In the wake of the Great Financial Crisis, global financial markets got their first experience of negative interest rates, something classical economists had long thought to be unworkable if not impossible. On April 20, concerns surrounding the effects of the COVID-19 crisis introduced investors to another negative first: crude oil prices.
On July 9, investors brought a class action complaint [1] alleging violations of Section 6b(e)(3) of the Commodity Exchange Act (CEA) [2] and its implementing regulations at 17 C.F.R. Sec. 180.1, which extended the prohibition on untrue statements or omissions of material fact from equity markets to the markets for futures, options, and other derivatives, by brokerage TD Ameritrade, Inc., and its derivatives-focused subsidiary Thinkorswim.
Intraday chart of the price of the May 2020 WTI crude futures contract on April 20, 2020 (Bloomberg), as set forth in the complaint.
To be clear, this was not a situation where you could pull up to the pump, fill up, and pocket some cash for doing so. The negative prices occurred in the commodity futures market, where investors enter into contracts to take delivery of a given amount of a commodity on a certain date. In this instance, the market was West Texas Intermediate (WTI) crude oil, which is oil that is produced all over the United States and Canada and transferred by pipeline to a massive hub storage and distribution facility in Cushing, Oklahoma.
The relevant futures contract stipulated that buyers would have to take delivery in May 2020, and April 20 was the final day that investors who did not (or in the case of the vast majority of investors, could not) take physical delivery of crude oil to sell out their positions. Over the course of the day, the price of the May 2020 WTI Crude contract fell steadily from its prior closing price of $18.27 per barrel, eventually falling as low as -$40.32 and closing at -$13.10, effectively requiring investors to pay $13.10 to avoid taking delivery of the crude oil.
The complaint alleged that Defendants’ risk disclosures made false and misleading statements and omissions regarding “multiple, robust risk management” processes that Plaintiff investors relied on, when in fact, Defendants’ systems could not accept or process transaction orders with negative prices, despite warnings in the prior weeks from the Chicago Mercantile Exchange, where the WTI futures contracts trade, that negative prices were possible. [3]
The complaint also claimed that Defendants failed to act properly when liquidating Plaintiffs’ positions because Defendants did not automatically close out the positions when the contract price fell to $0, the point beyond which investors would not be able to execute trades on their own.
On December 17, 2020, the Court issued a decision [4] disagreeing with Plaintiff and dismissing the complaint. The Court held that Plaintiff failed to adequately plead scienter. More notably, the Court held that the complaint failed to allege that Plaintiff attempted to place a trade at a negative price, which rendered insufficient the complaint’s allegations of a false statement or omission (due to lack of standing), reliance, and loss causation insufficient.
The Court went on to point out that Plaintiff’s account agreement granted Defendants “sole discretion” when liquidating positions where a client’s position had fallen in value, creating margin deficiencies, as they had in this instance.
Because the Court also granted TD Ameritrade’s request to compel arbitration, we may not have the benefit of a ruling on a second amended complaint. However, as we previously noted in our discussion of the dismissal in Kirschner v. JPMorgan, the recent trend of making increasingly complex securities and derivatives available to a broader population of the investing public may continue to generate litigation.
[1] Lindstrom v. TD Ameritrade, Inc., No. 1:20-cv-04028 (N.D. Ill.).
[2] 7 U.S.C. §§ 9 et seq.
[3] See, e.g., Chicago Mercantile Exch., Advisory 20-152, “CME Clearing Plan to Address the Potential of a Negative Underlying in Certain Energy Options Contracts” (Apr. 8, 2020), available at https://www.capitalmarketslitigation.com/2020/07/kirschner-v-jpmorgan-chase-bank-case-update/
[4] Lindstrom, No. 1:20-cv-04028, Dkt. No. 52 (Dec. 17, 2020).
