From the January 01, 2012 issue of Futures Magazine • Subscribe!

MF Global failure highlights cracks in the system

What happened?

There was unease as several major futures industry players scrambled around early Wednesday, Oct. 26 in South Florida looking for news on MF Global instead of simply enjoying a nice round of golf at the CME Group’s Global Financial Leadership Conference in Naples. The day prior there was word that MF Global was in trouble. The firm announced (after moving it up) its fiscal 2012 second quarter earnings report after one ratings agency had already downgraded its debt. The news was not good — a loss of $191 million — but more disturbing were revelations the firm had built a huge proprietary trading position in European sovereign debt that was draining capital from firm assets.

The stock plummeted, MF received additional credit downgrades and industry insiders mulled who would come in to buy the firm. At this point, heading into the last weekend of October, there was a growing realization that a sale and or bankruptcy were imminent, but that was seen as a worst-case scenario. Today the industry can only dream of a simple bankruptcy.

A potential sale to Interactive Brokers Group was scrapped early on Oct. 31 as a shortfall in MF Global’s customer-segregated funds was revealed. What followed was a confusing series of events that punctured previously held assumptions of the safety and security of futures segregated accounts and left futures customers feeling abandoned.

On Oct. 31 the Securities and Exchange Commission (SEC) and Commodity Futures Trading Commission (CFTC) announced, "that a SIPC [Securites Investor Protection Corporation]-led bankruptcy proceeding would be the safest and most prudent course of action to protect customer accounts and assets. SIPC announced today that it is initiating the liquidation of MF Global under the Securities Investor Protection Act (SIPA)."

It certainly would not be the quickest.

This baffled futures industry participants who felt it would delay customers being made whole. SIPA calls for the bankruptcy of dually registered futures commission merchants (FCMs) and broker/dealers (BDs) to come under SIPC. But futures regulators in the past had gone to court to fight for jurisdiction when an asset freeze would be adverse to futures industry customers. In the Sentinel bankruptcy, the CFTC fought to have customer funds released immediately.

The week following the filing was a confusing one, with traders barred from the floor, accounts frozen and liquidation-only orders being followed sporadically. The SIPC trustee did work with CME Group and the CFTC to arrange a transfer of approximately 14,500 futures accounts with roughly 60% of the margin backing those positions.

When that initial distribution was complete the trustee announced plans for a claims process that eventually would return the remainder of customer funds as well as addressing other creditors.

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