AI and the problem of constructive knowledge

Preliminary Opinion: Proposed Revival of the “Fat Boy” Scheduling Strategy

1. The strategy. As run in 2000, Fat Boy (also called “inc-ing load”) meant submitting day-ahead schedules to the California ISO showing load Enron did not have, then supplying generation to match. The surplus showed up as real-time imbalance energy, which the ISO paid for at the real-time price, often well above the capped day-ahead price. The profit came entirely from misrepresenting the load schedule to the system operator.

2. Why it is plainly unlawful today. In 2000 the desk could argue, as the Stoel Rives memos half-conceded, that the ISO tariff did not squarely prohibit it. That argument is now closed:

• FPA § 222 (added by EPAct 2005) and FERC’s anti-manipulation rule, 18 C.F.R. § 1c.2, prohibit any device, scheme, or artifice to defraud in connection with jurisdictional wholesale transactions, along with any material misstatement or omission. A fictitious load schedule is a false statement made to obtain payment. Under In re Make-Whole Payments and the Barclays and JP Morgan line of matters, FERC does not require a tariff violation, only scienter and a nexus to jurisdictional transactions.
• 18 C.F.R. § 35.41(b), the market-behavior communication rule, independently requires accurate and factual information to RTOs and ISOs. A fake load schedule violates it on its face.
• CAISO’s current market design removes the original arbitrage. MRTU and LMP, the integrated forward market, and convergence bidding mean that legitimate day-ahead/real-time positions must be taken as declared virtual bids. Dressing a virtual position up as physical load is no longer a gray-area exploit. It is misrepresenting the nature of the bid. If the desk operates in the Western EIM, the same candor obligations apply there.
• CEA § 6(c)(1) and CFTC Rule 180.1 apply if the strategy touches financial positions, such as CAISO CRRs or swaps referencing those prices.
• Criminal exposure. Timothy Belden, who ran the West Desk, pleaded guilty in 2002 to conspiracy to commit wire fraud over these strategies. The theory has not weakened.

3. Enforcement precedent. FERC’s 2003 gaming orders listed Fat Boy by name as prohibited. More recent settlements show FERC’s appetite for schemes built on manipulating ISO payment mechanisms rather than prices directly. Examples include JP Morgan Ventures (2013, about $410 million, bid-cost-recovery gaming in CAISO and MISO), Constellation (2012), and Barclays. Penalties now run up to roughly $1.5 million per violation per day, inflation-adjusted, plus disgorgement.

4. The “should we ask legal” question.

• No advice-of-counsel shield. That defense requires full disclosure and good-faith reliance. A request framed as “can we revive Fat Boy” defeats both.
• Privilege is unlikely to hold. The crime-fraud exception reaches communications seeking advice in furtherance of a contemplated violation. The request itself becomes Exhibit A.
• Counsel cannot help structure it. Model Rule 1.2(d) forbids assisting in conduct the lawyer knows is fraudulent. Under Rule 1.13, and SOX § 307 / 17 C.F.R. Part 205 if the entity is an issuer, counsel would be obliged to report up the chain, potentially to the board.
• The proposal is already a compliance event. If the strategy has been modeled, backtested, or executed in any form, the company should consider FERC’s self-reporting policy. Self-reporting carries meaningful penalty credit, and individual traders may have Dodd-Frank whistleblower incentives to report first.

Recommendation: Stand the strategy down, preserve all related materials (models, chats, schedules), route the matter to the chief compliance officer, and evaluate whether any submitted schedules require correction or self-report. If the desk wants day-ahead/real-time spread exposure, the lawful route is disclosed convergence bidding, subject to position limits and the ISO’s market-monitoring scrutiny.