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By Lydia Beyoud
If a Staten Island-based cryptocurrency promoter who once went by ‘the Coyote of Wall Street” on Twitter has his way, four CFTC trial attorneys would be deposed in the home basement headquarters of his crypto-trading advisory company accused of fraud.
The unusual deposition request is the latest skirmish in a war of attrition between Patrick K. McDonnell, a former self-described small-cap stock trader defending himself in this case, and a federal agency looking to crack down on crypto fraudsters.
The CFTC alleged McDonnell swindled a handful of people out of thousands of dollars’ worth of Bitcoin and Litecoin that he promised to invest on their behalf. McDonnell told Bloomberg Law he merely offered crypto trading advice through a $99 annual subscription-based service, a business model common in the cryptocurrency space. McDonnell said he never engaged in investment services.
The case has already proved important with a ruling on a matter of first impression. The U.S. District Court for the Eastern District of New York helped the Commodity Futures Trading Commission solidify its authority in the space by declaring that Bitcoin is a commodity in a March 6 preliminary injunction order.
The remainder of the case is unlikely to prove as consequential. Instead, the CFTC finds itself locked in the legal equivalent of trench warfare with McDonnell, who has a prior criminal conviction for foreign exchange-related mail fraud, and claims to have been trained by Jordan Belfort, known by the moniker “the Wolf of Wall Street.”
The number of victims of McDonnell’s alleged fraud is unclear, in part because the CFTC has struggled to obtain account and transaction information from McDonnell, who claims he no longer has access to them.
The CFTC presented three witnesses in its complaint against McDonnell and his crypto investment advice company CabbageTech Corp., doing business as Coin Drop Markets. The CFTC investigator claimed to have evidence McDonnell solicited and accepted funds from at least seven investors.
Out of the more than 100 customers he claimed to have, McDonnell told Bloomberg Law the three individuals in the CFTC’s complaint were former promoters of his services, whom he called “trolls.”
“I would give them 25 percent of the subscription fee” on the strength of the support they showed for him on Twitter, he said.
McDonnell said the three individuals became disgruntled and filed complaints with the CFTC after he shuttered the operation following a cancer diagnosis in mid-2017.
However, the CFTC alleged McDonnell misappropriated the three individuals’ funds after touting his expertise in coordinating crypto trades or market “pumps” that could produce “300% in profits” and sent private messages to individuals inviting them to join a “blockchain crypto fund.” In one message, McDonnell told an individual that by joining the fund, they would “go from email/twitter to a real client where it’s all phone like real investors,” according to a CFTC exhibit.
One of the investors, a Canadian oil and natural gas company employee based in Western Australia, transferred Litecoin to McDonnell after the latter said: “I give you my word as a man I will protect & trade with you as my own” in response to a question of how the investor would retain any control once his assets were transferred.
“OK...trust it is...” the individual responded, according to the CFTC’s exhibits.
It’s unclear whether a final ruling on the case in the CFTC’s favor would be more than symbolic. The agency, already under funding constraints, is expending time and resources pursuing a defendant who appears to have little ability to pay restitution or penalties.
Pressed by the court to state how much restitution for victims the CFTC would seek, a trial attorney estimated “just below $100,000 to $200,000,” though he cautioned that was a “very preliminary number,” according to an April 12 conference transcript. If accurate, the amount is a drop in the bucket compared with the $336 billion global cryptocurrency market cap.
While there may be little hope of ever recouping any money, the CFTC is unlikely to slacken in its pursuit, John Reed Stark, the former chief of the Securities and Exchange Commission’s Office of Internet Enforcement and now a cybersecurity consultant, told Bloomberg Law.
“We brought cases where there was no chance of collecting from the person,” he said. Enforcement staff often find themselves subject to a zealous commissioner wary of bad publicity and bent on cracking down on fraud in the market, Stark said.
“Traditionally, CFTC and SEC lawyers are bad at collections. It’s the kind of thing that takes a huge amount of resources and effort and time; you want to be off fighting another fraud,” Stark said.
At the same time, enforcement officials have to weigh the merits of pursuing small fry over bigger fish. Simply going after large-dollar fraud leaves smaller investors without much protection, Stark said.
“Especially when you have a recidivist, the SEC and the CFTC will say: ‘We don’t care how much money, sooner or later he’ll be successful’ and we’ll get criticized for not trying to stop the guy,” he said.
The court finds itself sometimes in the midst of heated legal volleys between McDonnell and the CFTC. Agency trial attorneys sought sanctions against McDonnell on May 30 for delaying handing over discovery materials. They also rebuked him for responding to discovery questions with a boilerplate response: “Defendant does not possess enough specific information to answer this question.” The court denied the sanctions request.
The CFTC attorneys recently accused him of flooding them with docket filings, which they previously agreed to submit on his behalf, and of becoming “abusive and threatening in his communications to the Division concerning the filings.” The court also dismissed that complaint.
In turn, McDonnell has threatened to file ethics complaints against the CFTC attorneys in New York state. He also sought an automatic stay of the case after filing a voluntary bankruptcy and has filed multiple motions to dismiss.
One of McDonnell’s motions cited a May 1 decision in the U.S. District Court for the Central District of California, CFTC v. Monex, in which a judge determined that the CFTC could only bring enforcement actions for fraud in conjunction with market manipulation. That decision would significantly curtail the CFTC’s enforcement authority over basic commodities that aren’t subject to a futures or derivatives contract.
The CFTC is set to appeal the Monex ruling, which involved alleged fraud related to precious metals investments. But the decision now seems to cast a long shadow over McDonnell’s case and that of other crypto-related fraud enforcement actions in which the CFTC is engaged.
“The big concern is that we’ve now got a split among the circuits that leaves the CFTC’s authority up in the air. It’s particularly interesting given that these are some of the few fraud cases that have proceeded this far without settlement, and they are obviously based on such different facts,” Jenny Cieplak, counsel at Crowell & Moring LLP in Washington, told Bloomberg Law.
“If they continue without settling, I certainly hope that the facts don’t cloud the interpretation of the law, because we really need clear guidance in this area,” said Cieplak, whose practice includes cryptocurrency- and technology-related financial transactions. Commodity Futures Trading Commission v. McDonnell et. al. , E.D.N.Y., No. 1:18-cv-00361-JBW-RLM, discovery sanctions denied 5/31/18 .
To contact the reporter on this story: Lydia Beyoud in Washington at firstname.lastname@example.org
To contact the editor responsible for this story: Michael Ferullo at email@example.com
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