Washington, 25 July (Argus) — A CME Group trial balloon that proposes moving futures customer funds from brokers' bank accounts to clearing houses is drawing concern from the industry and regulators who question whether it would concentrate financial risk and could be implemented under current law.
The Commodity Futures Trading Commission (CFTC) and futures brokers are studying the plan, which CME executives hinted at in a letter this week outlining the company's response to client fund shortfalls at MF Global and PFGBest. The so-called futures commission merchants (FCMs) placed positions on exchanges for clients looking to hedge or invest in commodities.
“Ultimately, it's just a lot of vetting that needs to go on throughout the industry to see if it's actually a viable proposal,” CME executive chairman Terry Duffy told Argus today. “But some [market participants] have called for it.”
The shortfalls at MF Global and PFGBest less than a year apart has spurred a major review of the decades-old system of futures oversight, which relies to a great extent on self-regulation by industry groups such as CME. The CFTC appears unwilling to radically overhaul the self-regulatory arrangement, so it and industry players are proposing a slew of modifications to the current system.
In a 23 July open letter to customers, Duffy and chief executive Phupinder Gill said they were “exploring the concept” of having clearing houses – like those operated by CME – hold client funds, while returning any accrued interest on the money to the futures brokers placing the underlying positions.
Duffy told lawmakers today that futures brokers are “very capable” of holding the funds, “but at the same time we know there needs to be confidence in the marketplace.”
“If in fact customers felt safer at CME Group or a third-party depository, we would be prepared to do that,” he said in testimony to the House of Representatives Agriculture Committee.
Brokers are apprehensive about the proposal. There is concern about increasing reliance on clearing houses, which are taking on more risk because of the Dodd-Frank Act's requirements for clearing off-exchange derivatives.
“From where we sit, we're already being asked to take a large amount of new exposure to clearing houses, and we think that increasing our exposure really has to be thought through carefully,” Newedge general counsel Gary DeWaal, who handles regulatory issues for the large futures commission merchant, said in an interview. “We think that all firms should diversify their exposures.”
When asked about the risk concentration concern, Duffy said “We're not pushing this proposal. We believe the FCMs should be holding their clients' money.”
The CME proposal raises questions of whether it will charge a fee to futures brokers for holding their customers' money. The companies are already under “tremendous” financial strain because of depressed futures volumes, low interest rates and an “ultra-competitive” pricing model, Futures Industry Association president Walter Lukken, a former CFTC acting chairman, said today.
“Many are concerned that the business is reaching a point where it cannot absorb additional costs without a seismic shift in the model, whether it is significant consolidation among FCMs or FCMs leaving the business altogether,” he said.
CFTC chairman Gary Gensler today said the proposal raises questions about what bankruptcy protections would be available for futures customers who hold money at clearing houses.
“It actually might need more than rulemaking, it might even need law,” he said. “We're in dialogue. All these considerations have been discussed and they're on the table.”
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