Dear All,
The MF Global debacle has brought to light a misunderstanding of the structure and guarantees within our industry. We are finding larger members of our community who choose to violate a code of ethics that we have observed for generations. Our industry has prided itself on the fact that no customer has lost funds held in a customer segregated account due to the financial failure of an FCM. This has been due to the cooperation of the futures exchanges, clearing houses, and the clearing members of the exchange clearing houses. It has not been due to any clearing house guarantees. In the past, when clearing firms have failed, everyone worked together to protect the customer. As our industry consolidates, (exchanges, clearing houses, FCMs and the clearing member community), the financial risks of every individual failure have grown exponentially.
The Role of Exchanges vs. Clearing Houses
Exchanges provide a venue to match trades a place where buyers and sellers can reach a meeting of the minds. After a trade is matched, a separate legal entity (the clearing house) steps between the two parties who consummated a trade. Remember the clearing house is a separate entity from the exchange. Two clear examples are (1) the CBOT and the BOTCC, and (2) the ICE and the LCH.
The clearing house becomes the counter party for both the buyer’s and the seller’s clearing member. The clearing house guarantees counter party risk to both clearing members. Every futures clearing house guarantees to its members (the clearing members) it will accept the counter party risk of every matched trade it receives from its associated exchange. If any clearing member fails to meet its financial obligation to the clearing house, the clearing house guarantees all the other clearing members will be paid the profits accruing to their trades. The clearing house does not have a direct relationship to any customer. Neither the exchange nor the clearing house knows the individual customers of any clearing member, nor do they participate in the business decisions of any member.
The trading customer has a business relationship with an IB/FCM, and clearing member. There is no direct relationship between the clearing house and any customer. The clearing house has a relationship with the clearing member. The clearing member guarantees the customer to the clearing house and stands between the customer and the clearing house. Every customer makes a business decision when they choose to do business with an IB, a FCM and a clearing member. It is the customer’s right to balance the costs and benefits, to choose who will receive their business.
Guarantee funds and insurance policies held by clearing houses are to assure the financial ability of the clearing house to stand as a counter party to all clearing members. A clearing house which has no business relationship with a customer of MF Global cannot provide any guarantees to that customer. Additionally, MF Global was a clearing member of multiple clearing houses, both domestic and foreign. The customers of MF Global traded and held positions with exchanges/clearing houses throughout the world. MF Global and its customers had an international business, international obligations and international regulators.
It is the obligation of our industry as a whole to work together to protect our customers who hold the funds in customer segregated accounts. If one clearing member acts to withhold customer segregated funds properly due the customers of another clearing member, this action undermines the integrity of our industry to receive a short term gain.
There have never been regulators or regulations which can prevent fraud or sharp business practices when the perpetrators have the means and motivation. I believe our industry’s reputation is at risk, but I also believe we must lay the blame appropriately before making regulatory changes.
Buck Haworth
Born Capital
National Introducing Broker Association-Treasurer
buck@borncapital.com
