FINRA Fines and Suspends Young Merrill Trader For Spoofing Treasuries

September 14, 2021

In keeping with Wall Street's ever-changing guard, we come upon a young Merrill Lynch trader in his 20s. He has the pedigree. He has the chops. He even seems to have a few tricks up his sleeve. Unfortunately, as FINRA sees it, he's got several Aces of Spades hidden above his wrist and is rigging the game -- sure, let's call it as it is: He's cheating. Not there there's really anything amounting to a fair shuffle of the cards or a fair deal on the Street, but, hey, if it makes you feel better, we can all wink and nod knowingly.

Case in Point

For the purpose of proposing a settlement of rule violations alleged by the Financial Industry Regulatory Authority ("FINRA"), without admitting or denying the findings, prior to a regulatory hearing, and without an adjudication of any issue, Tyler J. Forbes submitted a Letter of Acceptance, Waiver and Consent ("AWC"), which FINRA accepted. In the Matter of Tyler J. Forbes, Respondent (FINRA AWC 2019063152201)

Born to Run

As we begin to unravel the regulatory tale of Tyler Forbes, we see that online FINRA BrokerCheck disclosures as of September 14, 2021, assert that Forbes attended the so-called "Little" and/or "Hidden" Ivy League school of Colgate University. The AWC asserts that Tyler J. Forbes was first registered in 2016 with Merrill Lynch, Pierce, Fenner & Smith, Inc. and, thereafter, he was registered via a mass transfer of Merrill Lynch registrations to BofA Securities, Inc. in May 2019.  As the AWC notes in part:

By late 2018, at age 24, Forbes became responsible for his own trading book, primarily trading the most recently issued (on-the-run)2 2 yr. and 3 yr. U.S. Treasury notes. Forbes's trading exclusively related to facilitating customer order flow, maintaining inventory in off-the-run Treasury notes in anticipation of customer demand, and hedging interest-rate risk related to those activities. Forbes maintained an inventory of anywhere from $1 to $6 billion, mostly in off-the-run Treasury notes, but usually his inventory was approximately $3 billion.

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Footnote 2: On-the-run U.S. Treasuries refer to the most recently issued security in that product (e.g., 2 yr., 5 yr., 10 yr., etc.). New U.S. Treasury notes are issued every month in 2 yr., 3 yr., 5 yr. and 7 yr. notes; and once every three months in 10 yr. notes and 30 yr. bonds. Trading is most active in on-the-run U.S. Treasuries. "Off-the-run" U.S. Treasuries are those securities that are still outstanding but are no longer the newest issue in that product. Trading volume in off-the-run U.S. Treasuries decreases the longer the security remains outstanding. 
at Page 3 of the AWC

Wunderkind anyone? Clearly, Forbes was an exceptional young man on the way up -- it's not every 24-year-old who would be entrusted with up to $6 billion in tradeable Treasuries inventory. 

Stackin' the Deck?

From February through June 2019 (the "relevant period"), Forbes entered 194 bona fide orders on one side of the market in a Treasury note. During the same relevant period, however, on an almost simultaneous basis with his 194 bona fide orders, Forbes placed on an electronic trading platform another 194 orders on the opposite side of the bona fide order -- and the AWC characterizes these other 194 orders as non-bona-fide. The non-bona-fide orders placed by Forbes were often either for $250 million or $500 million and created a buy-sell imbalance in the displayed quantity at the inside bid-offer (the "stack"). As the AWC explains:

If the stack is heavily skewed on the bid side rather than on the offer side, for instance, market participants may reasonably believe that there is more interest to buy than to sell. In such a scenario, these market participants would place aggressive buy orders (i.e., at a higher price than the currently resting buy orders in the market), making execution of resting sell orders more likely. 

For these reasons, market participants generally pay close attention to changes in the stack's balance and rely upon iceberg or hidden ordersto manage order exposure and mitigate price impact. While iceberg orders are themselves permissible, such an order can be used to facilitate deceptive trading such as the trading Forbes engaged in during the 2019 period. Forbes's trading activity in these instances injected false information into the marketplace and created an artificial imbalance in the true supply and demand that drove trading behavior, resulting in Forbes executing his orders at better prices. 

Forbes's trading activity in these instances injected false information into the marketplace and created an artificial imbalance in the true supply and demand that drove trading behavior, resulting in Forbes executing his orders at better prices. 

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Footnote 3: An iceberg or hidden order is an order when the full-face amount of that order is not displayed to the market (e.g., an order to purchase $50 million, with only $1 million displayed to the market). 

at Page 4 of the AWC

The Iceberg

For those of you struggling with the machinations of Forbes' effort to stack the deck and spoof the markets, consider this helpful illustration from the AWC:

  • At 06:52:46, Forbes bought $75 million in 10 yr. notes from a large, institutional customer at 99.5625

  • 21 seconds later, at 06:53:07, Forbes entered a $65 million iceberg order to sell 10 yr. notes at 99.5781, with instructions to display $1 million of the order on two different electronic trading platforms and to maintain the remaining quantity as hidden. 

  • There were no trades during the next 17 seconds. Forbes's $65 million iceberg order remained unexecuted. 

  •  At 06:53:24, Forbes entered a fully displayed resting order to buy $250 million of the 10 yr. notes at 99.5625, which was the inside bid price. This buy order was displayed on three venues. Two of those venues simultaneously displayed the sell order.

  • The displayed inside bid quantity increased from $61 million to $311 million. Forbes's order represented approximately 80% of the displayed consolidated best bid and increased the displayed liquidity by 509%. 

  • Less than one second later, and continuing for the next six seconds to 06:53:30, Forbes received a full execution of his $65 million sell order at the inside offer price of 99.5781.4 

  • At 06:53:32, two seconds after executing his last sale transaction, Forbes cancelled the $250 million buy order he had placed just eight seconds earlier.
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Footnote 4: During the relevant time period, Forbes effected on average 575 trades a day. Generally, a single order can result in multiple trades. On May 13, 2019, Forbes received 53 executions on his bona fide order

at Pages 4 - 5 of the AWC

In considering Forbes' 194 non-bona-fide trades, FINRA alleged that:

[I]n each instance, Forbes skewed the stack by entering a large, fully displayed resting order at the inside price on one side of the market to receive an execution of a smaller-sized order on the opposite side. Other market participants responded to the skewed stack by either moving the inside bid-offer prices higher or lower or placing aggressive orders opposite the heavy side of the stack to execute against Forbes's smaller order. After Forbes's smaller order was executed, he then cancelled his larger, fully displayed order. 

at Page 5 of the AWC

Merrill Lynch Discharge

BrokerCheck asserts that on August 22, 2019, Merrill Lynch "discharged" Forbes based upon allegations of:

Conduct involving failure to observe the firm's trading policy.

FINRA Sanctions

In accordance with the terms of the AWC, FINRA found that Forbes' spoofing conduct constituted a violation of FINRA Rule 2010 by acting in contravention of Section 17(a)(3) of the Securities Act of 1933; and, accordingly, the self-regulator imposed upon him a $75,000 fine, a 16-month suspension from associating with any FINRA member in all capacities, and a requirement that prior to associating with any FINRA member that he requalify as a General Securities Representative via passage of the Series 7 examination.

Bill Singer's Comment

As I first read the AWC, I thought that FINRA had to be kidding. I mean, seriously, only a lousy 18-month suspension for causing so much havoc in the Treasury market and, on top of it all, sort of "gaming" the system via spoofing? Then I began to re-read and re-read the AWC, and my initial response morphed.

BrokerCheck says that from 2008 to 2012, Forbes was in High School, and a mere seven years later, he's tradin' billions on Wall Street. Even at the ripe age of 25, ya gotta wonder if anyone was checking Forbes' trades -- I mean, I got underwear older than the kid. 

Did Forbes learn how to spoof from playing computer games a few years earlier? Did some wily veteran trader teach Forbes the wrong ropes? I mean, geez, isn't the bigger question here how Forbes learned to run this trading scam; and, even more to the point, shouldn't it scare the crap out of us that a kid is workin' this size book for nearly half a year and apparently no one was any the wiser? Doesn't say much of Merrill's supervision of its trading desks. Doesn't say much of Merrill's Compliance Department.

Finally, I want to comment FINRA for publishing a wonderful AWC replete with content and context. The AWC provides a thoughtful explanation of what was involved and why it matters. There is a wealth of detail provided that could and should prove helpful to industry compliance departments when it comes to detecting trading abuse. All in all, this AWC is about as good as it gets, and I tip my hat to FINRA on this effort.