Domestic Transaction Test Applied to Private Action under CEA

Background
As alleged in the plaintiff’s complaint, Ludmila Loginovskaya was born and resides in Russia, where a representative of the Thor Group approached her with investment opportunities. The Thor Group is a New York-based financial-services firm that manages programs investing in commodities futures and real estate. The plaintiff entered into two investment contracts with Thor and transferred $720,000 to Thor’s accounts in New York. The plaintiff’s account statements initially showed positive returns. When the plaintiff sought to realize her gains and close her account, Thor did not return her money. After her investment lost significant value, the plaintiff learned that Thor used investors’ funds in a manner inconsistent with the investment contracts.

Under CEA section 22 affording a private right of action, the plaintiff filed suit in the U.S. District Court for the Southern District of New York alleging fraudulent conduct in violation of CEA section 4o, as well as state-law claims. The district court dismissed the plaintiff’s CEA claim under Rule 12(b)(6) because it failed Morrison’s domestic transaction test. 936 F. Supp. 2d 357, 367–75 (S.D.N.Y. 2013). Id. In other words, the court found that the CEA did not apply extraterritorially. Because the plaintiff failed to allege a plausible federal cause of action, the district court declined to exercise supplemental jurisdiction over the state-law claims.

The Majority Opinion
In affirming the dismissal, the Second Circuit’s majority opinion, written by Judge Dennis Jacobs and joined by Judge Christopher F. Droney, cited to the two-step test applied by the Supreme Court in Morrison to determine whether the statute applies extraterritorially. Under the first step, a court must analyze whether Congress, by a clear statement, overrode the presumption against extraterritoriality. As Morrison acknowledged, the first step is typically “not self-evidently dispositive” and “requires further analysis.” Absent a clear statement by Congress that a federal statute has extraterritorial effect, Morrison proceeded to a second inquiry: how the presumption affects the particular statutory provision in view of the “focus of congressional concern.”

Applying Morrison’s two-part test to the CEA, the majority held that the CEA as a whole is silent as to extraterritorial reach, which compels a presumption that the CEA is primarily concerned with domestic conduct. The majority considered how this presumption affects the “focus of congressional concern” in the CEA, reviewing first the threshold requirements to bring a private suit under section 22 before turning to the merits of the plaintiff’s fraud claims under section 4o.

Section 22 is a procedural section of the CEA affording a private cause of action in four limited circumstances (each transactional in nature): receiving trading advice for a fee; making a contract of sale or deposit in connection with any order to make such a contract; the purchase, sale, or order for a commodity interest; and market manipulation in connection with the swap or contract of sale. The focus of congressional concern in section 22 is transactional, covering “domestic conduct, domestic transactions, or some other phenomenon localized to the United States.” The common thread in these transactions is that “they limit claims to those of a plaintiff who actually traded in the commodities market.” A private right of action exists only when a plaintiff pleads that one of the four transactions listed in section 22 occurred in the United States.

The majority rejected the plaintiff’s arguments that Morrison governs only substantive provisions such as section 4o, not procedural provisions such as section 22. The court held that Morrison draws no such distinction, applying generally to “statutes.” The majority summarized its analysis as follows: “[T]he CEA creates a private right of action for persons anywhere in the world who transact business in the United States, and does not open our courts to people who choose to do business elsewhere.”

In the majority’s view, the plaintiff failed to allege sufficient domestic transactional conduct to avoid a Rule 12(b)(6) dismissal of her CEA private suit. She purchased her interest in Thor in Russia, and Russia is where the “meeting of the minds” occurred. She failed to show that the transfer of title or the point of irrevocable liability for her interest occurred in the United States. The plaintiff’s wire transfers of funds to New York were simply actions necessary to carry out the transactions, not transactions themselves.

Because its section 22 analysis was dispositive, the majority declined to address how the presumption against extraterritorial effect defines the reach of section 4o’s antifraud provisions, in which “the focus of congressional concern” is on domestic market “participants”—not domestic transactions. In fact, the majority acknowledged that the contention that Morrison’s transaction test is inapplicable to section 4o “is not without merit.” The majority stated that its conclusion that the domestic transaction test applies to CEA section 22 is not anomalous; if the antifraud provisions of section 4o regulate the conduct of domestic market participants in other countries, “it would seem Congress has allowed a remedy” for an aggrieved through administrative governmental enforcement before the Commodities Futures Trading Commission.

The Dissent
In his vigorous dissent, Judge Raymond J. Lohier Jr. stated that Loginovskaya’s claims “in a sense never had a chance.” Judge Lohier stressed that the presumption against extraterritorial application, absent a clear congressional intent to the contrary, limits the application of statutes regulating conduct to the territory of the United States, but the presumption “was never meant to close our courts, as the majority opinion does, to legitimate claims that those laws have been violated.” Judge Lohier criticized the majority for affording “an extra, unfounded layer of protection to defendants” by applying the presumption against extraterritoriality to section 22, which authorizes (and limits) private rights of action under the CEA but does not regulate any conduct.

Judge Lohier emphasized the expansive purpose of the CEA to protect market participants and stated that Morrison’s territorial limitation should apply only to section 4o’s substantive antifraud provisions. Id. at 278. “The majority opinion’s approach also creates two sets of rules that depend solely on the identity of the party seeking to enforce § 4o: one for private parties located outside the United States and another for private parties located inside the United States and the Government.” Judge Lohier concluded that the plaintiff had pled fraudulent acts that were sufficiently domestic to fall with the scope of section 4o and should have survived a Rule 12(b)(6) dismissal.

Impact
The majority’s ruling illustrates the impact of Morrison’s presumption against extraterritoriality. Yet, divergent majority and dissenting opinions demonstrate that the precise scope of Morrison’s application to the CEA is subject to judicial debate. It will be interesting to see how other circuits will decide the issue and whether a further split in the analysis will ultimately lead to review by the Supreme Court. In the meantime, the decision leaves open the door for governmental enforcement of the CEA’s antifraud provisions, even where a private cause of action may not proceed under section 22 because it fails to meet the domestic transaction requirements.

Keywords: litigation, pretrial practice, discovery, CEA, Commodities Exchange Act, section 22, section 4o, Morrison

Steven M. Richard is counsel with Nixon Peabody LLP in Providence, Rhode Island.

^{Copyright © 2015, American Bar Association. All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means or downloaded or stored in an electronic database or retrieval system without the express written consent of the American Bar Association. The views expressed in this article are those of the author(s) and do not necessarily reflect the positions or policies of the American Bar Association, the Section of Litigation, this committee, or the employer(s) of the author(s).}