WASHINGTON, Nov 10 (Reuters) - Long before the brokerage
firm MF Global collapsed into bankruptcy and prompted a frantic
search for missing customer money, the company had already
established a checkered history.
An analysis of regulatory enforcement actions shows MF
Global has drawn more sanctions from the U.S. commodity futures
regulator than each of its 14 closest peers in that market over
the past decade. MF Global has also drawn the second-highest
amount in fines, for alleged lapses in risk supervision and
MF Global and the Commodity Futures Trading Commission both
declined to comment.
And five private lawsuits against the firm allege, among
other things, that MF Global was a vehicle used by two Ponzi
schemes, including one that was later dubbed "mini-Madoff."
None of the violations took place on the watch of Jon Corzine who took the helm of MF Global in 2010. A former chief
of Goldman Sachs and a one-term New Jersey governor, Corzine
resigned from MF Global last week, expressing "great sadness"
over the firm's collapse.
The broader issue of internal control and risk-taking at MF
Global before its meltdown is emerging as a central avenue of
inquiry both for lawyers filing claims on behalf of investors,
and for regulators seeking to find some $600 million missing
from MF Global.
"The issue of internal controls will be part of our
independent investigation," said Kent Jarrell, a spokesman for
the trustee overseeing MF Global's bankruptcy.
While MF Global clients headed for the exits in the final
weeks as fears grew about risky bets on European debt,
regulators and investors had already raised concerns about how
the company was run. Among them was the CFTC, which repeatedly
sanctioned the company for "risk supervision failures".
Among more than a hundred brokers overseen by the CFTC, MF
Global ranked eighth largest by customer money, with $7.2
billion in segregated client accounts, according to an August
2011 CFTC database. Larger brokers in the top 15 included
heavyweights such as Goldman Sachs, Newedge USA and JP Morgan
Securities. And smaller merchants in the top 15 included
Barclays Capital Inc, Credit Suisse and Jefferies Bache.
Between 2000 and early 2011, the CFTC sanctioned MF Global
for six alleged violations, involving lax supervision and
recordkeeping, and levied penalties totaling more than $12
million, according to the agency's data. Only Morgan Stanley
drew a higher penalty -- a $14 million fine in 2010 for an
alleged attempt to hide a large oil futures trade from
In the same time period, the CFTC sanctioned Citigroup,
Merrill Lynch, Newedge, JP Morgan and ADM Investor Services one
time each for separate alleged violations, and imposed
penalties not exceeding $500,000 in each case, according to the
agency's enforcement records. UBS was reprimanded twice, and
fined for a total of $250,000. And in 2011, a former Citigroup
trader was ordered to pay nearly $1.5 million in civil
penalties and in compensation to Citigroup, for allegedly
CFTC's public records between 2000 and 2011 do not list any
enforcement actions for the eight other firms among the top 15
futures brokerages in the country, as ranked by the agency.
These records cover only civil actions brought by the CFTC.
Because many of the larger firms on the list do business across
several asset classes that fall under the purview of other
regulators, the CFTC data does not include enforcement efforts
by other agencies.
Separately, many of the big financial firms on the list
have also been a target of private lawsuits questioning their
Asked to comment on MF Global's record with the CFTC, a
former veteran agency official, who declined to be identified
by name, said: "The violations reveal a pattern of weakness in
MF Global's (internal) supervision as compared to its peers." A
CFTC spokesman declined to comment on how MF Global's record
may compare to that of the other firms regulated by the
"MINI-MADOFF" RED FLAGS
In several lawsuits, trustees of failed businesses that
traded through MF Global have also alleged lax oversight at the
Among them is a lawsuit involving Nicholas Cosmo, a Long
Island financial manager dubbed "mini-Madoff."
To keep his $400 million Ponzi scheme from unraveling,
Cosmo made thousands of disastrous trades through his account
at MF Global, according to a lawsuit filed by the trustee of
Cosmo's bankrupt operation against the brokerage earlier this
Cosmo had already had run-ins with the law by the time he
opened an account at MF Global in 2008. In the late 1990s,
Cosmo had been convicted of fraud, barred from the securities
business and ordered to seek therapy for a gambling problem.
But MF Global's background checks failed to spot those
problems, the lawsuit says. Cosmo went on to lose more than $19
million of his investors' money in futures bets placed through
his MF Global account, according to the complaint.
"MF Global's failure to detect and limit Cosmo's trading
appears to be part of a corporate pattern of lax controls that
failed to detect fraudulent activities," says the complaint,
filed in a U.S. bankruptcy court on Long Island.
MF Global says it is not liable for Cosmo's losses, arguing
it had no reason to know that Cosmo was running a Ponzi scheme.
Cosmo was sentenced to 25 years in prison in October for
defrauding his clients.
A lawsuit filed just last week over MF Global's descent
into bankruptcy also claims sloppy oversight.
Joseph DeAngelis, an MF Global shareholder, alleged that
the firm's "highly deficient" internal controls left it
dangerously exposed to the European debt crisis. A spokeswoman
for MF Global declined to comment on the lawsuit.
Parsing the earlier litigation for clues about MF Global's
business practices is tricky because alleged malfeasance by an
account holder -- as was the case with Cosmo and several other
traders -- doesn't necessarily imply liability for the
brokerage. A brokerage serves as a vehicle for trades, and as
long as the client puts up the money, there's no legal basis to
deny the trade.
"I don't think there's a consensus on this legally," said
the former official with the CFTC. "But if red flags are
raised, you need to address them."
After initially raising Cosmo's trading limit, MF Global
eventually closed his account as warning signs mounted. Cosmo
also traded through several other brokerages.
Proceedings in the case have been stayed because MF Global
is now in bankruptcy. A person familiar with MF Global said the
firm did not aid or abet the Ponzi scheme, and that it serves
as "a mere conduit" for traders. A brokerage like MF Global
"cannot be a policeman of the world," this person said.
In a similar case, MF Global agreed to pay $300,000 in
March to settle allegations that it had served as a trading
conduit for another Ponzi schemer.
In that case, a man named Michael Meisner had funneled
nearly $3 million into his trading account at MF Global after
raising $37 million from the clients in his company, Phoenix
Diversified Investment Corp, according to a 2010 lawsuit filed
by the Phoenix bankruptcy trustee against MF Global. As part of
the settlement, the brokerage denied wrongdoing.
While promising high returns in the commodities markets,
Meisner, who is serving a 15-year prison sentence, used his
investors' money to buy at least 15 luxury cars and purchase or
lease about eight luxury homes in Florida, according to his
MF Global's alleged role as a provider of a trading
platform for unscrupulous clients has drawn a fine from the
CFTC. A few years ago, MF Global hosted the accounts of a hedge
fund called Philadelphia Alternative Asset Management Co.
To conceal mounting trading losses from its clients, the
Cayman Islands-based hedge fund created a hidden account at MF
Global, to which investors had no access, while simultaneously
offering upbeat estimates of its profitability, the CFTC said.
The hedge fund ended up losing $133 million in its MF
Global accounts, and its bankruptcy receiver settled with MF
Global for $75 million in 2007. The CFTC added its own $2
million penalty and cautioned the brokerage that "the
commission and the courts consider failures of supervision and
recordkeeping to be serious offenses that will have dramatic
consequences." A person familiar with MF Global says the
brokerage's oversight of clients' accounts has become more
robust over the years.
ROGUE TRADER TRACK RECORD
This wasn't the only time federal regulators censured MF
Global for alleged lapses in oversight.
In the space of a few hours on Feb. 27, 2008, an MF Global
broker in Mississippi made more than a hundred trades from his
home computer, placing a bet of nearly $1 billion to buy
thousands of wheat futures contracts, according to a lawsuit by
The next day, MF Global said it was taking a $141.5 million
loss resulting from those trades. The brokerage's risk-control
measures could have stopped the trades from going through, but
those controls had been "deactivated" in certain cases to allow
for greater speed, according to the complaint filed in the U.S.
District Court in Manhattan in 2008.
Earlier this year, MF Global agreed to pay $90 million to
settle the claims. The disclosures rattled analysts and
investors, which included four large pension funds.
"The magnitude of the loss is clearly disconcerting to us
and calls into question the degree of risk taking and risk
management at (MF Global)," Credit Suisse said at the time,
according to the lawsuit.
A person familiar with MF Global says the rogue trading
happened because of a human error in configuring the software.
The error has since been fixed. MF Global says it has since
"dramatically enhanced" its risk operations, personnel and
Shortly before the wheat-trader case, MF Global was accused
in a lawsuit of having difficulty with another employee. In
that case, a Bank of Montreal natural gas-futures trader needed
to conceal his losses from his supervisors, according to the
2009 lawsuit filed by the bank against MF Global.
The trader, who was working through MF Global and another
brokerage, arranged for his brokers to send Bank of Montreal
erroneous price estimates, the pending lawsuit says. The
alleged ruse kept the Canadian bank in the dark about the true
state if its gas-options accounts. MF Global denies the charges
and says the Canadian bank failed to supervise its own trader.
The trader, who has since left the bank, pleaded guilty in 2008
to federal charges of wire fraud and obstruction of justice.
In 2009, the CFTC fined MF Global $10 million for
"significant supervision violations." The fine covered both the
wheat-trader case and the Bank of Montreal case.
The bankruptcy case is In re MF Global Holdings Ltd, U.S.
Bankruptcy Court, Southern District of New York, No.
The brokerage liquidation is In re MF Global Inc, in the
same court, No. 11-2790.
For MF Global: Kenneth Ziman of Skadden, Arps, Slate,
Meagher & Flom.
(Reporting by Philip Shishkin)
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