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U.S. Commodity Futures Trading Commission v. Southern Trust Metals, Inc.

United States Court of Appeals, Eleventh Circuit

January 22, 2018

U.S. COMMODITY FUTURES TRADING COMMISSION, Plaintiff- Appellee,
v.
SOUTHERN TRUST METALS, INC., LORELEY OVERSEAS CORPORATION, ROBERT ESCOBIO, Defendants - Appellants.

         Appeal from the United States District Court for the Southern District of Florida D.C. Docket No. 1:14-cv-22739-JLK

          Before JORDAN, HULL, and GILMAN, [*] Circuit Judges.

          GILMAN, CIRCUIT JUDGE

         This is a commodities-fraud case. The U.S. Commodity Futures Trading Commission (CFTC) began investigating Southern Trust Metals, Inc., Loreley Overseas Corporation, and Robert Escobio (collectively, the Defendants) in response to an investor's complaint. That complaint also prompted the National Futures Association (NFA)-a private, self-regulatory organization for the futures industry-to open an investigation, which proceeded in tandem with the CFTC's. The NFA's investigation ended in a settlement. Afterwards, the CFTC filed this lawsuit, alleging that the Defendants violated the Commodities Exchange Act (CEA) when they failed to register as futures commission merchants, transacted the purchase and sale of contracts for the future delivery of a commodity (futures) outside of a registered exchange, and promised to invest customers' money in precious metals (metals) but instead invested the funds in futures. The district court, after a bench trial, entered judgment for the CFTC on all claims.

         For the reasons set forth below, we AFFIRM the judgment of the district court except as to the restitution award for the group of investors whose losses were associated solely with the registration violations. As to that portion of the restitution award, we VACATE the judgment and REMAND with instructions to consider other equitable remedies.

         I. BACKGROUND

         A. Factual background

         Escobio is the Chief Executive Officer (CEO) and largest shareholder of the Southern Trust Securities Holding Corporation (Holding Corporation). The Holding Corporation owns Loreley, a British Virgin Islands corporation, which in turn owns Southern Trust, a Florida corporation. Escobio formed Southern Trust to provide commodities investment services, and he serves as its director and CEO.

         Southern Trust represented that it was able to facilitate customers' investment in precious metals. Its website and brochure stated that customers "can take physical possession of [their] metals in New York or London." The company's brokers told customers much the same story-that the customers were purchasing metals stored in places like New York, London, and Hong Kong. At least one of Southern Trust's brokers told customers that Southern Trust charged "storage fees" for the metals. To open a trading account at Southern Trust, customers completed an account-opening form containing language that "[p]hysical precious metals can either be delivered directly to the customer's designated point of delivery or to a recognized depository, which provides insured non-segregated storage." Southern Trust also represented that it could loan customers money to purchase metals.

         But Southern Trust did not in fact deal in metals; it dealt only in contracts for the future delivery of metals. Such contracts are a type of derivative investment. Southern Trust, however, was not registered with the CFTC as a futures commission merchant and thus could not trade futures on registered exchanges. So Escobio, through Loreley, engaged two foreign brokerages- Berkeley Futures Limited and Hantec Markets Limited-to handle the transactions.

         Escobio opened trading accounts at Berkeley and Hantec in Loreley's name, not in the names of Southern Trust's customers. The accounts were numbered, and Southern Trust maintained records linking its customers to the specific numbered accounts.

         Opening these accounts required Escobio to review documents describing Berkeley's and Hantec's investment products. One of Hantec's account-opening documents, the "Product Disclosure Statement, " explains that "bullion trading" "operates in the same manner as foreign exchange trading" in that "[w]hat you are actually buying is a [c]ontract" that "derives its value from" a "physical underlying asset" such as "Loco London Gold." That document's "Glossary" defines "Loco London Gold" to "mean[] not only that the gold is held in London but also that the price quoted is for delivery there." Elsewhere, the document explains that in "bullion trading, " "[Hantec] do[es] not deliver the physical underlying assets (i.e. gold or silver) to you, and you have no legal right to it." The Berkeley documents similarly confirm that the account holder intends "to speculate in derivative products." None of the account-opening documents mention making loans for the purchase of metals.

         After setting up the trading accounts at Berkeley and Hantec, Southern Trust sent its customers' money to Loreley, which in turn invested the funds, through Berkeley and Hantec, in futures. Escobio received monthly account statements showing that all investments were in futures, not metals. Those statements do not reflect any loans to Southern Trust's customers.

         Southern Trust never informed its customers that their money was being transferred to Loreley, Berkeley, or Hantec. Nor did it inform customers who wished to invest in metals (the group comprising the vast majority of its customers) that their money was instead being invested in futures. Southern Trust still charged those customers interest on fictitious loans, which it falsely told them were made in order to facilitate their investment in metals.

         After receiving a complaint from one of Southern Trust's customers, the NFA opened an investigation. Around the same time, Escobio asked Berkeley and Hantec about the nature of Loreley's investments. Escobio contended at trial that he did so simply to confirm his understanding that Loreley was investing in metals. The CFTC maintained, however, and the district court ultimately concluded, that Escobio had done so in anticipation of litigation, and that he had carefully framed his inquiries to elicit responses that would support the defense he later asserted- that he did not know that his customers' money was being invested in futures.

         In response to Escobio's inquiry, Hantec's CEO said: "I can confirm that you hold accounts with us that only trade Silver Bullion." Hantec's CEO clarified at his deposition, however, that "Silver Bullion" is industry lingo for contracts for the future delivery of silver and that he could not have intended any other meaning because trading in "physical metals is not something that Hantec does."

         A Berkeley employee similarly responded to Escobio's inquiry, writing that "all Loreley accounts with the prefix XILOR were silver bullion accounts" that "only traded in OTC [off-exchange] silver bullion and never traded any futures contracts." But Berkeley's CEO testified at his deposition that Berkeley had never delivered metals to any of its customers, including Loreley, nor stored any metals on their behalf. He also testified that, despite Escobio's contrary assertion, he never told Escobio that the trades Berkeley handled for Loreley would lead to the storage of metals.

         None of Southern Trust's investments led to the delivery of metals. Hantec's CEO testified that he told Escobio that Hantec could arrange for the delivery of metals, but that he did so only in response to a hypothetical question. According to Hantec's CEO, Escobio inquired in the abstract about Hantec's ability to arrange delivery: "It's an inquiry from a client. Robert [Escobio] did not tell me, 'I would like to deliver metal.' He asked me, 'If I wanted to deliver a metal, can you arrange it?' and I said, 'Let me go find out.'" Hantec's CEO continued: "I talked to . . . one of my contacts at Standard Chartered bank who gave me information and I went back to Robert and explained" that Hantec could arrange delivery. This response was memorialized in a letter to Escobio, stating that "any Gold or Silver you purchase from us is held for your account and upon full payment we are able to arrange delivery for you when requested." But the Defendants never asked Hantec to arrange delivery, and no delivery ever occurred.

         The NFA's investigation ended in a settlement. Although the NFA's and the CFTC's investigators had cooperated with each other, their investigations were independent. The Defendants' settlement agreement with the NFA therefore does not mention the CFTC or the CFTC's investigation.

         As the CFTC's investigation moved forward, the Defendants continued to produce documents in response to its requests. The Defendants' lawyers knew at the time of the NFA settlement that the CFTC might bring its own enforcement action, but they did not suggest to the CFTC or to anyone else that such an action would violate their settlement agreement with the NFA.

         B. Procedural background

         In July 2014, the CFTC filed its complaint, seeking equitable relief and penalties under the CEA. The complaint alleges that the Defendants engaged in two illegal schemes, which we will refer to as the "unregistered-futures scheme" and the "leveraged-metals scheme."

         As to the unregistered-futures scheme, the complaint alleges that, even though the Defendants were not registered as futures commission merchants, they accepted money from customers who wished to invest in futures. Because the Defendants were unregistered, moreover, they could not trade futures on a registered exchange. They therefore sought to trade indirectly, through intermediaries. To that end, the Defendants funneled the customers' money through Loreley to foreign brokerage firms-Berkeley and Hantec-licensed to trade futures. Those brokerage firms made the actual investments.

         As to the leveraged-metals scheme, the complaint alleges that the Defendants accepted money from customers who wished to invest in metals with borrowed money. But instead of issuing loans to those customers and investing their money in metals, the Defendants took the customers' money and invested it in futures. No loans existed, but the Defendants charged loan interest anyway.

         At the summary-judgment stage of the case, the parties filed dueling motions. The district court granted the CFTC's motion in part, holding that the Defendants had conducted off-exchange transactions and had failed to register as futures commission merchants. It denied the Defendants' motion in full, rejecting their affirmative defenses that (1) their settlement with the FTA equitably estopped the CFTC from bringing suit, and (2) they actually delivered metals so as to bring their transactions within an exception to the CEA's registration requirements.

         The CFTC's fraud claim then proceeded to trial. After a bench trial, the district court found that the Defendants had engaged in fraud, ordered them to pay restitution in the full amount of the customers' losses, and imposed fines. The court also permanently enjoined the Defendants from employment in the commodities-trading industry. On appeal, the Defendants challenge the court's rulings both on summary judgment and at trial.

         II. ANALYSIS

         A. ...


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