[Image by Stephanie German Designs]

In his ComplianceBuilding column, Doug Cornelius offered commentary on the SEC’s sanction against Forcerank and its “fantasy sports for stocks.”  Here's what he basically had to say:

Forcerank runs mobile phone games where players predict the order in which stocks would perform relative to each other.  In its original form, if a player did well he or she won points and could some receive a cash prize. Forcerank kept 10% of the entry fees. The gaming is a ruse to collect data. Forcerank is looking to obtain data about market expectations that it hopes to sell to hedge funds and other investors.

It seems clear to Cornelius that Forcerank was concerned about the gambling aspect of the app. There was a provision in the rules the stated the Forcerank contest was a “skill based” contest. If it were not skill-based - i.e., luck - then it would be gambling. You pay an entry fee and if you win you get a prize. If winning is based on luck it’s gambling.

The SEC looked at the Forcerank contest in a different light. Empowered by Dodd-Frank to regulate security-based swaps, the Commission 'went into action', starting with the Commodity Exchange Act's definition of “swap”:

“[T]he term ‘swap’ [includes] any agreement, contract, or transaction -… (ii) that provides for any purchase, sale, payment, or delivery (other than a dividend on an equity security) that is dependent on the occurrence, nonoccurrence, or the extent of the occurrence of an event or contingency associated with a potential financial, economic, or commercial consequence[.]”

That’s a very broad definition. It was a definition that the SEC applied to the Forcerank contests.

[E]ach Forcerank entry was a swap because each participant paid to enter into an agreement with Forcerank LLC that provided for the payment of points and, in certain cases, cash. Those payments were dependent upon the occurrence, or the extent of the occurrence, of an event or contingency (i.e., the player’s predictions about the price performance of individual securities being compared to actual performance and the player’s aggregate points being compared to other players). Such event or contingency was “associated with a potential financial, economic or commercial consequence” because it was calculated by measuring the change in the market price of an individual security over a period of time and comparing that change to an identical metric based on the market price of other individual securities.

Cornelius finds this an interesting roadblock to stock-picking contests.

Follow-Up:  Cornelius found that Forcerank no longer has an entry fee and remits no cash prizes - which removes it from the definition of “derivative.” It also removes the incentive to enter the contest and the revenue stream from Forcerank.