Sentinel Management: Customer Funds Pledged for Borrowing

Sentinel Management’s customer collateral fraud action concerned $562 million in commodity customer segregated funds and the Commodity Futures Trading Commission’s allegation that Sentinel used customer assets to finance its own trading and secure a bank loan. For someone in custody, treasury or segregation review, the recognition point is concrete: property entrusted to the firm for customers has become backing for the firm’s borrowing. The customer allocation and the lender’s collateral records may be telling different stories about the same assets.

What Was the Alleged Customer-Collateral Scheme?

The Commodity Futures Trading Commission alleged that Sentinel withdrew customer segregated funds and used them as collateral for its overnight loan with the Bank of New York. The agency’s account of the action describes commingling and misuse of funds received from other futures commission merchants to finance Sentinel’s proprietary trading, meaning trading for its own account. The alleged conduct ran from at least May 21, 2007 through August 17, 2007.

Sentinel Management Group, Inc. operated from Northbrook, Illinois and was itself registered as a futures commission merchant. The later court judgment describes its business as an investment vehicle through which other futures commission merchants and sophisticated entities invested excess cash in short-term portfolios. Its chief executive controlled day-to-day operations.

That business placed Sentinel inside a chain of custody. Other futures commission merchants entrusted customer funds to Sentinel for investment, and Sentinel was supposed to treat that property as belonging to those customers. The customer-fund segregation issue followed the assets into Sentinel’s hands. Investment management did not make them the firm’s own money.

The Commission alleged that Sentinel withdrew more than its own interest in the segregated funds and used the withdrawals to support its borrowing. That is the part a collateral or treasury employee would recognize: the firm’s loan depended on property belonging to somebody else. We see the absurdity: the custodian turned the property it was supposed to protect into backing for its own business. The customer supplied the assets, and the firm got the borrowing power.

Customer-fund protection reaches securities and other property as well as cash. In its FY 2021 President’s Budget, published in 2020, the Commodity Futures Trading Commission explained that segregation covers cash deposits, securities and other property placed with futures commission merchants to support futures and cleared swaps trading.

What Would a Custody or Treasury Insider Recognize?

A custody or treasury insider could recognize a mismatch between customer ownership and the firm’s use of assets to secure a loan. Customer allocations and custody statements connect property to the customers whose money funded it, while lien agreements describe what the lender can claim. We would examine those records alongside loan draws and the firm’s explanations of the assets to understand who supplied the collateral and whose trading the borrowing financed.

These are connections we would investigate with a current whistleblower. A custody employee may understand the allocation, while a treasury analyst understands the borrowing and a segregation reviewer understands the firm’s claimed interest in the account. Your knowledge of one part can explain why records from another part deserve attention.

What Did the Court Find Against Sentinel’s Chief Executive?

The November 18, 2015 civil judgment against Sentinel’s former chief executive found that Sentinel had misused customer funds to finance proprietary trading and secure the Bank of New York overnight loan. The federal court in the Northern District of Illinois relied on the facts established by the jury’s guilty verdict, identifying the criminal indictment and judgment as its basis. The judgment specifically identified the commodity customer funds held in the Seg 1 account group.

The court held the chief executive personally responsible because he controlled Sentinel and either knowingly caused the misuse or failed to act in good faith. That finding connects the handling of customer property to the person directing the business.

The same judgment prohibited him from treating customer money, securities or property as belonging to the depositing futures commission merchant or anyone other than its customers. That prohibition goes directly to the custody failure: control over an account did not give the executive ownership of what customers had entrusted to it.

The Commission also obtained a separate civil judgment against Sentinel’s former head trader. Its announcement reported an order to give up $551,000 in gains and pay a $1,653,000 civil penalty.

How Is This Different From MF Global?

MF Global resolved allegations that it used customer cash to meet company and affiliate obligations during its liquidity crisis. Sentinel’s distinctive borrowing allegation concerned customer property used as collateral for an overnight bank loan.

The difference changes what an insider can explain. In the MF Global pattern, the transfer and the obligation it paid connect customer cash to the firm’s spending. In the Sentinel pattern, the customer allocation, collateral agreement and loan connect customer property to the firm’s financing. A custody employee can have a useful view of that connection even when their work concerns securities rather than outgoing cash payments.

I Work for a Futures Commission Merchant. Am I Eligible for an Award?

An employee of a futures commission merchant may qualify for a CFTC whistleblower award. The Commission’s eligibility guidance says that working for a futures commission merchant does not itself disqualify an employee. We assess your role and the information you hold with you, including information learned through custody, treasury, compliance or audit work.

The CFTC whistleblower program provides qualifying whistleblowers, together, 10% to 30% of monetary sanctions actually collected in the covered action or qualifying related actions. The False Claims Act has a separate reward program. A whistleblower case under the False Claims Act can pay 15% to 30% of what the government recovers.

You Know What Backed the Loan

If you recognize customer property inside your firm’s borrowing arrangements, speak with our whistleblower experts about the assets and the loan. We build the case with you around the custody and financing decisions, bring in CFTC whistleblower lawyers who know segregated-fund and collateral cases, and stay beside you through the process.