ZERO INTEREST RATES
Adding to the difficulty of lower volume due to large losses by customers and overall deleveraging is that the remedy for the recession — a low to zero interest rate policy by central banks — has made it difficult for brokers to earn interest on customer funds. As competition continues to squeeze brokers’ fees, they have relied more on interest or the float they could earn.
“It has been more difficult. Volume has been dropping. One of the main issues is that Treasury interest income on the customer segregated fund side [is down] so there is less revenue,” Blanc says. “When you have extremely low commission rates and no more Treasury income, what the industry is realizing is that clearing of [futures] was subsidized by Treasury interest.”
And while most of the heads of FCMs we spoke to believe that will change in 2010, it may not be until the second half of the year.
“As we have seen in certain parts of the world, like Australia, there is going to be tightening. Whether it is the next couple of months or not, we expect the UK and U.S. to do the same to ward off potential inflation,” Dan says.
Junya (Jeff) Nagase, president and CEO of Triland USA, expects business to improve in 2010 but adds, “Interest rates will remain low for most of 2010.”
Dan adds that MF Global was still able to generate interest income despite low interest rates. “In the last quarter, Fed Funds have had an effective interest rate of [18 basis points] and we still managed to drive a meaningful return.” Dan estimates MF earned $32 million in the third quarter from net earned interest.
And several FCMs have reported improving conditions as the year has gone on. “Things appear to be loosening up and growing,” says Joseph Guinan, chairman and CEO of Advantage Futures. “August and September were our two best months.”
Marc Nagel, COO of Dorman Trading, also has seen growth and believes Dorman benefits from being smaller. They have grown in the last five years from a small FCM servicing locals to one averaging three million contracts a month. “We have no committees [and] no chain of command [to go through]. We are trying to be a boutique for the retail trader.
“Like everybody else we hit a soft spot in the middle of the year,” Nagel says, but adds, “We are opening up accounts left and right. They look at us and say, ‘they are a little small but they give us the service we need and they have the products we want.”
However, Guinan adds that there is still a great deal of uncertainly following the credit crisis. In prior years he could take those better numbers in the second half of the year and use them to extrapolate growth in 2010. “The problem is that everything has changed. In the past you could better predict growth but since the credit crisis [hit], it is harder to gauge how and when people [will] come back to the markets,” Guinan says.
WHAT WORRIES BROKERS
Peterffy also is concerned with regulatory harmonization. “The CFTC and Securities and Exchange Commission (SEC) are entrusted with drafting legislation that they have to agree on and if they cannot agree they could go to court. That sounds frightening to me because we all will be frozen.”
Peterffy would like to see one merged and powerful regulator and certain sunset laws but fears with both agencies having input you could end up with a similar situation to single stock futures. They have not succeeded in the United States and many insiders blame the dual regulatory structure.
Nagase is concerned with the proposed added capital requirements for FCMs but says the biggest issue for brokers is liquidity and notes that while some additional regulation is necessary, too much regulation could hurt liquidity. “We need liquidity and stability,” Nagase says.
Dan is concerned with the direction the CFTC appears to be taking in terms of position limits. “You don’t control pricing and volatility by limiting participation, so what is going to happen — and you are seeing some signs of it from a U.S. perspective — is people are going to offset risk elsewhere.”
Dan adds that it won’t hurt MF Global because of its global footprint but it is still a bad trend. “The CFTC approach has been more reaction to pricing, as opposed to introducing greater transparency. I find it hard that anybody in Washington should determine how much BP should access the market. It doesn’t make sense.”
Dan adds, “What I am concerned about is politicians responding to populist trends to monitor market performance and they are not looking at a root cause. That to me, from a U.S. perspective, will drive business internationally or away from the regulated market.”