Originally published in the Financial Times
MF Global is not the first firm to be done in by bad bets in the casino known as Wall Street, nor will it be the last. With many questions still unanswered – perhaps most importantly what exactly happened to the $630m of customer money that was required to remain in segregated accounts – attempting to divine the meaning of its collapse may
be premature. But a first rough draft of the meteoric history of the brokerage company offers a few lessons and timely reminders.
For starters, the financial world has always had, and will continue to have, a regular procession of rogue elephants – individuals who by virtue of bad investment judgement, avarice or dishonesty succeeded in wounding their employers, either mortally (think Barings) or less consequentially (think UBS). Guarding against these kinds of black swan disasters challenges even the most formidable internal controls.
Unusually, of course, MF Global went awry at the very top of the company. But that is also not without precedent. In 1998, the bets of Long Term Capital Management, the hedge fund, almost brought down the American financial system. Protecting against errors of that sort depends heavily on the regulators and their policies.
So this first post-Dodd-Frank failure of a significant financial institution provides an opportunity to assess the quality of regulatory oversight. The conclusion may ultimately confirm the fears of those who doubted the efficacy of the recent reform legislation.
Once again, we appear to be confronted by a company that was supervised by a patchwork of regulators, none fully in charge. Last February, shortly before the arrival of Jon Corzine (full disclosure: a friend of mine) as chief executive, MF Global had been lifted into the pantheon of ‘primary dealers’ by the Federal Reserve. After its bankruptcy, the Fed took pains to emphasise that it was not MF Global’s regulator.
Meanwhile, the Commodities Futures Trading Commission was responsible for overseeing how the accounts of the brokerage’s customers were handled, but did not appear to have authority over MF Global’s balance sheet.
Those that did – the Securities and Exchange Commission and an industry self-regulator – eventually forced it to increase its capital but by then it was too late for the company, which was leveraged around 44 to 1, well in excess of Lehman Brothers levels. (Leverage, of course, is the crack cocaine of Wall Street, amplifying the highs but risking terrifying falls.)
Then there’s the Volcker rule. Even without knowing exactly what happened with customer deposits and whether they were used to purchase risky sovereign debt, it is not hard to see the events at MF Global as confirming the wisdom of the principle that the money of depositors or other customers of financial institutions should not be used in imprudent ways.
Finally, let’s be careful not to see only what we wish in the MF Global collapse. I reject the notion that this is another example of financial industry compensation run amok. Mr Corzine received a salary of $1.5m, a signing bonus of $1.5m and $11m of stock options, very small beer by Wall Street standards.
Nor is this is an example of the unfortunate consequences of an asymmetrical risk-return prospect for the company’s managers. It’s unquestionably true that Mr Corzine had more to gain financially from a success with MF Global than he had to lose in its collapse. But in the end, he lost something far more valuable than his salary, his bonus, or the $23m of severance and stock options that vaporised in the bankruptcy. He lost his reputation at a moment when he was tipped as a possible successor to Treasury Secretary Timothy Geithner. That will haunt him far more than any monetary consequences.