MF Global: Proof that the U.S. government is not able or willing to protect investors
- Posted by PeterLBrandt
- on November 21st, 2011
MF Global clients looked on as their money was stolen under the watchful eyes of your incompetent Uncle Sam.
I have traded commodity markets since the late 1970s. I have always been told — and I believed — that my money was safe, held in segregated bank accounts under the jurisdiction and regulatory supervision of an agency of the U.S. government, the Commodity Futures Trading Commission.
I have been lied to! My money was never safe. Neither was or is yours, if you are a futures trader. No matter what firm you use for futures trading — Merrill Lynch, Goldman Sachs, JP Morgan, Morgan Stanley, Citi Group — your money could disappear even though the U.S. government has been charged with keeping it safe.
The saddest part of this story is that the media had not even identified the real story – that investors can be robbed with theU.S.government as the accomplice.
The media’s focus is on MF Global being the first major casualty of the European debt crisis, on the wild risk-taking endeavors of Jon Corzine and men like him, and on the release of funds by the trustee to brokerage houses to keep futures positions from defaulting. The media has missed the real story. So, what’s new?
There will always be massive blow ups due to foolish over-leveraged speculative positions taken by financial firms. There will always be another debt crisis, such as we are experiencing in the EU. There will always be another CEO who makes a foolish decision that takes his or company into the scrap heap of corporate history.
Perhaps a little explanation of how futures trading works is in order.
Speculators, farmers, money managers, commercial users of certain raw materials, etc. open accounts with Futures Commission Merchants (FCMs), such as was MF Global and is Merrill Lynch Futures et al.
The funds are deposited into segregated accounts at major banks and are to remain in this safe keeping arrangement. When a trade is made in, let’s use Soybeans futures as an example, the Chicago Mercantile Exchange (CME) requires a margin deposit for the trader to hold the leveraged position. So, the CME notifies the FCM that a margin deposit needs to be transferred from the segregated bank account to the CME. The CME’s clearing corporation then becomes the holder of these funds and the guarantor of the futures contract.
The FCM is simply the agent for the trader and is not allowed to dip into the segregated accounts for its own use or to comingle segregated funds with its own bank account.
The blog site The Golden Truth carried a good explanation of CFTC rules this past week in a story titled, “More on Legal Stealing — The Infamous CFTC Rule 1.29.”
According to the Commodity Exchange Act (the overarching law governing futures trading) customer funds at futures commission merchants “shall not be commingled with the funds of such commission merchant or be used to margin or guarantee the trades or contracts…of any customer or person other than the one for whom the same are held.”
CFTC Regulation 1.25 provides that:
“No futures commission merchant and no clearing organization shall invest customer funds except in obligations of the United States, in general obligations of any State or of any political subdivision thereof, or in obligations fully guaranteed as to principal and interest by the United States. Such investments shall be made through an account or accounts used for the deposit of customer funds and proceeds from any sale of such obligations shall be re-deposited in such account or accounts.”
Yet, when MF Global blew up not all segregated customer funds were accounted for. MF Global had, in fact, dipped into the segregated accounts of their clients and used the money as collateral for its own bad trade in European sovereign debt.
The amount of customer segregated account money missing is subject to debate. Some sources say $600 million is missing, other sources estimate the amount is closer to $1.5 billion. There is a chance much of this money will not be recovered and the customers will end up holding empty bags. And therein is the real story.
The U.S. government’s Commodity Futures Trading Commission is charged with insuring that customer segregated funds remain segregated and are not accessed by FCMs for their own use. There were questions for months prior to MF Global’s explosion as to the safety of the segregated funds of its customers. In fact, only when pressed to prove the existence of these segregated funds did the cow dung hit the fan.
Plain and simply, MF Global’s customers have been robbed, and the CFTC is an accomplice. There is another way to say it. Money placed in the safety of segregated accounts to serve as a reserve in the trading of regulated commodity futures is not safe. And if money at commodity brokerage firms is not safe, ultimately no other money is safe. What if the futures firm had been Citi Group or JP Morgan? Those customers would have been left holding the bag as well.
Let me say it as clearly as I know how – if commodity brokerage firms can rob money from its customers’ segregated bank accounts, then customers of any financial firm – be it stocks or fixed income or life insurance or real estate trust or whatever – can be left holding an empty bag.
“Oh,” you might say, “but stock brokerage and banking customers are protected by the SIPC and FDIC and futures are not.” My word to you is this – don’t be so naive!
Segregated funds in a futures trading account were supposed to be guarded by the U.S.government. And the Uncle Sam is currently MIA.
If segregated funds in a futures account are not safe, what makes you think your money in a pension fund or real estate IRA or annuity is safe? Don’t fool yourself! MF Global is the tip of a very dangerous iceberg.
Readers, do not miss this next point. If someone were to now ask me if there money was safe in a segregated bank account related to an an FCM, I would have to say, “No, it is possible for segregated bank deposits to be stolen by your FCM despite the fact the federal government has a congressional and administratve mandate to protect your funds. The law is an empty sham.”
If you , the reader, can’t see how the MF Global situation is a serious leak in the dike, then ou are blind. The U.S. government’s regulatory duty to proect investors is worthless. Suck on this truth, whether you own stocks, annuities, life insurance policies, fixed income instruments or whatever, the U.S. government has taken the position its regulatory obligations are worthless.
And the media is clueless on what the MF Global situation really means. Here is how (Mayor) Bloomberg/Business Week reported on the matter:
“…MF Global’s failure is contained within a relatively small circle of owners, lenders counterparties and customers. This isn’t to minimize the large and painful losses, but there are no public losses and, so far, little systemic fallout.”
BBW has it wrong on at least three counts.
First, “there are public losses.” Excuse me, editors of BBW, what drug have you been snorting? No public losses? A financial services firm regulated by the U.S. government dips into the segregated bank accounts of its customers under the nose of Uncle Sam, and you say “no public losses?” These were not people invested in MF Global. They were not MF Global shareholders. They were people who used MF Global as a middleman for trading regulated markets. Further, I say the loss of confidence in a substantial element of this country’s financial system is a public loss. The value of contracts traded onU.S. futures exchanges dwarfs the value of stocks traded on the NYSE. I say that when a farmer from the middle ofIowa loses money he dedicated to lock in next year’s crop, it is a public loss.
Second, there are crimes involved. MF Global stole its customers’ money. We have financial grand larceny. BBM points out that it does not want to minimize the loss while it completely ignores the crime. Great journalism!
Third, “little systemic fallout?” Again, excuse me! When a branch of the U.S. government fails to perform its congressional mandate it is the very definition of systemic failure.
So, what needs to be done? Let me make four points.
First, the U.S. government needs to make whole the segregated account holders. If the U.S. government can bail out Deutsche Bank, AIG, Fannie Mae, Michigan’s unions, Freddie Mac and a corrupt solar company to the tune of more than a trillion dollars (only to have the executives of said organizations grant themselves millions in bonuses) then it can take responsibility for its screw up in not protecting the public from MF Global, as it was charged to do.
Second, CFTC Rule 1.29 (and any counterpart in other financial markets) must be purged immediately by Congress. While they are at it, perhaps they will also correct a little issue on insider trading. Chances are that no member of Congress had a futures account with MF Global — after all, they make too much money trading stocks. A secure and impenetrable lock box must be placed around customer funds.
Third, the SIPC or similar quasi government insurance program needs to cover the futures industry. Keep in mind, in the end SIPC and FDIC insurance may be empty promises given the government’s lack of responsibility on future market segregated accounts.
Fourth, MF Global’s segregated fund account holders need to hope that some large state teachers’ union had pension money in a managed pool at MF Global. If this is the case, the BOGI men will come to the rescue in a flash.
Let me add a fifth recommendation. The director of the CFTC and all senior regulators responsible for the MF Global fiasco need to be put out to pasture immediately. I doubt Congress or the Administration have the guts to do this.
The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.blog comments powered by Disqus
Peter Brandt entered the commodity trading business in 1976 with ContiCommodity Services, a division of Continental Grain Company. From his start in the commodity industry, Peter's goal was to trade proprietary funds. But, he first needed to learn the business. More »