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NILSEN v. PRUDENTIAL-BACHE SECURITIES

April 1, 1991

TERJE NILSEN, PLAINTIFF,
v.
PRUDENTIAL-BACHE SECURITIES, DEFENDANT.



The opinion of the court was delivered by: Mukasey, District Judge.

    OPINION AND ORDER

Plaintiff Terje Nilsen, a resident of Monaco, charges that defendant Prudential-Bache Securities, Inc., a "futures commission merchant," lied about and then "churned" his commodity option trading account, and thereby committed fraud in violation of sections 4b and 4o of the Commodity Exchange Act, as amended ("CEA"), 7 U.S.C. § 6b, 6o (1990). Nilsen has also brought state law claims for negligence and breach of contract. Essentially, Nilsen alleges that a broker employed by defendant misrepresented the degree of risk to which his account would be subject and then ran the account solely to generate commissions. More specifically, the complaint alleges that during an eight-month period in which plaintiff suffered total trading losses of approximately $2.4 million, defendant earned over $3.2 million in commissions, "mark-ups" or profits from trades executed on both the Chicago Mercantile Exchange and the London Interbank Market.

Defendant has moved for an order (i) to compel arbitration and stay this action, pursuant to § 4 of the Federal Arbitration Act, 9 U.S.C. § 1 et seq., with respect to all claims arising out of transactions which were not executed on, or subject to the rules of, a contract market designated as such under the CEA, and (ii) to dismiss all non-arbitrable claims in their entirety, pursuant to Fed.R.Civ.P. 12(b)(1), 12(b)(6), and 9(b). For the reasons set forth below, the parties will submit to arbitration all claims not arising from transactions executed on the Chicago Mercantile Exchange. With respect to claims arising out of transactions that were executed on the Chicago Mercantile Exchange, defendant's motion to dismiss is granted in part and denied in part.

I.

Hurley Affidavit, Exh. B. (emphasis added).

After the account was opened, extensive trading was conducted in futures contracts for U.S. Treasury Bills, British Pounds, Swiss Francs, German Marks, Canadian Dollars, Australian Dollars, and Japanese Yen, on both the International Monetary Market of the Chicago Mercantile Exchange and on the London Interbank Market. Complaint ¶ 7. The complaint alleges that the trading activity in the account bears many of the "earmarks of churning" including "a large amount of day trading, in and out movements in the market, reestablishment of previous positions, retention of losses and trades lacking any apparent rhyme or reason." Complaint ¶ 8. The annualized commissions to average monthly equity ratio allegedly exceeded 80%, while monthly commission to equity ratios sometimes exceeded 100%. Complaint ¶ 9. From mid-September, 1988 to mid-May, 1989, a total of 3,200 currency future trades were executed, Complaint ¶ 6, and between October 1988 and March 1989, the average total number of foreign currency contracts traded for plaintiff's account ranged from approximately 5,000 per month to 12,000 per month. Complaint ¶ 10. During the eight months in which plaintiff's account was active, plaintiff allegedly suffered net total trading losses of approximately $2.4 million, while defendant earned over $3.2 million in total commissions, "mark-ups" or profits. Complaint ¶ 6.

Throughout the trading, the broker employed by defendant "was in complete control of the account" because "[p]laintiff lacked any useful experience or sophistication in futures trading, and was entirely dependent on the broker's recommendations." Complaint ¶ 11. It is alleged that plaintiff was "urged to stay out of the way and allow the broker to trade without distraction or interruption" and that plaintiff suffered his greatest losses while away "on a skiing vacation and largely incommunicado." Id. Throughout, plaintiff "was actively misled by his broker as to the state of his account." Complaint ¶ 14. Specifically, in January, 1989, the broker allegedly misled plaintiff as to his equity position so as to induce him to contribute an additional $1 million, whereupon the broker "embarked upon an orgy of trading" during a period when plaintiff "was conveniently away on holiday." Complaint ¶ 15.

Plaintiff filed this action on May 9, 1990. Plaintiff's first claim for relief alleges that defendant, through its broker, churned plaintiff's account by intentionally engaging in excessive trading for the primary purpose of generating commissions. Complaint ¶¶ 17-20. Plaintiff's second claim for relief, entitled "fraud and misrepresentation," alleges that defendant, through its broker, intentionally misrepresented that plaintiff's account would be maintained in a "prudent reasonable manner and with a minimum of risk" in order to induce plaintiff to open the account and make additional contributions. Complaint ¶¶ 21-27. Plaintiff's third claim for relief, entitled "fraudulent concealment," alleges that "Pru-Bache knowingly concealed information concerning the volume and nature of the trading in plaintiff's account which it knew to be excessive and in violation of plaintiff's stated objectives," and that "Pru-Bache also knowingly concealed the true extent of losses resulting from the unauthorized, excessive trading, actively misleading the plaintiff as to the lack of success which defendant's trading strategy has produced, resulting in a continuing fraud upon the plaintiff." Complaint ¶¶ 28-32. Plaintiff's fourth claim alleges that defendant was negligent in handling the account. Complaint ¶¶ 33-35. The fifth claim, entitled "unauthorized trading," alleges that defendant's broker did not obtain prior authorization for either the type or level of trading engaged in. Complaint ¶¶ 36-41. The sixth claim, entitled "breach of contract," alleges that defendant breached a purported contractual obligation to operate plaintiff's account "prudently" and in accordance with "expressed conservative investment goals." Complaint ¶¶ 42-46. The sole jurisdictional allegation in the complaint is that the action arises under §§ 4b and 4o of the CEA, 7 U.S.C. § 6b, 6o.

Defendant has moved to compel arbitration with respect to all arbitrable claims — namely, all claims which do not arise from transactions executed on the Chicago Mercantile Exchange. With respect to all non-arbitrable claims — which do arise from transactions executed on the Chicago Mercantile Exchange — defendant has moved to dismiss pursuant to Fed.R.Civ.P. 9(b), 12(b)(1) and 12(b)(6).

II.

The Federal Arbitration Act reflects a legislative recognition of "`the desirability of arbitration as an alternative to the complications of litigation.'" Genesco, Inc. v. T. Kakiuchi & Co., 815 F.2d 840, 844 (2d Cir. 1987) (quoting Wilko v. Swan, 346 U.S. 427, 431, 74 S.Ct. 182, 184, 98 L.Ed. 168 (1953)). The Act was "designed to allow parties to avoid the `costliness and delays of litigation,' and to place arbitration agreements `upon the same footing as other contracts.'" Id. (citations omitted). Section 2 provides that written agreements to arbitrate controversies arising out of any contract involving commerce "shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract." 9 U.S.C. § 2. Section 3 provides for a stay of proceedings where the court is satisfied that the issue before it is arbitrable under the agreement, and § 4 directs a court to order parties to proceed to arbitration where there has been a "failure, neglect, or refusal" of any party to abide by an agreement to arbitrate. 9 U.S.C. § 3, 4; Genesco, 815 F.2d at 844.

When some claims before the court are arbitrable and others are not, a court has no discretion to hear the arbitrable claims, notwithstanding that those claims are based on facts common to the non-arbitrable claims. In Dean Witter Reynolds, Inc. v. Byrd, 470 U.S. 213, 217, 105 S.Ct. 1238, 1240, 84 L.Ed.2d 158 (1985), the Supreme Court held that the Act "requires district courts to compel arbitration of pendent arbitrable claims when one of the parties files a motion to compel, even where the result would be the possible inefficient maintenance of separate proceedings in separate forums." On the other hand, if a court determines that some, but not all, of the claims before it are arbitrable, it can then determine whether to stay the balance of the proceedings pending arbitration. Genesco, 815 F.2d at 844.

As with any motion to compel arbitration, the initial task is to determine the scope of the arbitration clause. Mitsubishi Motors Corp. v. Soler Chrysler-Plymouth, Inc., 473 U.S. 614, 626, 105 S.Ct. 3346, 3353, 87 L.Ed.2d 444 (1985). Under federal law, the substantive law governing agreements to arbitrate, the contract is interpreted according to "generally accepted principles of contract law." Genesco, 815 F.2d at 845. However, in determining what the parties have agreed to arbitrate, "as a matter of federal law, any doubts concerning the scope of arbitrable issues should be resolved in favor of arbitration." Moses H. Cone Memorial Hosp. v. Mercury Constr. Corp., 460 U.S. 1, 24-25, 103 S.Ct. 927, 941, 74 L.Ed.2d 765 (1983).

The arbitration clause at issue in this case provides for arbitration of any controversy relating to plaintiff's account "except for any controversy arising out of or relating to transactions in commodities or contracts related thereto executed on or subject to the rules of a contract market designated as such under the Commodity Exchange Act.. . ." (emphasis added). By its terms, the exclusion from arbitration does not depend on the nature of the transaction, but upon where the transaction is executed. Simply put, all controversies that arise out of or relate to transactions in either commodities or commodities contracts are subject to arbitration unless those transactions were either executed on a contract market so designated under the CEA, or executed subject to the rules of such a contract market.

A "contract market" within the meaning of the CEA is limited to a board of trade so designated by the Commodity Futures Trading Commission (CFTC). 17 C.F.R. § 1.3 (1990). Only United States exchanges are eligible for such designation. 17 C.F.R. § 33.4. Therefore, only trades occurring on a market located within the United States could have been executed on a contract market or be subject to the rules of a contract market. See also Mormels v. Girofinance, S.A., 544 F. Supp. 815, 817 (S.D.N.Y. 1982) (Weinfeld, J.) (alleged acts of commodities fraud involving foreign residents and transactions occurring almost entirely outside United States not subject to CEA).

The complaint alleges that the trades that generated this controversy took place on both the London Interbank Market and the International Monetary Market of the Chicago Mercantile Exchange. Complaint ¶¶ 7, 9, 13. Purported exclusions from broad arbitration clauses such as this one must be interpreted narrowly, see AT & T Technologies, Inc. v. Communications Workers of Am., 475 U.S. 643, 650, 106 S.Ct. 1415, 1419, 89 L.Ed.2d 648 (1986); David L. Threlkeld & Co. v. Metallgesellschaft Ltd., 923 F.2d 245, 250-51 (2d Cir. 1991), so the account agreement signed by plaintiff requires that all controversies relating to plaintiff's account be subject to arbitration unless the controversy arises out of or relates to transactions that were executed on the Chicago Mercantile Exchange.

Plaintiff tortures the exclusionary language in the arbitration clause to argue that his dispute with defendant is not subject to arbitration. The relevant part of the clause reads as follows:

  except for any controversy arising out of or relating to
  transactions in commodities or contracts related thereto
  executed on or subject to the rules of a contract market
  designated as such under the Commodity Exchange Act

Plaintiff reads the exclusion to encompass two types of controversies: (1) all controversies arising out of or relating to any "transaction[] in commodities" whether or not executed on or subject to the rules of a contract market, and (2) all controversies arising out of or relating to transactions in "contracts related [to commodities] executed on or subject to the rules of a contract market." Plaintiff then argues that his dispute is not subject to arbitration because it arises out of or relates to a "transaction[] in commodities."


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