Long a sacrosanct obligation in the futures industry, the legal requirement to segregate customer money from firm money might have been breached, resulting in many investors taking money off the table, say industry insiders.
Since allegations have been made public, FCMs and industry participants have bunkered down, answering enquiries from clients looking for guarantees that they too are not doing the same.
What seems certain is that change is in the air. Already the Commodities Futures Trading Commission voted in the first week of December on a rule restricting the industry’s use of customer money. Also impending is an expectation that the US Securities and Exchange Commission will soon follow with new accounting disclosure rules for brokerage firms.
Things started to unravel for MF Global when, in the last week of October, Moody’s lowered the firm’s credit rating citing concerns over its European debt exposure after it placed a $6.3 billion bet on the sovereign debt of five countries.
According to reports, a fire sale reduced its assets from $55bn to $23bn that same week, but a slew of redemption requests from both trading partners and customers led the firm shifting money from its futures division to cover its securities division.
Some of this money, according to people familiar with what happened, was taken from customer accounts without backing the loans. Possibly to the tune of $1.2bn. If these reports prove to be accurate, it will need to be established whether the firm did so knowingly or not.
Either way, customers in the US futures industry are calling for guarantees that safeguard against such an outcome occurring again whether it be out of clear intent or simply neglecting to maintain business standards.
“Ultimately, if something happens to violate the sanctity of segregated funds, our industry is in a lot of trouble,” a business development officer at a leading Chicago brokerage house, who did not want to go on the record told FOW. “People are questioning what everyone else is doing.”
Until the MF Global situation is sorted out and some semblance of industry safeguards are established by authorities, the result may be, at least for the time being, that people go to the over the counter market, or if they are speculators, just not participate at all, one insider said.
“People are not comfortable leaving significant amount of excess in their accounts anymore, which is going to lead to an increase in wiring fees and moves on the bank platforms,” he said.
A number of traders interviewed told FOW that they had already taken off as much as half the equities they kept in cash. “I don’t want anyone’s money right now until I can figure out how to protect it,” said one trader. Hedge funds have also pulled back, saying they are reducing exposure to futures markets in light of their fiduciary responsibility to clients.
Also under scrutiny is the role of exchanges and the wisdom of allowing them oversight of the very customers upon which they depend for profit. CME audited MF Global and verified that account money was in the correct accounts and at outside banks on October 26. At least $2.5bn of MF Global’s $5.4bn client funds was with the CME at the time of bankruptcy.
The industry is likely to see significant changes in the way client margins are processed as a result of the MF Global debacle. Right now, it appears participants are waiting for exchanges such as the CME to provide some kind of guarantee going forward, such as putting in place an insurance pool to safeguard customers. “If exchanges hurry up and put something in place, it will go a long way to helping business to return even if it means they have to raise clearing fees to cover the cost,” said one trader.