CHICAGO/NEW YORK MF Global Holdings Ltd failed to protect customer accounts by keeping them separate from its own funds, said a top U.S. exchange regulator, another shock for commodity markets scrambling to contain fallout from the brokerage's bankruptcy.
The revelation on Tuesday by CME Group Inc suggests Jon Corzine's MF Global violated a central tenet of futures brokerages. It could erode confidence in a market that for decades has enjoyed a sterling reputation for safety.
MF Global cannot account for a large amount of customer money that was supposed to be kept separate from other funds, sources said, and regulators are scrambling to review the broker's accounts. The cause of the shortfall -- including whether the company pilfered client funds or merely cannot account for the money -- was not clear.
The Federal Bureau of Investigation is showing preliminary interest in regulatory probes, a person briefed on the matter said.
MF Global did not keep customer accounts separate from the firm's funds, said Craig Donohue, CEO of exchange operator and market regulator CME Group. Even though the client money could eventually be accounted for, the regulator believes the firm broke the segregation rules.
Another regulator, the Commodity Futures Trading Commission, voted to issue subpoenas to the firm, the Wall Street Journal reported.
Neither MF Global nor Corzine has been accused of any wrongdoing.
The New York Times reported late on Monday that federal regulators discovered that hundreds of millions of dollars in customer money -- supposed to be segregated and protected from the rest of the business -- had gone missing.
At the U.S. Bankruptcy Court in Manhattan, MF Global's lead attorney, Ken Ziman, said all of the funds in the company's broker dealer are accounted for.
To management's best knowledge, "there are no shortfalls" in brokerage accounts, said Ziman, of law firm Skadden, Arps, Slate, Meagher & Flom, as MF Global's first bankruptcy hearing began on Tuesday.
The fall of the brokerage led by ex-Goldman Sachs Group Inc boss and former New Jersey governor Corzine sent shockwaves through commodity markets.
While MF Global began what could be a complicated process of liquidating customer positions, some customers feared that millions of dollars were tied up in bankruptcy. Others expected lawsuits, according to interviews with brokers, funds and lawyers.
"We're basically putting out fires," said an MF Global employee. "Our customers are upset and we're upset that they are upset."
A company spokeswoman declined to comment.
On Tuesday night, the Investment Industry Regulatory Organization of Canada announced the suspension of MF Global Canada Co. Trading in Australian agricultural futures and options on the ASX 24 platform will resume on Wednesday after being suspended following the collapse of MF Global, exchange operator ASX Ltd said.
MF Global had $7.3 billion in customer assets on August 31, according to Commodity Futures Trading Commission data. It was the eighth-largest U.S. futures broker and had a big presence in commodity markets worldwide. The company filed for Chapter 11 bankruptcy on Monday after failing to find a buyer.
Bets Corzine made on euro zone sovereign debt led to a plunge in the company's stock last week and credit rating agencies cut its debt to junk. Its collapse over less than a week was reminiscent of, although smaller than, investment bank Lehman Brothers in 2008.
Asked if CME's clearinghouse would be on the hook for losses, CEO Donohue said it would not be. But the same may not go for customers, he said.
Said Michael Greenberger, a former director of the CFTC'S trading and markets division, and a law professor: "I'm sure that customers of MF Global are not feeling very good right now and (are) madly investigating their rights and the facts of this case."
CME, widely known as a commodities futures and options exchange, is listed as one of MF Global's main exchange regulators and is responsible for ensuring that its clearing members stay in compliance with rules on customer funds.
"We do have a big problem with a hole in the segregation and that is a serious first-of-a-kind problem that we've ever seen here," a source familiar with the CFTC told Reuters. "We're trying to figure out what MF Global did with it and where is it."
Said another federal official: "The only thing we're concerned about is, the money is not where it's supposed to be under federal law. Where it is, that's what we're looking into."
"SHOT OUT OF A CANNON"
At a hearing on Tuesday, Judge Martin Glenn approved MF's request to use $8 million in cash collateral held by lender JPMorgan to keep the company running for 10 days.
MF agreed in exchange to grant JPMorgan a lien on certain legal actions and to pay the banker's legal and other professional fees up to $250,000.
Ziman described the hectic weekend that preceded the company's Monday bankruptcy filing. The downgrade of its assets and a subsequent disappointing earnings call created a "circumstance that can be described as a rock rolling down a hill," he said. "Except for us, the rock was shot out of a cannon."
Ziman said one of the reasons the company sought to use cash collateral was to give it time to better understand the relationships and cash flows between MF's bankrupt entities and its non-bankrupt subsidiaries.
About $5 million of the package will be reserved for "discretionary" spending to seek longer-term financing.
MF Global's lawyers are looking for debtor-in-possession financing now, Ziman said.
The other $3 million will go toward administrative costs, including continuing to pay all of MF's employees.
Ziman said MF has more than 2,800 employees worldwide, but only 13 at its parent company, MF Global Holdings. He did not say how many are employees of MF's U.S. entities.
Judge Glenn approved the cash collateral deal, despite some skepticism, saying the relatively small bridge financing package "may be a bridge to nowhere."
KPMG, appointed as administrator to MF Global's British arm, said it was closing out positions under a system set up to prevent a repetition of the work-out of the Lehman collapse.
Richard Fleming, KPMG's head of restructuring, said he was confident clients would see their money again.
The bankruptcy filing put a sudden end to Corzine's drive to transform the more than 200-year-old MF Global into a mini Goldman and made it the most prominent U.S. victim of the euro zone debt crisis.
Commodity traders pointed to MF Global's turmoil and Greece's surprise referendum to explain why U.S. oil prices fell more than 2 percent.
"MF Global has caused the markets and all of their traders lots of heartburn," said Todd Horwitz, chief strategist at The Adam Mesh Trading Group.
The London Metal Exchange and the U.S. Options Clearing Corporation suspended MF Global, following a similar move by the CME Group, which operates the Chicago Mercantile Exchange.
The New York Stock Exchange has begun the process of delisting MF Global shares.
(Additional reporting by Douwe Miedema in London; Christopher Doering in Washington; Tom Hals in Wilmington; Thennarasu Kumarasamy in Chicago; and Lauren LaCapra, Nick Brown, Jonathan Stempel, Robert Gibbons, Janet McGurty, Matthew Robinson and Grant McCool in New York; editing by Helen Massy-Beresford, Robert MacMillan, Andre Grenon, Gary Hill)