NYPC's Lukken:MF Global Shows Challenges For Futures Brokerage Model

The pressures that built on MF Global Holdings Ltd. (MFGLQ) ahead of its collapse in late October highlight the difficulties facing firms that handle futures trades, according to Walter Lukken, head of New York Portfolio Clearing.

The added cost of complying with new regulations under the Dodd-Frank financial law and potential for tighter restrictions on investments of customer money add to an already tough climate for futures-clearing firms to turn a profit, Lukken said at an event Wednesday.

"I think you could see more consolidation, or a lack of a home for retail customers or local traders at the CME," said Lukken, a former acting chairman of the Commodity Futures Trading Commission who now heads the futures clearinghouse backed by NYSE Euronext (NYX) and the Depository Trust & Clearing Corp.

MF Global's push into more-risky investing--including the positions linked to European sovereign debt that factored into its downfall--was driven in part by former Chief Executive Jon Corzine's desire to build the firm into a more-profitable entity.

The New York firm filed for bankruptcy Oct. 31 after a surprise quarterly loss and series of credit downgrades prompted investors and trading partners to lose faith in MF Global, and a last-ditch effort to sell the firm failed.

A central part of MF Global's business lay in its role as a member of clearinghouses such as NYPC and that operated by CME Group Inc. (CME). The firm used that status to facilitate the transactions of smaller brokers, asset managers and floor traders.

A chief source of income for such futures commission merchants has been the interest earned on client money held on deposit, but this largely dried up after central banks around the world heavily cut rates in an effort to keep credit flowing after the 2008 financial crisis.

In response such firms have moved into new lines of business, such as MF Global's push to embrace more principal risk by taking the other side of customer trades. Futures clearing firms have also defended an expanded range of ways to invest customer money.

Some of those options may disappear, however, with CFTC officials voicing support for a rule proposed last year that would curtail some methods of investing client assets. Sitting CFTC Chairman Gary Gensler at the same event Wednesday voiced support for such a measure, which he said would reduce potential conflicts of interest.

"As the CFTC revisits what type of [assets] they can invest in, that's going to take profitability out of the FCM model," said Lukken.

One possible result, Lukken said, is that such futures firms gravitate toward institutional investor clientele, leaving fewer firms to service smaller segments of the market like retail investors or floor traders.

"I don't think that's a good development," said Lukken. "We want as broad an ecosystem in the trading environment as possible."

-By Jacob Bunge, Dow Jones Newswires; 312 750 4117; Jacob.bunge@dowjones.com

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