In an order1 issued on May 15, 2014 that takes a broad view of its jurisdiction over conduct that allegedly violates the Natural Gas Act’s (NGA) prohibition against market manipulation, the Federal Energy Regulatory Commission (FERC) established a hearing to investigate whether BP America Inc., BP Corporation North America Inc., BP America Production Company and BP Energy Company (collectively, “BP”) manipulated the next-day, fixed-price natural gas market at the Houston Ship Channel (HSC) from mid-September 2008 (following Hurricane Ike) through November 2008. Rejecting BP’s motion to dismiss, FERC determined that there were genuine issues of material fact in dispute that warrant a hearing before an administrative law judge (ALJ). FERC directed the ALJ to make findings of fact that would enable FERC to determine penalties in the event that BP is found to have engaged in manipulative conduct in violation of FERC’s Anti-Manipulation Rule.2 FERC reserved for later consideration whether it should impose on BP any civil penalties, sanctions or disgorgement of unjust profits. In the May 15 order, FERC makes clear its position that the Anti-Manipulation Rule applies to nearly all gas trading and transportation activities, including sales and transportation activities not otherwise subject to FERC jurisdiction.
Show Cause Order
The formal FERC enforcement docket was initiated last August when FERC issued an Order to Show Cause,3 directing BP to show cause why it should not have to pay civil penalties in the amount of $28 million and disgorge $800,000 in unjust profits, plus interest, based on allegations contained in the FERC Office of Enforcement’s Staff Report, appended to the Order to Show Cause. The Staff Report alleged that BP had made uneconomic sales at HSC—and took steps to increase its market share at HSC—as part of a manipulative scheme to suppress HSC Gas Daily index prices.
The Staff Report alleged that, going into September 2008, BP had an HSC-Henry Hub spread position that included short index swaps at HSC and long index swaps at Henry Hub and that this financial position benefited when the spread between daily physical gas prices at HSC and Henry Hub grew wider.4 According to the Staff Report, when HSC gas prices plummeted as a result of Hurricane Ike, BP’s September spread position suddenly had the potential to be worth millions of dollars, but only if the daily spread between HSC and Henry Hub remained consistently wide through the end of September.5 The Staff Report alleged that BP began selling next-day, fixed-price gas to suppress gas prices in the HSC market and slow the shrinkage of the beneficial hurricane-created spread.6 The Staff Report contended that BP’s traders extended the manipulation into October and then into November, increasing their HSC- Henry Hub spread positions and buying more physical gas for these two months at the nearby Katy Hub to transport and sell in the daily HSC market to facilitate their efforts to suppress prices at HSC.7
BP’s Response to Show Cause Order
Following issuance of the Order to Show Cause, BP filed an answer and motion to dismiss, contending that the FERC Staff Report failed to state a prima facie case of market manipulation. BP argued, inter alia, that the Staff Report took a taped conversation between BP’s traders out of context, misapplied the FERC’s Penalty Guidelines, incorrectly asserted that FERC had jurisdiction over the actions taken by BP and failed to state a claim under the FERC’s Anti-Manipulation Rule.
May 15 Order
FERC’s May 15 order establishing the hearing denied BP’s motion to dismiss. FERC determined that it had jurisdiction over the alleged misconduct, even though the activities at issue involved non-jurisdictional sales of gas and movements over an intrastate pipeline that is not subject to FERC jurisdiction, because FERC ascertained that BP’s conduct involved activity “in connection with” the purchase or sale of natural gas subject to FERC’s jurisdiction. FERC found that, even if the sales and transportation activities engaged in by BP were not otherwise subject to FERC jurisdiction, these activities nevertheless were intertwined with and affected jurisdictional sales because any manipulation of the HSC Gas Daily index would affect jurisdictional transactions whose settlement price was based on that index.8 FERC stated that to find otherwise would frustrate the purpose of the NGA by allowing entities to manipulate the price of interstate natural gas and would create an impermissible “regulatory gap” in jurisdiction over unlawful activity.9 The May 15 order did not rule that BP had, in fact, engaged in misconduct “in connection with” jurisdictional transactions,, but, instead, directed the ALJ to consider this issue at the hearing.
The May 15 order also determined that BP had adequate notice that the alleged conduct would violate the FERC’s Anti-Manipulation Rule. The FERC pointed to language in Order No. 670 (which promulgated the FERC Anti-Manipulation Rule), in which FERC “gave notice that engaging in any scheme or device for the purpose of affecting (i.e., impairing, obstructing, or defeating) a ‘well-functioning market’ could fall within the scope of the Anti-Manipulation Rule.”10 Further, FERC stated, “Nothing in the statute or our regulations requires the Commission to identify in advance every single fact pattern or scheme that could give rise to a claim of manipulation.”11 FERC stated that its enforcement mandate extends to novel schemes and manipulative devices that affect prices in, or otherwise interfere with, well-functioning markets, not just the “tried-and-true schemes and devices” that have already been the subject of securities fraud actions.12 FERC rejected BP’s claims that open-market transactions cannot constitute manipulation.13 FERC also rejected BP’s claims that BP could not be liable for manipulation because its trading activity was supported by legitimate economic rationales, finding that even trades undertaken for bona fide economic purposes, if intended to manipulate the market, would be prohibited under the Anti-Manipulation Rule.14
Issues Set for Hearing
FERC directed the ALJ to determine whether BP violated Section 4A of the NGA and FERC’s Anti-Manipulation Rule. The ALJ is to make findings respecting subject matter jurisdiction and each of the elements of a manipulation claim, i.e., conduct, scienter and whether BP’s conduct was “directly or indirectly, in connection with” the purchase or sale of natural gas or the purchase or sale of transportation services subject to FERC’s jurisdiction.15 FERC directed the ALJ to make factual findings regarding the number of violations, if any, committed by BP and to make factual findings respecting the factors relevant to civil penalty calculations. FERC reserved for later consideration whether, and in what amount, civil penalties should be imposed on BP, whether any other sanctions should be imposed and whether and in what amount BP should be required to disgorge any unjust profits.
Impact of the May 15 Order
The FERC takes an expansive view of its jurisdiction to prevent market manipulation in the May 15 order, arguably bringing nearly all gas trading and transportation activities within the scope of FERC’s authority to prevent market manipulation. It remains to be seen whether penalties will be imposed on BP for the activities at issue—it is likely to be many months before FERC has the ALJ’s findings before it. However, all entities that engage in gas trading and transportation activities are well advised to review their FERC regulatory compliance plans and market strategies now to ensure they are compliant with Section 4A of the NGA and the FERC’s broad view of the Anti-Manipulation Rule.
1 BP America Inc., et al., 147 FERC ¶61,130 (2014).
2 18 C.F.R. §1c.1.
3 BP America Inc., et al., 144 FERC ¶61,100 (2013).
4 Staff Report at 1.
8 BP America Inc., et al., 147 FERC ¶61,130 at P 26 (2014)
10 Id. at P 36.
12 Id. at P 37.
13 Id. at P 38.
14 Id. at P 42.
15 Id. at P 47.