-- Posted 9 November, 2011 | | Discuss This Article - Comments:

It now appears that the 200 year old trading and processing firm MFGlobal will go into bankruptcy following rumors that the firm did not have enough capital on hand to protect accounts.  The company, which has seen its share price tumble by more than 85% this year, is expected to send several waves through the commodities market, mostly due to its expansive reach.

Through a restructuring plan that would allow the CME Group to go public, the operator of major global exchanges privatized market-making and clearing functions to companies like MF Global.  Earlier on Monday, it was reported that smaller firms which routed orders to MF Global for batch processing were experiencing difficulties placing trades.  Later, it was made public that MF Global would not process new trades, and instead only allow for the liquidation of investments held by the firm on behalf of clients.

Primary Dealer Lost

The size and scope of MF Global is best understood by one of its roles in one of the most coveted positions in the market; the company was a primary dealer to the Federal Reserve. 

The New York Federal Reserve Bank announced that it would restrict MF Global’s access as a primary dealer to the US Treasury.  Primary dealers are obligated to purchase US Treasury securities from the Federal Government, and then disburse them to the public and smaller banks through the secondary market.   For MF Global, and any bank, the position as a primary dealer is often a profitable one—primary dealers have been known to hold securities from the public ahead of rate cut announcements, which drive up the value of securities held by the firms.

Market Confusion

According to reports, MF Global traders were escorted off major trading floors around the world as exchange operators took control of the firm’s accounts.  Later this week, the market expects Chapter 11 bankruptcy proceedings to continue forward, which many worry could send ripples through the financial system.

It appears that MF Global’s massive bets on sovereign debt may have broken the firm.  However, unlike past bank failures, MF Global appears to have enough assets on hand to pay out customer accounts.  Investors, on the other hand, who backed the company with stock and bond purchases, may see little to nothing after the bankruptcy is settled.

Going forward, silver investors should tread lightly, as silver should be increasingly volatile until MF Global’s customers find a new clearing company.  Silver is one of the least traded contracts on the future exchanges around the world, meaning that after MF Global’s demise, liquidity may be vastly limited.  Analysts suggest that traders who previously worked with the firm should be able to pass regulatory and corporate scrutiny with another major investment bank or broker, and that all traders who used the firm as a proxy for order fulfillment should be back in the market by November 4 at the latest.  Until then, expect light volumes, very swift changes in volatility, as well as large blocks of orders as MF Global traders who wound down on Monday re-enter positions later in the week.

Dr. Jeffrey Lewis

www.silver-coin-investor.com