Back in November, when we last recounted the story of Michael Coscia, who was the first ever criminally convicted spoofer, we said that HFTs (and Citadel) have officially issued a warning "Outsmart Us, And You Go To Jail."
Here is a quick reminder for those who are unfamiliar with Mike Coscia's story:
He grew up in Brooklyn. His father was a subway token clerk and he was the first in his family to go to college. During the day he was a mail carrier and went to Brooklyn College at night and graduated with a business management degree in 1986. He has been married for 25 years and his son attends the University of Michigan.
He testified that he first became interested in the markets after his father bet on a horse race and turned a $2 bet into a $55,000 winner. His father put the profit in the market and Coscia tracked his father’s investments, sparking his interest in finance. Coscia had a cousin who worked on the floor of the New York Mercantile Exchange and that’s how he got started on the floor, beginning as a clerk. He was a trader for 27 years.
What happened then is the same thing that happened with the other two notorious "spoofers" who have gained prominence in the recent year, Nav Sarao and Igor Oystacher: they got too good. So good in fact the HFTs - mostly Citadel - were consistently losing money to them. As a result, Coscia et al had to be punished. He was accused of entering large orders into futures markets in 2011 that he never intended to execute. His goal, prosecutors said, was to spoof, or fool other traders to markets by creating an illusion of demand so that he could make money on smaller trades. Prosecutors said he illegally earned $1.4 million in fewer than three months in 2011 through spoofing.
As Reuters added, Coscia's firm had fewer than 10 employees. However, he "entered more large orders than anyone else in the world" in nearly a dozen CME Group Inc markets ranging from corn and soybeans to gold after he began using two algorithmic trading programs in August 2011, prosecutors said during the trial. To be sure Coscia disagreed with the accusation: he testified that he didn’t do anything wrong and repeatedly said he intended to trade on every order he placed. He also said he traded a lot of large orders he placed. He was asked whether he fraudulently induced other market participants to react to the deceptive market information he created.
“I didn’t induce anyone,” Coscia said. “There’s no deceptive market information either.”
Technically, he is right - he did not induce anyone. He induced a whole of anythings, mostly countless HFT algos that reacted to his orders by pushing the market in the direction of his orderflow, only to be "spoofed." At which point the case really boiled down to just one thing: not whether it is legal to spoof, which it is and yet massive, well-connected HFT firms get away with it every single day, but whether it is legal to take advantage of HFT algos programmed to do just one thing - frontrun orders, and activity which leads to massive losses for the algos and the Citadels behind them, when the spoofer realizes just how dumb his counterparty truly is.
The verdict was clear: nobody is allowed to outspoof the spoofers. And this was the punchline from the lobby of very group of people who take advantage of broken markets every given day:
"Investors are better off when spoofers who prey on high-frequency traders are brought to justice," said Bill Harts, chief of the Modern Markets Initiative, a group representing high-frequency and algorithmic traders.
Funnier words had rarely been spoken by the person whose "Modern Markets" Initiative has made real modern markets a farcial disaster.
And so the gauntlet has been thrown: anyone who dares to make money by "abusing" the dumb logic of Citadel algos will go to jail.
"This is the clarity that people have been looking for - what exactly is spoofing, what defines it," said Trace Schmeltz, an attorney specializing in white-collar crime at law firm Barnes & Thornburg who was not involved in the case.
"The defendant's trading activities disrupted the markets in his favor and against legitimate traders and investors," said Zachary Fardon, U.S. Attorney for the Northern District of Illinois.
Such as... high-frequency traders.
And the biggest irony: Steven Peikin, one of Coscia’s lawyers, argued that high-frequency traders routinely canceled orders. He told the jury that Coscia’s trading strategy was unique but not illegal.
Wrong: it is illegal, but he is absolutely right that everyone does it, especially the HFTs. But doesn't matter - next year Coscia will be back in court to hear just how many years he will spend in prison.
* * *
Fast forward to today when Coscia's story gets its conclusion. As Bloomberg reports, Michael Coscia, the first person convicted of spoofing after it was made a crime under the Dodd-Frank Act, was sentenced to three years in prison by a federal judge in Chicago, less than half the time sought by prosecutors.
Spoofing, which became illegal under the Dodd-Frank Act, carries a maximum of 10 years in prison. The practice typically consists of systematically placing orders without intending to execute them to trick the market into thinking there’s interest in buying or selling that doesn’t actually exist.
Prosecutors had sought a term as long as seven years and three months. Coscia’s lawyers, who argued for probation, said sentencing guidelines allowed for a term of only four to 10 months. His three-year prison term is to be followed by two years of supervised release.
Coscia’s sentencing follows a ruling Tuesday in a spoofing lawsuit brought by the Commodity Futures Trading Commission allowing a defendant to continue trading before a trial set for January. Igor Oystacher, of 3Red Trading LLC, was accused by the CFTC of continuing illegal trades even after it sued him.
Coscia tried the Hillary defense, but it did not work this time:
Testimony during the trial showed that Coscia, like many high frequency traders, used an algorithm to place, cancel and execute orders. Coscia testified that he intended to execute all of his orders at the time he placed them. He said he wasn’t aware of the provision of the Dodd-Frank Act and his lawyers argued in court filings that the law was unconstitutional.
How big was Coscia's criminal profit from the transactions for which he was charged? A laughable $1,070.
During the trial, prosecutors focused on six transactions in the gold, euro, soybean meal, soybean oil, British pound, and copper futures markets. In total, these trades resulted in a profit of $1,070, according to testimony. Coscia conducted thousands of such trades, prosecutors told jurors.
His real crime? Taking on the HFTs, and Citadel, and winning. Now he gets to spend 3 years in prison thinking about it. And let that be a lesson to anyone else out there who dares to do the same.