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

MF Global’s original sin

Nov. 1 hearing

When a firm enters bankruptcy, the first priority is to secure assets for all parties. If funds are missing from the safe or if there are indications of “fraud, dishonesty, incompetence or gross mismanagement of the affairs of the debtor by current management,” the court has cause and may be compelled to appoint an examiner or trustee immediately as required by the bankruptcy code. 

Millions of dollars were unaccounted for, but this did not happen. Holdings was allowed to operate on its own for another three weeks without a trustee until Nov. 28, and intercompany money transfers among the units were permitted to continue under the authority of current executives. The transcript of the day-one hearings reveals how. But first, we must point out that MF Global’s major creditors (mostly JPMorgan, to the tune of $1.2 billion) had significant sums at risk with the firm. Because a brokerage only can enter a Chapter 7 or SIPC protection, breaking the brokerage unit off into a separate filings enabled Holdings  to secure a creditor-friendly Chapter 11 filing status. 

Competing filings added to the tangle of multiple regulators and investigators, with the Federal Bureau of Investigation, the Department of Justice, the CFTC, the SEC and Congress all separately looking for the “missing money.” Or, as The Wall Street Journal ludicrously would come to characterize it — the “vaporized” funds. This bankruptcy structure also allowed Chapter 11 Trustee Louis Freeh to withhold information from investigators under attorney-client privilege, which appears to have added to the ongoing confusion. As with any struggle over resources and assets, for those preparing the bankruptcy — attorneys for MF Global Holdings, creditors and regulators — pre-programmed confusion can offer a tactical advantage.

CFTC Chairman Gary Gensler may have been sleeping and his staff unmotivated to assert their authority for commodity customer protection in the early hours on Monday morning, but other regulators were active, such as Robert Cook of the SEC, who in 2009 left a multi-million dollar partnership with Cleary Gottlieb Steen & Hamilton LLP, representing the securities and banking industry, for a top position at the SEC as director of the Division of Trading and Markets. When MF Global was burning, his SEC division would consult with Holdings’ attorneys regarding the bankruptcy structure under which commodity customers were to become creditors with their priority status to be fought out in the court. 

Criminal negligence and bankruptcies happen all the time, but with so much customer property gone while regulators literally were on-site, this event was a massive regulatory failure. This bankruptcy structure not only positioned creditors and MF Global executives with the best possible stance, but also allowed regulators to take a backseat to the bankruptcy proceedings and point fingers of responsibility at each other. 

So here we have it: Bankruptcy filings structured to allow the parts of MF Global and its customers to compete for remaining assets. A reorganization Chapter 11 bankruptcy, with a creditors’ committee securing their interests, choosing their trustee weeks later and paid from the estate for their trouble. A structure in which commodity customers would be deemed unsecured creditors left “to meekly fill out the claims forms presented by the SIPC trustee,” as CFTC Commissioner Scott O’Malia said in a January 2012 speech.

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