From the April 01, 2009 issue of Futures Magazine • Subscribe!


Last fall, on the day that Lehman Brothers fell, I was on a flight to Florida for a CME Group financial conference. The plane was filled with industry people and everyone was abuzz about Lehman’s failure and possible market fallout. But what was remarkable was the calm, even when the meeting began that afternoon. The biggest CME members were attending this conference, and relatively few, if any, seemed overly concerned. Headlining the opening speech, and what was serendipitous timing on the CME’s part, was none other than Paul Volcker, former U.S. Federal Reserve chairman, who has seen some volatility in his days.

Of course Volcker spoke about the “reversal of the exuberance” in the markets, noting that “fear is driving the markets today.” He spoke of a “failed financial structure held together by extraordinary actions,” and said that, although he was “reassured” with the CME’s clearinghouse, he wasn’t as confident with the credit and securities markets. Perhaps he was speaking to his audience, but frankly, he was right on target. And that’s why there was relative calm with that group, as the clearing systems forged in the futures and options industries have proven to work. Later Volcker, in a roundtable with several global central bankers, noted that he foresaw trouble in the $3 trillion dollar a day forex markets, especially on the retail OTC side. Especially in the United States.

Anyone who watched the fall of Refco, which carried a big name and vanished practically overnight, understands where Volcker was coming from. Although the futures side of the accounts were moved with no problem, the OTC forex players got little back on their dollars. Clients were stunned to realize they weren’t protected, but they shouldn’t have been.

A week after the CME forum, I moderated a retail forex panel at a Profit/Loss conference during which I asked the panelists — three forex brokers and one professional trader — how they dealt with account safety nets. One said his firm was Triple A rated, so it wasn’t an issue. Another replied that rules were different around the globe. However the trader, who unbeknownst to me at the time had been stung in the Refco forex blowout, told these brokers they better start thinking of ways to protect those accounts in case of a firm failure, because, he said dryly, “Triple A can evaporate quickly.” He said the broker who could prove customer funds were protected on the OTC side would have a competitive edge.

Since then, the U.S. regulatory system covering the retail OTC forex markets has undergone some changes, mainly by increasing capital requirements on forex brokers. But some firms are taking bolder steps. For example, a recent move by Citibank and its retail forex arm has begun to insure its retail forex accounts through Citi’s FDIC umbrella (see “Getting started in forex,” by Associate Editor Christine Birkner). This is a brilliant move, especially with the weakness of Citibank in recent months. Granted there are rules to follow, but at least if the parent goes bust, the client won’t be penalized.

Foreign exchange is an incredibly liquid and exciting market. The retail OTC side has grown up overnight, carving out an expanding business that the large banks have now grasped. Now, more than ever, there is a driving need by bank, forex and futures brokers to service these clients. Citibank’s move is a step in the right direction. Futures markets have proven their resourcefulness in protecting clients, now it’s up to the OTC market to do the same. Not only will it help legitimize the business, it will keep encroaching regulators at bay. That alone should be inspirational to the creative process.

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