Financial Stability News

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Category Archives: Hedge funds

MF Global Customer Funds Were Not “Vaporized”

Todays hearing in the Senate Banking committee on the MF Global bankruptcy were supposed to deal with how we can avoid a similar debacle in the future. Much of the action was still on where the money went and how this could happen. Not so much new information during a short two hour session, but obvious that the relevant rules (1.25 &30) could be used in a quite flexible way as a result of previous strong lobbying by Goldman Sachs (for rule making proposal to straighten up this loophole, see here, and for the objections from MF global, see here). Unbelievable that CFTC let them continue with investing client money in European debt and in-house repos! Gensler, chairman of CFTC and former colleague of Corzine at GS obviously has a problem with this case (he has left it to his commissioner Sommers to handle the case on the Hil)

This post from January capture the angry (and probably correct) mood among the MF Global clients, when it comes to lack of fair treatment. And nobody should believe that the money just “vaporized”. They were stolen twice!

Where is MF Global’s client money?

The most recent estimate for the missing client money of MF Global is now 1.6 billion dollars (up from first estimate of 1.2). You should think that someone by now had figured out where the money is, but not so. They are still missing.Former head of MF Global, Jon Corzine (also former GS, former Governor of NJ and former Senator) restated this when he was questioned in the Senate some weeks ago.

But according to this post, “everybody” knows where the money is, but are afraid of telling.

In fact, MF Global executives knew exactly what happened to the money, as do the regulators who oversaw the firm’s bankruptcy. The so-called segregated customer funds were repeatedly, and legally (through re-hypothication), used as collateral for MF Global loans for 100:1 leveraged bets on European sovereign debt.  

Rather than being treated as a bankruptcy of a commodities brokerage firm under sub-chapter IV of the Chapter 7 bankruptcy law, MF Global was treated as an equities firm (sub-chapter III) for the purposes of its bankruptcy, and this is why the MF Global customer money in so-called segregated accounts “disappeared”. In a brokerage firm bankruptcy, the customers get their money first, while in an equities firm bankruptcy, the customers are at the end of the line, meaning MF Global’s creditors, namely J.P. Morgan and other trading counterparties, got their money first.

To add further insult to injury for MF Global clients, the firm reportedly unloaded hundreds of millions of dollars’ worth of securities to Goldman Sachs, and others, who then reportedly flipped these securities within a day to George Soros funds.

The big question is why it takes so long to get this message out to the public. According to this post the reason is …

… that the political powers that be in Washington are protecting JPM CEO Jaime Dimon from a possible career ending kind of stumble with respect to MF Global. By stuffing the commodity customers of the broker dealer via an equity bankruptcy resolution supervised dutifully by SIPIC, JPM and Soros apparently get to benefit at the expense of the commodity customers of MF Global. This situation stinks to high heaven and everyone on the Street we’ve spoken to about the matter knows it.

€680Bn LTRO Take Up?

Zero Hedge reports today that Goldman has conducted a poll among among banks and investors about their views on the next ECB long term funding operation coming up end of February. The consensus is for a substantial increase, close to 680 trillion euro. But, as the post notes, if the banks use this to exchange weak assets for cash in ECB deposits account, it is essential paying interest to retain mirage of solvency. Question is how long this process can go on? Perhaps, as ZH notes, until hedge funds start shorting all the banks taking money in the LTRO? Time will tell.

For and Against the Volcker Rule

New York Times carries a story today that the so-called Volcker rule, that would bar US banks for carry out proprietary trading, could seriously harm the liquidity in foreign bond markets and drive borrowing cost up. This is not something the European countries want just now. Even Canada is upset and claims the rule would be a breach of the North-American free trade agreement.

The rules are out for hearing, based on a rather inept proposal from the Treasury with as many open questions as there are pages (around 300). This prompted one of the sponsors of the bill, senator Merkley, to tell the regulators recently to do a much better job of drawing up clear, bright lines so as to avoid another repeat of the financial crisis of 2008. In his words, the Volcker rule is about taking deposit-taking, loan-making banks out of the hedge fund business. Hedge funds should be able to make bets, but not with taxpayers money.

If you want another view, look up this post by our friend Doug Elliot at Brookings. In a testimony before Congress he claims the the Volcker rule is fundamentally flawed. This is basically because the current proposals try to regulate on the basis of (speculative) intent, which according to him, will be near impossible. He also notes that the blurring between traditional lending and securities lending have made the securities business an integral part of banking. Preventing banks from holding securities inventories would be paramount to ban banking, according to him.

With the FDIC, Fed and Treasury all against the new regulation, and now foreign government adding pressure to delay, my guess is it will take some time before the Volcker rule is enacted in the US.

Greece from bad to worse

According to this post from Naked Capitalism today, the situation in Greece is deteriorating rapidly. Unemployment is approaching 20 %, suicides are up over 20 % since 2009, and pharmacies are running out of medicines. The only solution around seem to be more budget cutting, with further devastating effects.

As GDP contracts, the IMF targets for the budget deficits seems more and more elusive, and there are suggestions that the only way out is for bigger haircuts on private creditors (i.e. banks and hedge funds, sitting with most of the Greek bonds). However, the current Private Sector Initiative (PSI) is running into headwind, and according to this story is about to break down (even based on the current proposal for haircuts).

At the same time, hedge funds are positioning  to reap profits either way: If no haircut, they will get their money back in full; with a haircut, they bet on cashing in on their CDS protection or force a 100% conversion. Latest estimate was for hedge funds to sit on 80 % of the Greek debt, after European banks unloaded it before Christmas.

So, is an exit from the Euro an option for Greece? Not according to London-based hedge fund firm Toscafund: “A Greek exit from the euro zone would be worse than catastrophic and could provoke greater social unrest, Zimbabwe-style inflation and a military coup”. But as someone noted in a comment: They must be heavily invested in Greek bonds to pull such a horrible story. But then, you never know.

With so much focus on the problems in the peripheral countries, S&P came with a welcome balancing news in the afternoon: A possible downgrade of France and Austria. Which shows that all the EU countries are in the soup together. Perhaps it is time to find ways to get out of it together as well. This alternative view is presented by Dr. Heiner Flassbeck from UNCTAD in thisYouTube video. If you have the time, watch it over the week-end and learn how Germany is the real villain in the story. Refreshingly different perspective to the current travails of Europe.