 (N.D. Ill.), ECF No. 217 at 6; Vorley, No. 18-cr-00035 (N.D. Ill.), ECF No. 127 at 4.
31. See, e.g., Binday, 804 F.3d at 570 (“[W]e have repeatedly rejected application of the mail and wire fraud statues where the purported victim received the full economic benefit of its bargain.”); United States v. Davis, No. 13-cr-00923, 2017 WL 3328240, at *8 (S.D.N.Y. Aug. 3, 2017) (“In analyzing these right to control cases, it appears that convictions have been upheld where the deceit had the potential to cause economic harm to the victim or where it involved a violation of the law. Convictions where these factors were not present were reversed, even though the victim would have entered into the transaction had it known of the deceit.”).
32. United States v. Takhalov, 827 F.3d 1307, 1312 (11th Cir. 2016) (emphasis in original).
33. Pasquantino v. United States, 544 U.S. 349, 377 (2005).