Rules to trade by: Playing the patent game

February 15, 2015 12:00 PM

The State Street case

The software in the 1996 State Street case (State Street Bank v. Signature Financial Group) enabled an administrator to make calculations for a financial services configuration that allowed several mutual funds to pool investments into a single portfolio. This pooling consolidated the costs of administering the fund and combined the tax advantages of a partnership. The software determined, while taking into consideration daily changes in the value of the portfolio’s investment securities, the percentage share that each fund maintained in the portfolio.

The software also allowed for allocation among the funds of the portfolio’s daily income, expenses and net realized and unrealized gain or loss, calculating each day’s total investments based on the concept of a book capital account.

During a patent infringement dispute, the trial judge was asked to decide whether the claim defined patentable subject matter. After reviewing prior cases, the trial judge decided that this claim was not patentable, stating, “The invention is an accounting system for a certain type of financial investment vehicle claimed as means for performing a series of mathematical functions. Quite simply, it involves no further physical transformation or reduction than inputting numbers, calculating numbers, outputting numbers, and storing numbers.”

On appeal, the Court of Customs and Patent Appeals reversed this decision. The appeal court did not focus on physicality. Instead, it stated that the relevant inquiry was whether a patent claim produced “a useful, concrete and tangible result.” The court said, “The transformation of data...through a series of mathematical calculations into a final share price constitutes a practical application of a mathematical algorithm, formula, or calculation, because it produces a ‘useful, concrete and tangible result.”

As a result of the State Street case, a properly written patent application may result in patent protection for a computer with software that produces any useful, concrete and tangible result.

More confusion

On April 10, 1997, Bernard L. Bilski and Rand Warsaw filed a patent application for a method of hedging risks in commodities trading using a fixed bill system. 

The patent application describes a method for providing a fixed energy bill to consumers under which the consumers pay monthly prices for their future energy consumption in advance of winter based on their past energy use. No matter how much energy they use, the monthly prices remain the same. In practice, consumers save money during unusually cold winters and pay more during unusually warm winters.

The process uses the following steps: 1) initiates a series of sales or options of transactions between a broker and users by which the users buy the commodity at a fixed rate based on historical prices; 2) identifies sellers of the commodity and 3) initiates a series of sales or options of transactions between the broker and sellers at a second fixed rate so respective risk positions balance out.

The claims were rejected by the patent examiner on the finding that the process simply solved “a purely mathematical problem without any limitation to a practical application.”

The rejection was affirmed on appeal, but on different grounds. The appeal board concluded that claim did not involve any patent-eligible transformation, holding that transformation of “non-physical financial risks and legal liabilities of the commodity provider, the consumer, and the market participants” is not patent-eligible subject matter.

The issue was appealed to federal court and then to the Supreme Court, both of which upheld the original rejection, on the grounds that “a method of hedging losses in one segment of the energy industry by making investments in other segments of that industry, on the basis that the abstract investment strategy set forth in the application was simply not patentable subject matter.”

In Alice Corp. v. CLS Bank International (2007), CLS Bank sued Alice Corp. over the validity of various patents held by Alice Corp. Alice Corp. is an Australian company that owns patents on a computerized trading platform that manages risk among financial transactions. Alice countersued and claimed infringement. Ultimately, the U.S. district court held that Alice’s patents were invalid because they were directed at an abstract idea. The U.S. Court of Appeals for the Federal Circuit affirmed. The case went to the Supreme Court.

So, are claims regarding computer-implemented inventions—including systems, machines, processes and items of manufacture—patent-eligible subject matter?

The answer is no. Justice Clarence Thomas wrote the unanimous opinion. The court held that patent law should not restrain abstract ideas that are the “building blocks of human ingenuity” and held all of Alice’s claims ineligible for patent protection. Using a third party to eliminate settlement risk, it found, is a fundamental and prevalent practice. The court concluded that Alice’s claims did no more than require a generic computer to implement this abstract idea of risk settlement, which is not enough to transform an abstract idea into a patent-eligible invention.

Justice Sonia M. Sotomayor wrote a concurring opinion arguing that any claim that merely describes a method of doing business should not be patentable. Justice Sotomayor agreed in this case that the method claims at issue pertained to an abstract idea. The concurrence was joined by Justice Ruth Bader Ginsburg and Justice Stephen G. Breyer.

Do patents matter?

There’s a lot to be learned from studying these cases.

First, many granted patents might still be ruled invalid if challenged. However, from these landmark cases, we can see a pattern of what is patentable and what is not. For a computer software patent to be valid, the invention must contain a unique and useful process that requires the use of a computer to implement and cannot be done without a computer.  It’s not enough that the process can be done faster or more reliably. In addition, for any given process, it is only patentable if is a new invention and not simply a new implementation of prior art. 

Next, we’ll explore the process of getting a patent, and extend our discussion of patent law in the trading industry to Trading Technology International’s patent filed in 2000, and granted in 2004, that applies to a methodology to display and trade based on the market depth on a vertical or horizontal plane.

There has been a significant amount of litigation on this patent, and many brokers as well as software platforms have been forced to pay a royalty. We’ll dig into the implications of this issue, focusing on how its enforcement impacts trading technology current, and how it may continue to do so going forward.

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About the Author

Murray A. Ruggiero Jr. is the author of "Cybernetic Trading Strategies" (Wiley). E-mail him at