\1 USOC SONY
UNITED STATES DISTRICT COURT DOCUMENT
SOUTHERN DISTRICT OF NEW YORK
1 ELECTRONICALLY FILED
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U.S. COMMODITY FUTURES 1\ DATE FILED: t..J 12' Ilk
L~_____~_~_____ ~~_________________~-~
TRADING CONIMISSION,
Plaintiff, 11 Civ. 3543 (WHP)
-against- MEMORANDUM & ORDER
PARNON ENERGY INC., et al.,
Defendants.
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WILLIAM H. PAULEY III, District Judge:
The U. S. Commodity Futures Trading Commission (the "Commission") brings
this action against Parnon Energy Inc. ("Parnon"), Arcadia Petroleum LTD ("Arcadia"), Arcadia
Energy (Suisse) SA ("Arcadia Suisse"), Nicholas J. Wildgoose ("Wildgoose"), and James T.
Dyer ("Dyer," collectively, "Defendants") for manipulation and attempted manipulation of West
Texas Intermediate crude oil ("WTf') prices in 2008. Defendants move to dismiss the complaint
for lack of standing and failure to state a claim on which relief may be granted. For the
following reasons, Defendants' motion to dismiss is denied.
BACKGROUND
I. The Crude Oil Market
This litigation involves three types ofWTI commodity trades: (1) futures
contracts, (2) physical contracts, and (3) calendar spread contracts. WTI futures contracts are
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agreements for the purchase and sale ofWTI l for delivery on a fixed date in the future, typically
in Cushing, Oklahoma. (Complaint, dated May 24,2011 ("Compl.") ~ 15.) Cushing is the major
delivery point for crude oil in the United States. (Compl. ~ 1.) WTI futures are traded on several
markets, including the New York Mercantile Exchange ("NYMEX") and the European
Intercontinental Exchange ("ICE"). (Compl. ~ 17.) The earliest delivery month for a futures
contract is the "near" month. (Compl. ~ 16.) Trading of near month futures contracts is possible
until a fixed date-the expiry date-after which the futures contract is no longer available, and
the subsequent month becomes the new near month. (Compl. ~ 16.) For example, in January
2008, trading of the NYMEX WTI February 2008 futures expired on January 22, after which
March 2008 became the new near month futures contract. (Compl. ~ 16.)
Besides futures, commercial users of crude oil also regularly buy "physical"
contracts, under which WTI is delivered the following month in Cushing. (Compl. ~ 18.)
Physical contracts are traded until the end of the third business day following the expiry date.
(Compl. ~ 18.) This three-day period following the expiry date is known as the "cash window."
(Compl. ~ 18.) For example, physical contracts for February 2008 delivery were tradable until
January 25,2008. And the three day period between January 22 and 25 was the cash window for
the February physical contracts. The cash window gives commercial users the opportunity to
balance their positions and plan for next month's delivery. (Compl. ~ 18.) The Commission
alleges that trading and balances during this period are strong indicators ofthe next month's
overall supply. (Compl. ~ 18.)
I All crude oil futures contracts trade in thousand-barrel lots. (See Compl. ~ 32~ see also Charles
J. Woelfel, Encyclopedia of Banking & Finance 867 (10th Ed. 1995).)
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Physical contracts are often priced at the Calendar Month Average ("CMA").
CMA is the average of each day's near month settlement price during the month of delivery.
(CompI. ~ 19.) Prior to engaging in CMA transactions, physical market participants qualify for
such transactions by meeting certain credit-related requirements. (CompI. ~ 19.) Parties to a
CMA transaction agree on a price, either at CMA or CMA plus or minus an agreed upon sum.
Aside from price and quantity, the parties do not individually negotiate the other material terms
of a CMA transaction. (CompI. ~ 19.) After parties consummate a CMA transaction, they post a
standardized stand-by letter of credit from a third-party bank for 105% of the contract's current
notional value. Thereafter, the contracts are fungible among qualified parties. (CompI. ~ 19.)
CMA-priced contracts are traded on the "HoustonStreet" electronic trading facility, through
brokers, or directly between counterparties. (CompI. ~ 19.)
Spread contracts represent the price difference between two commodity contracts.
(CompI. ~ 20.) A "calendar spread" is the price differential between the delivery ofWTI in the
near month and delivery ofWTI in the following month. (CompI. ~ 20.) A "long" calendar
spread consists of two futures contracts: (1) the purchase of WTI for delivery in the near month
and (2) the sale of the same quantity of oil in the subsequent month. (CompI. ~ 20.) A "short"
calendar spread is the inverse: a sale in the near month and a purchase in the subsequent month.
(CompI. ~ 20.)
For most commodities, the price of a futures contract includes such carrying costs
as storage, insurance, financing, and other expenses the producer incurs as the commodity awaits
delivery. Thus, typically, the further in the future the delivery date, the greater the purchase
price of the futures contract. That relationship is known as "contango." See Virginia B. Morris
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and Kenneth M. Morris, Standard & Poor's Dictionary of Financial Tenns 41 (2007); see also
Barbara J. Etzel, Webster's New World Finance and Investment Dictionary 74 (2003)
("contango [ :] A pricing situation in which the prices of futures contracts are higher the further
out the maturities are. This is the nonnal pricing pattern because carrying charges such as
storage, interest expense, and insurance have to be paid in order to hold onto a commodity.").
Near-tenn supply of crude oil is generally inelastic, meaning, supply in the near
tenn does not increase even ifprices rise significantly. (CompI. ~ 21.) Long-tenn supply, on the
other hand, can usually increase to meet market prices and is therefore elastic. (CompI. ~ 21.)
Thus, if there is a shortage or tightness in immediate supply, traders are willing to pay a high
premium for near-tenn supply relative to long-tenn supply. Such a market condition is the
opposite ofcontango and is called ''backwardation.'' See Jerry M. Rosenberg, Dictionary of
Banking and Finance 41 (1982) ("backwardation: a basic pricing system in commodities futures
trading. A price structure in which the nearer deliveries of a commodity cost more than contracts
that are due to mature many months in the future. A backwardation price pattern occurs mainly
because the demand for supplies in the near future is greater than demand for supplies at some
distant time.").
Calendar spreads are sensitive to end-of-month balances ofoil supply. (Compi. ~
22.) In particular, a market perception that the physical supply ofcrude oil is low will drive near
tenn prices higher relative to long-tenn prices, i.e., into a pattern ofbackwardation. (Compi. ~
22.) Although somewhat counterintuitive, because the price of a long calendar spread is the
difference in the price of the near month and the next month, long calendar spread contract prices
rise as near tenn prices trend higher relative to the next month price. When there is a near-tenn
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glut of supply, the price of the near month trends lower relative to the next month price and the
long calendar spread contract price declines. (Compl., 22.)
II. The Parties
The Commission is a federal agency tasked with administering and enforcing the
Commodity Exchange Act (the "CEA"), 7 U.S.C. §§ I et seq., and promulgating and enforcing
regulations thereunder, 17 C.F.R. §§ 1.1, et seq. (Compl., 9.)
Parnon is a corporation organized under the laws of Texas, with its principal place
ofbusiness in Rancho Santa Fe, California. (Compl., 10.) Arcadia is a corporation organized
under the laws ofthe United Kingdom, with its principal place of business in London, England.
(Compl. , 11.) Arcadia Suisse is a corporation organized under the laws of Switzerland, with its
principal place ofbusiness in Morges, Switzerland. (Compl., 12.) Parnon, Arcadia, and
Arcadia Suisse are wholly owned subsidiaries of Farahead Holdings Ltd., and operate as a single
enterprise to trade in physical and futures contracts for crude oil, including WTI. (Compl." 10,
11, 12.) Dyer resides in Brisbane, Australia, and was responsible for Defendants' trading
strategy in WTI between 2005 and 2008. (Compl., 13.) Wildgoose resides in Rancho Santa Fe,
California, and was also responsible for trading WTI for Defendants. (Compl., 14.)
III. The Alleged Manipulation
The following facts are gleaned from the Complaint and are accepted as true on
this motion. In late 2007, the supply ofWTI at Cushing was relatively low and near-term prices
were high. (Compl., 23.) Indeed, Wildgoose remarked that the supply was "close to vapors."
(Compl. , 23.) On or about January 3,2008, Dyer predicted that the February supply at Cushing
for physical delivery would be approximately seven million barrels of WTL (Compl., 27.)
Around that time, he and Wildgoose devised a plan to capitalize on the tight market by
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accumulating a dominant position in physical WTI. (Compl., 25.) On January 7,2008,
Wildgoose implored Arcadia's Chief Operating Officer to secure the standard 105% letter of
credit so Defendants could commence trading physical WTI: "Can we get this issue resolved
pIs. time is of the essence here, we need to trade cash with 3rd parties tomorrow as part of the
feb/mar wti strategy." (Comp!., 27.)
From January 8 to 18 of 2008, Defendants entered into CMA contracts to
purchase 4.6 million barrels ofWTI, which amounted to sixty-six percent of the estimated seven
million barrel supply. (Comp!." 25, 28.) On January 27, Wildgoose revised Dyer's estimate of
the February WTI supply downward from seven to five million barrels. (Comp!., 28.) Thus, in
fact, Defendants had acquired approximately ninety-two percent of the available WTI supply.
(CompL , 28.) Defendants retained their physical position through January 22, the final day of
trading for the near-month NYMEX February WTI futures contracts. Defendants had no
commercial need for the physical oil and would likely incur substantial losses by selling it during
the cash window. Accordingly, they purportedly lulled the market into believing that they would
hold their physical position, keeping near-term supply exceedingly tight. (Comp!." 29,30.)
Concurrently, by January 10, Defendants accumulated 13,600 long
February/March calendar spread contracts, equivalent to 13.6 million barrels. (Compl., 32.) By
accumulating such a large percentage of WTI physical contracts, Wild goose and Dyer inflated
the value of their February/March calendar spreads. (Compl., 32.) In other words, because near
term supply was so tight, the price ofFebruary futures contracts was pushed higher compared to
the price ofMarch contracts, thus increasing the value of Defendants' February/March spread
contracts. Specifically, on January 3,2008, the NYMEX Feb/Mar calendar spreads were trading
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at $0.24. By January 18, the February/March spread price had jumped to $0.65. At that point,
Defendants dumped 10,700 of their February/March spread contracts for a substantial profit.
(CompL ~ 32.) By January 22, the spread price was still at $0.64, and Dyer and Wildgoose sold
Defendants' remaining contracts. (CompI. ~ 32.)
On January 23,2008, the first day of the January cash window, the February
futures contracts expired, and March became the new near month. (CompI. ~ 34.) Defendants
still held nearly all of their 4.6 million-barrel physical WTI position for delivery in February.
(CompI. ~ 34.) Because near-term supply remained tight, the March/April 2008 calendar spread
contracts traded at a high price. (Compi. ~~ 34, 35.) For example, on January 23, the
March/April spread was $0.37 and, the price increased to $0.42 on January 24. (CompI. ~ 35.)
Knowing they would soon surprise the market by selling their physical contracts, Defendants
accumulated 12.2 million barrels worth of short March/April spread contracts between January
22 and 25. (Compi. ~ 35.)
On January 25, the last day ofthe cash window, Defendants dumped all 4.6
million barrels of their physical contracts on the market at a considerable loss. (Compi. ~ 37.)
Immediately, the market lurched from backwardation to contango, and the March/April spread
price crashed from $0.42 to $0.24. (Compi. ~~ 38, 39.) At that point, Defendants cashed in their
short position and the scheme was complete. (Compi. ~ 40.)
Credit issues prevented Defendants from replicating their scheme in February.
(Compi. ~ 41.) But they successfully executed it again in March 2008. (Compi. ~~ 42-48.)
While Defendants lost fifteen million dollars by holding their physical contracts through the last
day of the cash windows, their trading in calendar spread contracts in January and March 2008
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netted them more than fifty million dollars in profit. (Compl., 52.) In the five years between
January 2006 and January 2011, the WTI market switched from backwardation to contango only
twice-in January and March of2008-precisely when Defendants executed their scheme.
(Compl. '38.)
In April 2008, Wildgoose and Dyer attempted to repeat their scheme yet again
and acquired eight million barrels ofphysical WTI for May delivery. They also established a
sixteen million barrel long May/June calendar spread position. (Compl., 50.) On or about April
17,2008, Defendants received a subpoena from the Commission and learned they were under
investigation. (Compl., 51.) Defendants then abandoned their plan and did not sell their entire
physical position on the last day ofthe April cash window. (Compl., 51.) Following a three
year investigation, the Commission brought this action alleging manipulation and attempted
manipulation ofWTI commodities in violation ofsections 6(c), 6(d) and 9(a)(2) of the CEA, 7
U.S.C §§ 6(c), 6(d), and 13(a)(2).
DISCUSSION
1. Legal Standard
To survive a motion to dismiss, "a complaint must contain sufficient factual
matter, accepted as true, to 'state a claim to relief that is plausible on its face.'" ::..===-=-:....:.
Iqbal, 556 U.S. 662,678 (2009) (quoting Bell All. Corp. v. Twombly, 550 U.S. 544,570 (2007)).
To determine plausibility, courts follow a "two pronged-approach." Iqbal, 556 U.S. at 679.
"First, although a court must accept as true all of the allegations contained in a complaint, that
tenet is inapplicable to legal conclusions, and threadbare recitals ofthe elements of a cause of
action, supported by mere conclusory statements, do not suffice." Harris v. Mills, 572 F.3d 66,
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72 (2d Cir. 2009) (internal punctuation omitted). Second, a court detel1llines "whether the 'well
pleaded factual allegations,' assumed to be true, 'plausibly give rise to an entitlement to relief.'"
Hayden v. Paterson, 594 F.3d 150, 161 (2d Cir. 2010) (quoting Iqbal, 129 S. Ct. at 1950).
"The plausibility standard is not akin to a 'probability requirement,' but it asks for
more than a sheer possibility that a defendant has acted unlawfully." Iqbal, 556 U.S. at 678
(citation omitted). Nevertheless, "(t]he choice between two plausible inferences that may be
drawn from factual allegations is not a choice to be made by the court on a Rule 12(b)(6) motion.
Fact-specific questions cannot be resolved on the pleadings. A court ruling on such a motion
may not properly dismiss a complaint that states a plausible version of the events merely because
the court finds a different version more plausible." Anderson News, L.L.C. v. Am. Media, Inc.,
-- F.3d ----, 2012 WL 1085948, at *19 (2d CiT. 2012) (internal quotations omitted).
"Rather, in detel1llining whether a complaint states a claim that is plausible, the
court is required to proceed 'on the assumption that all the (factual] allegations in the complaint
are true.'" Anderson News, 2012 WL 1085948, at *19 (quoting Twombly, 550 U.S. at 555).
Even if the allegations seem doubtful, "Rule 12(b)(6) does not countenance ... dismissals based
on a judge's disbeliefof a complaint's factual allegations." Twombly, 550 U.S. at 556 (internal
quotation marks omitted). Because the plausibility requirement "does not impose a probability
requirement at the pleading stage, ... a well-pleaded complaint may proceed even if it strikes a
savvy judge that actual proofof the facts alleged is improbable, and that a recovery is very
remote and unlikely." Twombly. 550 U.S. at 556 (internal quotation marks omitted).
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II. Standing
A. Calendar Spread Trades
The Commission may only bring claims alleging violations of the CEA. See 7
U.S.c. § 13a-l(a); see also Dunn v. CFTC, 519 U.S. 465, 470 (1997) (dismissing the
Commission's action based on transactions in foreign currency that fell within a statutory
exemption to the CEA). Sections 6(c), 6(d), and 9(a)(2) of the CEA make it unlawful to
manipulate or attempt to manipulate the "market price of any commodity," whether in interstate
commerce or in a futures contract. Section la(4) defines "commodity" to include (a) goods and
articles as well as (b) services, rights, and interests that are the subject ofa futures contract. 7
U.S.C. § la(4).
Defendants argue that calendar spreads are exempt from regulation by the
Commission. They contend that a calendar spread is not a commodity because it is neither a
good or article, nor is it a service, right, or interest that is the subject of a futures contract.
Rather, they maintain that a spread is the differential between the prices of two commodities or
the prices of the same commodity in different time periods, and not the actual price of either of
those contracts. In support of their position, Defendants cite cases in which courts have rebuffed
the Commission's attempt to police transactions that fall outside ofthe definition ofa
commodity. For example, in Dunn, the Supreme Court rejected Commission's attempt to exert
jurisdiction over trading accounts in foreign currency options. See 519 U.S. at 470.
But the problem with Defendants' argument is that a spread is comprised of two
constituent commodities contracts. "A spread shall consist of the simultaneous purchase ofone
future month and sale of another future month at a stated price difference." See NYMEX Rule
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200.11; see also Shashaani v. Merrill Lynch, Pierce, Fenner & Smith. Inc., 1986 WL 66151, at
*3 (CFTC Sept. 22, 1986) ("[W]hen evidence establishes that the intention ofthe trader in
establishing individual positions was to profit from, and undertake the risk of, a change in the
relationship between the value ofthe contracts, the individual contracts [in a spread] are
constituent parts of a single transaction."). An increase or decrease in the price ofone of the legs
relative to the other impacts the overall price ofthe spread.
Thus, courts and the Commission have long recognized that the CEA applies to
calendar spreads. See, e.g., Great Western Food Distribs. V. Brannan, 201 F.2d 456,482-484
(7th Cir. 1953) (finding the intentional manipulation of the spread price of egg futures contracts
in violation of the CEA); In re Amaranth Natural Gas Commodities Litig., 612 F. Supp. 2d 376,
388 (S.D.N.Y. 2009) (denying motion to dismiss complaint alleging manipulation of spread
prices); In re Paul K. Kelly, No. 08-01,2007 WL 3130589, at *4 (CFTC Oct. 25, 2007) (finding
respondent engaged in conduct "with the intent to affect the price spread between the November
and December Unleaded Gasoline Futures Contracts"); In re Wayne L Elliott, et aI., No. 95-1,
1998 WL 39409, at *3, *12 (CFTC Feb. 3, 1998) (scrutinizing wheat futures spread trades).
If Defendants' narrow reading of the CEA were correct, traders would be free to
manipulate spread prices without regulatory oversight. But section 2(a)(1)(A) of the CEA
provides that the Commission "shall have exclusive jurisdiction ... with respect to ...
transactions involving contracts of sale ofa commodity for future delivery ... traded or executed
on a contract market ...subject to regulation by the Commission." 7 U.S.c. § 2(a)(1)(A). A
spread transaction is plainly a "transaction" involving contracts of sale of a commodity for future
delivery. See 7 U.S.C. § 6a(a) (2006) (defining spreads as "transactions" and authorizing the
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CFTC to impose or exempt such transactions from position limits); see also Dunn, 519 U.S. at
470 (interpreting the terms "transaction" and "involve" broadly in the context of the Treasury
Amendment to the CEA). Accordingly, this Court declines to be the first to hold that calendar
spreads fall outside the anti-manipulation provisions ofthe CEA.
B. Exemption under Section 2(g) of the Act
Defendants next argue that the CMA physical contracts establishing their long
position in WTI are excluded under section 2(g) of the CEA, and that this suit falls outside of the
Commission's regulatory authority. Section 2(g) provides:
No provision of this Act (other than section 5a (to the extent provided in
section 5a(g», 5b, 5d or 12(e)(2» shall apply to or govern any agreement,
contract, or transaction in a commodity other than an agricultural
commodity if the agreement, contract, or transaction is
(1) entered into only between persons that are eligible contract
participants at the time they enter into the agreement, contract, or
transaction;
(2) subject to individual negotiation by the parties; and
(3) not executed or traded on a trading facility.
7 U.S.C. § 2(g). Defendants contend that the CMA contracts were entered into by eligible
participants, that the contracts were individually negotiated, and that they were not executed on a
trading facility.
Defendants' arguments fail for two reasons. First, the Commission alleges that
the CMA contracts are standardized, and that all material terms, except for price and volume, are
not subject to individual negotiation, and that they were executed on a trading facility. (CompI. ~
19.) These allegations are fact sensitive and cannot be resolved on a motion to dismiss. See
Anderson News, 2012 WL 1085948, at *19 ("[I]n determining whether a complaint states a
claim that is plausible, the court is required to proceed on the assumption that all the [factual]
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allegations in the complaint are true.") (internal quotations omitted). In addition, the
Commission alleges that the CMA contracts at issue are indistinguishable from CMA contracts
traded on electronic trading facilities. (Compi. ~ 19.) Because a trading facility does not
provide the opportunity for traders to negotiate the terms of transactions the CMAs at issue here
are not subject to individual negotiation. See CFTC v. Co Petro, 680 F.2d 573,580 (9th Cir.
1982) (finding that futures contracts traded on designated markets were standardized except with
respect to price).
A negotiable price does not alone mean that a contract is "subject to individual
negotiation" under section 2(g). See Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Curran, 456
U.S. 353, 358 (1982) (explaining that the only variable in a standardized futures contract is the
price). Nevertheless, Defendants maintain that even if the material terms ofCMAs are
standardized, a court may still consider the CMAs subject to negotiation:
[A] contract can be subject to negotiation, even if some of the terms are
predetermined .... Most contracts for delivery of a commodity will have
some of the terms predetermined. Once a party has decided which
commodity it would like to purchase, the quality specifications for that
particular quantity as well as the place for delivery will often already be
set. The fact that those terms are the same in any contract for a given
commodity cannot make a contract ineligible for the protection of section
2(g). If it did, the exception would be so narrow that it would not bring
the desired certainty to the market.
United States v. Radley, 659 F. Supp. 2d 803, 811 (S.D. Tex. 2009).
But Radley is readily distinguishable because the parties to the propane contracts
at issue in that case individually negotiated the financial, credit, and legal terms of the contracts.
Radley, 659 F. Supp. 2d at 811. Here, unlike in Radley, there is no allegation that the parties
individually negotiated financial, credit, and legal terms. Instead, the Commission avers that
prior to engaging in any CMA transactions, physical market participants qualify for such
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transactions by meeting certain financial and credit-related requirements. After parties
consummate a CMA transaction, they post a standardized stand-by letter of credit from a third
party bank for 105% of the contract's value. The amount and timing of the letter of credit are not
subject to individual negotiation. (Compi. ~ 19.) These blanket tenns are reached as a one-time
prerequisite to trading, and are not negotiated for each individual transaction. This degree of
unifonnity was absent in the Radley contracts.
The Commission also alleges that Defendants, acting through third parties,
executed CMA contracts on HoustonStreet, an electronic trading facility. While Defendants
counter that the Commission fabricated this allegation and attach a sampling of CMA contracts
to their opposition, this factual dispute cannot be resolved at the pleading stage. See Anderson
News, 2012 WL 1085948, at *19
Defendants' argument also fails because even if the CMA contracts were exempt
under section 2(g), the Complaint alleges manipulation of the calendar spread contracts. And
there is no contention that calendar spreads or futures contracts are exempt under section 2(g).
Thus, even if section 2(g) immunizes the manipulation of the physical transactions in question,
the CFTC has the authority to prevent Defendants' manipulation of the spread prices of futures
contracts.
Defendants' interpretation excludes from the CEA any course ofconduct that
happens to involve transactions covered by section 2(g). But such a broad reading frustrates the
CEA's primary purpose ofpreventing and deterring price manipulations. And it is this Court's
duty "to give harmonious operation and effect to all statutory provisions if possible, absent some
explicit indication of legislative intent derived from either the words of the statute or its
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legislative history." Yiu Sing Chun v. Sava, 708 F.2d 869,874 (2d Cir. 1983). Section 2(g) is a
limited exception to a remedial statute that exempts only specified transactions from regulation;
as such, it "should be narrowed and limited to effect the remedy intended." Piedmont & N. Ry.
Co. v. Interstate Commerce Comm'n, 286 U.S. 299, 311-12 (1932). Accordingly, because
section 2(g) does not cover calendar spread contracts, Defendants' motion to dismiss on that
ground is denied.
III. Market Manipulation
To state a claim for manipulation, the CFTC must plead that (1) the defendant
possessed the ability to influence market prices; (2) an artificial price existed; (3) the defendant
caused the artificial price; and (4) the defendant intended to do so. See In re Cox, et anon., No.
75-16,1987 WL 106879, at *4 (CFTC July 15, 1987); see also In re Amaranth Natural Gas
Commodities Litig., 587 F. Supp. 2d 513,531 (S.D.N.Y. 2008).
A. Applicable Legal Standard
Defendants argue that all manipulation claims necessarily sound in fraud and
must therefore satisfy the heightened pleading requirements ofFederal Rule of Civil Procedure
9(b). But the weight of authority rejects this bright line rule in favor of a case-by-case
examination into whether the allegations do, in fact, "sound in fraud." In re Crude Oil
Commodity Litig., No. 06 Civ. 6677 (NRB), 2007 WL 1946553, at *5 (S.D.N.Y. June 28,2007).
Most courts in this district apply this case-by-case approach to determine whether
Rule 9(b) applies to claims of manipulation under the CEA. "The CEA has a separate anti-fraud
section apart from the anti-manipulation provision[.] When the statute distinguishes fraud and
manipulation by addressing them in different provisions, it would be redundant to construe
manipulation to require a fraud element." CFTC v. Amaranth Advisors LLC, 554 F. Supp. 2d
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523,534 (S.D.N.Y. 2008) (citation omitted) (applying Rule 8(a) where allegations of attempted
manipulation were not based on misleading statements or omissions, but on a particular trading
strategy); see also In re Crude Oil Commodity Litig., 2007 WL 1946553, at *4-5 (finding that
Rule 9(b) applied to claims that defendants made false and misleading statements to support their
manipulation scheme); In re Natural Gas Commodity Litig., 358 F. Supp. 2d 336, 343 (S.D.N.Y.
2005) (applying Rule 9(b) where allegations involved the dissemination of misleading
information and false reporting). While some courts have held that all market manipUlation
claims trigger Rule 9(b), see In re Amaranth Natural Gas Commodities Litig., 587 F. SUpp. 2d at
535 (citing ATSI 5 Communications, Inc. v. Shaar Fund, Ltd., 493 F.3d 87, 101 (2d Cir. 2007)
(interpreting Securities Exchange Act of 1934)), the majority follows the more nuanced
approach.
Adopting this case-by-case approach, this Court finds that the alleged scheme is
based on the abuse of market power, rather than fraud, and Rule 9(b)'s heightened pleading
standard therefore does not apply. The Commission describes a scheme where Defendants
acquired a dominant position in the physical WTI market, held that position through the futures
expiry and the commencement of the cash window, and intended to apply upward pressure on
WTI spread prices. (Compl. ~~ 25,27-29,42,43,50.) The Commission does not allege that
Defendants acquired and held their dominant position in a deceitful or misleading manner.
Rather, Defendants intended that WTI spread prices would be driven upward, thus increasing the
value of their long WTI derivatives position. (Compl. ~~ 25,32,33,44,45.) Similarly, the
Commission does not allege that Defendants sold their position in the cash window in a
fraudulent manner. Instead, the Commission's theory is that Defendants intended the market to
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take notice of and react to the large quantity ofphysical WTI they held until the last day of the
cash window. (Compi. ~~ 36-40,46,47.) The Commission alleges that after Defendants
flooded the WTI market, the price ofWTI calendar spread prices dropped precipitously, thereby
increasing the value of Defendants' short position. (Compi. ~~ 34,35,47.) Cf. In re Crude Oil
Commodity Litig., 2007 WL 1946553, at *4-5 (finding manipulation sounded in fraud where
alleged conduct included making false and misleading statements to investors and regulators).
This scheme was not the product ofmisstatements or material omissions; it was based on
Defendants' abuse of a dominant market position. Accordingly, Rule 8, and not Rule 9, governs
the Complaint.
B. Ability to Influence Prices
Because the Commission alleges that Defendants manipulated the market through
a dominant position, it must plead facts showing that Defendants held a controlling long position
in the market in order to demonstrate the requisite ability to direct the market price. See Frey v.
CFTC, 931 F.2d 1171, 1175 (7th Cir. 1991). Market dominance depends on the deliverable
supply ofa commodity. See Apex Oil Co. v. DiMauro, 713 F. Supp. 587, 602 (S.D.N.Y. 1989);
see also In re Cox. [1982-1984 Transfer Binder] Comm. Fut. L. Rep. (CCH) ~ 21,767, at 27,075
(CFTC Jan. 3, 1983). The deliverable supply of a commodity is supply that is readily available
for delivery at a specified time, either because it is stored locally or because it is located within a
deliverable distance from the market. See Cargill Inc. v. Hardin, 452 F.2d 1154, 1165 (8th Cir.
1971).
But the ability to influence prices can manifest itself in various ways, including
the exercise of market power, Cargill, 452 F.2d at 1164-65, or the exacerbation of a congested
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market, Abrams, 1995 WL 455796, at *6. Whether Defendants exercised market power is fact
intense, and courts reserve dismissal on this issue for pleadings containing only bare and
conclusoryallegations. See, e.g., Crosswood Magazine Inc. v. Times Books, No. 96 Civ. 4550
(SJ), 1997 WL 227998, at *2 (E.D.N.Y. May 5, 1997) ("Plaintiffs ... have pleaded no facts
indicating that [defendant] has the power to fix prices or exclude competition in the alleged
relevant market."); Telectronics Proprietary, Ltd. v. Medtronic, Inc., 687 F. Supp. 832,838
(S.D.N.Y. 1988) (dismissing complaint which baldly averred that defendants had "monopolized
and continue to monopolize the relevant markets") (internal quotations omitted).
Here, the Commission sufficiently pleads Defendants' ability to affect prices.
The Commission alleges that, during the relevant period, supplies ofWTI at Cushing were tight,
and the market was in backwardation. (Compi. ~~ 23,27.) The Commission further alleges that
Defendants exacerbated that condition by accumulating and holding a dominant position in the
physical WTI market, with a position of4.6 million barrels in January and 6.3 million barrels in
March. (Compi. ~~ 28, 43.) Most importantly, the Commission alleges that Defendants' sell-off
caused the relevant cash/futures prices to flip from backwardation to contango. (Compi. ~~ 38,
48.)
Despite these allegations, Defendants argue that the Commission fails to allege a
dominant position because it does not plead the actual supply and demand amounts ofWTI
available at Cushing, does not allege that Defendants knew those amounts, and does not allege
that Defendants' estimates of the supply were accurate. But Defendants demand far more
information than is required by Rule 8. The allegation that Defendants' sell-off caused or at least
contributed to the market moving from backwardation to contango is sufficient. By analogy to
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antitrust law, where an element ofproof involves the ability to affect prices, a complaint is
sufficient if it alleges "direct measurements of a defendant's ability to control prices [ . r Pepsi
Inc. v. Coca-Cola, 315 F.3d 101, 108 (2d Cir. 2002). Defendants' ability to change the market
from backwardation to contango is similarly a "direct measure" ofcontrol and demonstrates
ability to influence the market.
Defendants next argue that to hold a dominant position that can influence market
prices of futures contracts, the manipulator must have a dominant position in both the cash and
futures markets. See, e.g., Apex Oil, 713 F. Supp. at 601-02. However, Defendants
mischaracterize the Complaint as alleging a "squeeze" of the futures market. The Complaint
does not allege that Defendants sought to affect the spread prices by dominating the long futures
market. Rather, the Commission alleges that Defendants established their long futures positions
to profit from the artificial spread prices in crude oil futures caused by their conduct in the
physical market. Thus, cases requiring a dominant position in both the cash and futures market
to plead a squeeze are inapposite. C£ Apex Oil, 713 F. Supp. at 602 (requiring dominance in
both the cash and futures markets in an alleged squeeze of the futures market).
Finally, Defendants claim they could not have had a dominant position in the
market because they sold their physical contracts at a loss during the cash window. But this
argument similarly misconstrues the theory undergirding the Complaint. The Commission
alleges that Defendants intentionally dumped their long physical position in a concentrated
period oftime, putting downward pressure on the near-term price ofWTL (Compi. ~~ 30,36-40,
46-48.) Further, the Commission alleges that Defendants established a short position in the
futures market in anticipation of the price decrease. (Compi. ~ 3,25,34,35,45.) The
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Commission does not allege that Defendants cornered the market and could dictate the
commodity price when covering their shorts. Accordingly, the allegations regarding the sell-offs
at lower prices do not "undercut the theory that [Defendants] had the ability to influence" prices.
(Defs. Br. at 21-22.) In any event, this Court must draw all inferences in the Commission's favor
on a motion to dismiss.
C. Artificial Price
To plead manipulation, a plaintiff must allege the existence ofan artificial price in
the commodity at issue. An artificial price is a price that "does not reflect basic forces of supply
and demand." In re Soybean Futures Litig., 892 F. SUpp. 1025, 1044 (N.D. Ill. 1995); see also
Cargill, 452 F.2d at 1163 ("The aim must be ... to discover whether conduct has been
intentionally engaged in which has resulted in a price which does not reflect the basic forces of
supply and demand."). "[M]arket manipUlation in its various manifestations is implicitly an
artificial stimulus applied to (or at times a brake on) market prices, a force which distorts those
prices, a factor which prevents the determination of those prices by free competition alone." In
re Kosuga, 19 Agric. Dec. 603, 618 nA (U.S.D.A. 1960) (quoting United States v. So cony
Vacuum Oil Co., 310 U.S. 150,223 (1940)) (internal quotation marks omitted).
The Commission alleges that the prices ofWTI calendar spread contracts were
artificial on the last four days of trading in February and April 2008 futures contracts as well the
first two days of the January and March cash windows. Further, the Commission alleges that
these prices did not reflect the legitimate forces of supply and demand because they resulted, at
least in part, from Defendants' price-distorting conduct. (CompI." 25,27-30,42,43,45.)
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Defendants attach to their motion the daily prices for the relevant calendar spread
and futures contracts from January 1 through Apri12008. (See Declaration of Timothy J. Carey,
dated September 29,2011, Ex. A: January through April 2008, Daily NYMEX Crude Oil Futures
and Inter-Month Spread Prices ("Daily NYMEX Price Sheets")). "[T]he district court may take
judicial notice ofwell publicized stock prices without converting the motion to dismiss into a
motion for summary judgment." Ganino v. Citizens Utils. Co., 228 F.3d 154, 166 n.8 (2nd Cir.
2000). Based on that data, Defendants argue that the Commission's theory ofmanipulation and
artificial price is entirely implausible. Specifically, Defendants observe that, with few
exceptions, the calendar spread prices were higher on days preceding those on which the
Commission claims the prices were artificial. According to Defendants, a price cannot be
artificially high if it is lower than the non-artificial price immediately preceding it.
But a price may be artificial if it is higher than it would have been absent
Defendants' conduct. See In re Cox, 1987 WL 106879, at *9 (recognizing that "the prospective
behavior of a 'normal' market is not necessarily bounded by the market's historical
experiences"). To determine an artificial price one must look to "the broadest possible range of
relevant cash market transactions" and proofof artificiality is not found solely in comparing one
day's price to another. In re Cox, 1987 WL 106879, at *10 ("Of course, such prices have general
relevance to the inquiry. At the same time, they are not dispositive in and of themselves.").
Rather, determining artificiality involves an analysis of the suspected price in context of the
aggregate supply and demand factors. See Great Western, 201 F.2d at 482; see also In re Ind.
Farm Bureau Coop. Ass'n, et anon., No. 75-14, 1982 WL 30249, at 35 n.2 (CFTC Dec. 17,
1982) (Chairman Johnson, concurring).
Case 1:11-cv-03543-WHP Document 51 Filed 04/26/12 Page 21 of 29
Despite the prices reflected in the Daily NYMEX Price Sheets, the Complaint
describes a rare phenomenon that occurred as a consequence ofDefendants' alleged conduct:
the market's abrupt shift from backwardation to contango. (Compl.,-r,-r 38, 48.) Before
Defendants dumped their physical position, the market was in a state ofbackwardation,
evidencing a premium for nearby crude relative to the next month out. When Defendants sold
their physical position on the last day of the cash window, the market heaved from
backwardation to contango. That dislocation evidenced the market's surprise at a sudden and
unanticipated flood ofnear-term supply. In an instant, expensive near term crude became less
valuable than crude deliverable in later months and long spread contracts lost nearly half of their
value. These allegations make it at least plausible that the calendar spread prices did not reflect
the basic forces of supply and demand.2 Anderson News, 2012 WL 1085948, at *19 (the district
court may not select among plausible explanations). And at this preliminary stage, this Court
assumes the allegations are true, and does not consider whether they are probable in light of the
pricing data contained within the Daily NYMEX Price Sheets.
D. Causation
Many of the allegations addressing Defendants' ability to affect prices also relate
to causation. See In re Soybean Futures Litig., 892 F. Supp. at 1045 (noting that the traditional
2 This Court declines to follow Radley to the extent that it found the CEA unconstitutionally
vague on this issue. See Radley, 659 F. SUpp. 2d at 815-16 (finding that, absent accusations of
false and misleading statements, defendants' lawful transactions were necessarily part of the
legitimate forces of supply and demand and therefore could not contribute to an artificial price).
Radley contradicts the established principle that the CEA reaches such well-recognized
manipulations as intentional squeezes. See Cargill, 452 F.2d at 1161-63 ("We think the test of
manipUlation must largely be a practical one if the purposes of the Commodity Exchange Act are
to be accomplished. The methods and techniques ofmanipulation are limited only by the
ingenuity of man.") Thus, Radley is a bridge too far.
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four elements ofproof in a manipulation case are "occasionally modified to fit the specific facts
ofa particular case, and there is some question to what extent these elements should be treated as
separate and independent or whether they are factually and legally interdependent.").
Specifically, the Commission alleges that Defendants' sell-off caused the cash/nearby futures
relationship to switch from backwardation to contango in a short period of time. (CompI. ~~ 38,
48.) Such volatility demonstrates that the market reacted sharply to the new information that
additional barrels were available. In short, but for Defendants' withholding of its physical
position, the market would have taken account of the deliverable supply, and the spread price
would not have been artificially elevated.
In addition, the Commission alleges that Wildgoose and Dyer--experienced
crude oil traders-believed that they affected the WTI spread prices. On January 28,2008,
Wild goose observed that their trading affected the price spreads and that it had "the desired
effect" on the March/April spread. (CompI. ~ 40.) On March 25, 2008, Wildgoose again
observed with respect to their strategy that the "spreads came offwith may/june but not as much
as hoped." (CompI. ~ 46.)
Defendants assert that the Commission fails to allege that Defendants' conduct
was the proximate cause of the artificial prices and that the Commission fails to describe the
means by which Defendants widened the spread prices. But, "[i]t is enough, for purposes of a
finding ofmanipulation in violation of sections 6(b) and 9[(a)(2)] ofthe [CEA] that respondents'
action contributed to the price [movement]." In re Kosug~ 19 Agric. Dec. at 624; see also In re
Cox, 1987 WL 106879, at *12 (holding that a charge ofmanipulation can be sustained where
respondents' acts are a proximate cause of the artificial price). Moreover, the Commission
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alleges that Defendants refrained from selling their long physical position in a tight market,
leading other market participants to conclude that the supplies associated with such a position
were committed to commercial use and therefore unavailable. (Compi. ~ 25.) That conduct, the
Commission alleges, sent pricing signals to the futures market, causing the front month of the
relevant calendar spreads to increase in value relative to the next month. (Compi. ~ 25.) These
non-conc1usory allegations are sufficient to withstand a motion to dismiss.
Finally, Defendants contend that the allegations of causation are implausible
because the physical and futures market converged during the relevant periods. As a result,
Defendants claim that the upward price effect ofholding a 4.6 million-barrel physical position
would have been neutralized by selling a 13.6 million-barrel long futures spread position.
Whether Defendants' physical position was neutralized is a question of fact that cannot be
resolved on a motion to dismiss. See Anderson News, 2012 WL 1085948, at *19.
E. Scienter
Defendants argue that the Commission fails to plead the required intent to
manipulate. To meet the specific intent element of a claim for manipulation or attempted
manipUlation of a futures contract, the Commission must plead that Defendants "acted (or failed
to act) with the purpose or conscious object of causing or effecting a price or price trend in the
market that did not reflect the legitimate forces of supply and demand." In re Energy Transfer
Partners Natural Gas Litig., No. 4:07-cv-3349 (KPE), 2009 WL 2633781, at *5 (S.D. Tex. Aug.
26, 2009). Defendants argue that the allegations in the Complaint merely express an expectation
of profits and inevitable market movement, which do not constitute intent to manipUlate. See
Hershey v. Energy Transfer Partners, L.P .. 610 F.3d 239,248 (5th Cir. 2010); In re Crude Oil
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Commodity Litig., 2007 WL 1946553, at *8 ("Such a generalized motive, one which could be
imputed to any corporation with a large market presence in any commodity market, is
insufficient to show intent.").
However, even under the more stringent pleading requirements of Rule 9(b),
which do not apply here, plaintiffs are not expected to plead a defendant's state of mind
specifically. See Fed. R. Civ. P. 9(b) ("Malice, intent, knowledge, and other conditions of a
person's mind may be alleged generally."); see also In re Crude Oil Commodity Litig., 2007 WL
1946553, at *8. Because "proofofintent will most often be circumstantial in nature,
manipulative intent must normally be shown inferentially from the conduct of the accused." Ind.
Farm Bureau, 1982 WL 30249, at *6; see also In re Hohenberg Bros. et anon., No. 75-4, 1977
WL 13562, at *7 (CFTC Feb. 18, 1977) ("Intent is a subjective factor and since it is impossible
to discover an attempted manipulator's state ofmind, intent must ofnecessity be inferred from
the objective facts and may, of course, be inferred by a person's actions and the totality of the
circumstances. ").
In the context of a squeeze, manipulative intent may be inferred "where, once the
congested situation becomes known ... the [defendant] exacerbates the situation by, for
example, intentionally decreasing the cash supply or increasing his long in the futures market."
Ind. Farm Bureau, 1982 WL 30249, at *10 n.12; see also In re Abrams et aI., No. 88-10, 1995
WL 455791, at *6 (CFTC July 31, 1995) ("[E]ven if a dominant long played no role in the
creation of a congested market, he has a duty to avoid conduct that exacerbates the situation.").
By analogy, the Commission alleges that Wildgoose and Dyer were aware of a tight physical
market at Cushing, (CompL ~~ 23,27), yet they continued to build their physical position and
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their long futures position leading up to the expiry of the futures contract. (Compl. ~I~ 28,29,37,
43,46.) The Commission contends that this accumulation and holding of the physical WTI
position exacerbated an already tight Cushing market. (Compl. ~~ 3, 42.) Although the
Commission does not allege a squeeze or a congested market,3 the reasoning in such decisions
applies equally here. The Commission alleges that Defendants did not simply "seek the best
price from an existing situation," but exacerbated the tightness in the physical supply. Ind. Farm
Bureau, 1982 WL 30249, at *10. Thus, manipUlative intent can be inferred from Defendants'
trading activity following their awareness of the tight market.
In addition, Defendants' intent to manipulate the futures price spreads can be
inferred from their alleged conduct and contemporaneous communications. First, the Complaint
sets forth multiple communications between Wildgoose and Dyer as they planned and executed
their strategy. (Compl. ~~ 24,27,28,31,36,40,43,46.) These statements can be construed as
more than mere statements of expectation or general profit motive. They were, for example,
forecasts of Arcadia's activity, and included Wildgoose's observation that their activity had, at
least in part, "the desired effect." (Compl. ~ 40.) Second, the Complaint sets forth Defendants'
efforts to acquire a dominant position in an already tight market, and to surprise the market.
(Compl. ~I~ 25,28-30,32-38,42-44,48, 50.) Third, Defendants took financial positions based on
the anticipated effect of their building, holding, and dumping their physical position. (Compl. ~~
25, 26, 31, 32, 33, 34, 35, 39.) These allegations suffice to plead Defendants' manipulative
intent.
3 A congested market exists only when deliverable supply is insufficient to meet the delivery
obligations of the futures contract. In re Cox, 1987 WL 106879, at *8 ("market congestion
cannot exist when deliverable supplies are adequate").
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IV. Attempted Manipulation
Defendants contend that the Complaint fails to state a claim for attempted
manipulation. To prove an attempted manipulation claim, the CFTC must establish: (1) an intent
to affect the market price of a commodity; and (2) some overt act in furtherance of that intent.
See Hohenberg Bros., 1977 WL 13562, at *7. The intent requirement is the same for both
manipulation and attempted manipulation claims. See Hohenberg Bros., 1977 WL 13562, at *7;
Ind. Farm Bureau, 1982 WL 30249, at *5.
The Commission alleges attempted manipulation in the alternative for all of
Defendants' conduct in January and March 2008. (Compi. ~~ 49-51,58-62.) The facts alleged
regarding their intent and overt acts in these months are set forth in the earlier discussion
regarding manipulation. In addition, the Commission alleges that Defendants attempted to
manipulate the May/June 2008 NYMEX WTI calendar spread during the month of April 2008.
(Compi. ~~ 49-51,58-62.) In support of those allegations, the Commission avers that, in April
2008, Defendants began to repeat the pattern of conduct they had executed in January and
March-they built a substantial cash position and a substantial long calendar spread position in
the futures market. (Compi. ~ 50.) Consequently, the factual allegations establishing intent in
relation to Defendants' conduct in prior months apply equally to their conduct in April. See,
~ United States v. Tann, 532 F.3d 868, 873 (D.C. Cir. 2008) (finding jury could infer intent
from a pattern ofbehavior consisting of two prior similar incidents).
Finally, the Commission alleges that Wildgoose and Dyer engaged in an overt act
in April 2008. Specifically, as they had in January and March, Dyer and Wildgoose once again
built a substantial physical position, accumulating nearly 8 million barrels. (Compi. ~ 50.) They
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Case 1:11-cv-03543-WHP Document 51 Filed 04/26/12 Page 27 of 29
also established a long May/June 2008 WTI calendar spread position ofnearly sixteen million
barrels, from which they intended to profit as a result of their physical trading, as they had in
January and March. (Compl. ~ 50.) Therefore, the Commission plausibly alleges that Defendants
attempted to manipulate the price of the May/June 2008 NYMEX WTI calendar spread in April
2008. Accordingly, Defendants' motion to dismiss this claim is denied.
CONCLUSION
For the foregoing reasons, Defendants' motion to dismiss is denied. The Clerk of
the Court is directed to terminate the motion pending at ECF No. 40.
Dated: April 26, 2012
New York, New York SO ORDERED:
""J ~ '\>~---WILLIAM H. PAULEY III \
U.S.D.J.
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Case 1:11-cv-03543-WHP Document 51 Filed 04/26/12 Page 28 of 29
Counsel ofRecord:
Gregory Scopino, Esq.
Christine M. Ryall, Esq.
Paul G. Hayeck, Esq.
Joan Manley, Esq.
U.S. Commodity Futures Trading Commission
1155 21st Street, N.W.
Washington, DC 20581
Counsel for Plaintiff
Timothy J. Carey, Esq.
Elizabeth M. Bradshaw, Esq.
Brigitte T. Kocheny, Esq.
Dewey & LeBoeuf LLP
180 North Stetson, Suite 3700
Chicago, IL 60601-6710
William G. Primps, Esq.
Dewey & LeBoeuf LLP
1301 Avenue of the Americas
New York, NY 10019
Fred F. Fielding, Esq.
Mark R. Haskell, Esq.
Morgan, Lewis & Bockius LLP
1111 Pennsylvania Avenue, NW
Washington, DC 20004
Counsel for Defendants
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