* Comment period for proposed CFTC margin rule ends Friday
* Rule changes decades-old futures industry "ecosystem":
* Swaps users see rule as providing necessary protections
By Christine Stebbins and Ann Saphir
CHICAGO/SAN FRANCISCO, Feb 13 (Reuters) - The Commodity
Futures Trading Commission is bracing this week for a barrage of
criticism over a proposed rule that brokerages say could cost
the industry tens of billions of dollars.
At issue is a single sentence in a lengthy rule proposal
tied to the landmark Dodd-Frank financial reform law. The
sentence requires futures brokers "at all times" to have funds
that exceed the sum of customer deficits.
Regulators stung by massive losses of supposedly safe
customer funds at failed brokerages MF Global and Peregrine
Financial say the rule will help protect customer money by
preventing the use of extra funds from one customer to cover
temporary shortfalls of another.
William Thum, The Vanguard Group's top derivatives lawyer,
said that such rules are only fair, and are already standard
practice in the vast over-the-counter swaps industry. No trader,
he and other investment fund managers say, should be on the hook
for another trader's loss just because both happen to use the
But brokers in the quadrillion-dollar U.S. futures industry
argue that current practice, which allows them to credit the
excess funds of some customers against the deficits of others
for short periods, reduces costs for all traders while
protecting funds from improper use.
"You want customer protections. But you also want to make
sure you're not obliterating a whole market sector
potentially, which would be the very futures commission
merchants that handle commercial hedge business," said Diana
Klemme, vice president of Grain Services Corp, an advisory firm
that helps many grain elevators and farmers hedge using grain
In the normal course of futures trading, customers put up
funds, called margin, to back their positions, and are required
to pony up more when their trading positions go against them.
Their margin requirements drop when their positions gain in
value, but customers will often leave extra funds at their
brokerages as a cushion against future margin calls.
Under the new rule, brokerages would be required "at all
times" to have funds on hand that exceed the sum of all customer
deficits, effectively forcing them to keep much more capital
than they do now. That capital, they say, will need to come from
customers, raising costs.
The CFTC is also demanding futures traders meet demands for
new money, so-called margin calls, in one day, not three as is
the current case.
Klemme and others say the new rule would change the way the
U.S. futures industry has worked most of its history, requiring
customers in many cases to prepay margin requirements to ensure
they have adequate funds in their accounts, brokers say.
Additionally, some traders argue that requiring customers to
lodge even more money with their brokers than they do now makes
the industry even more vulnerable to the loss of customer money
through the kind of mishandling that took place at MF Global and
ISDA, the main lobby group for swaps dealers, told
regulators last week that the new rule could cost $200 billion
to $250 billion for derivatives industry as a whole.
While big banks, hedge funds and brokers may have little
problem meeting that requirement, it's an entirely different
story for smaller brokerage houses with smaller customers whose
pockets aren't as deep, brokers said.
Gerald Corcoran, chief executive of futures broker RJ
O'Brien, told a CFTC panel last week that it would be difficult
to comply with a proposed rule demanding real-time measurements
of margin requirements.
"The ecosystem just can't handle it right now," Corcoran
said. "You just can't get margining and settlement prices tick
by tick throughout the day, especially in the less liquid
markets ... We don't even know what the margins are on a
The firm, which is the largest independent U.S. futures
brokerage, processed 50,000 paper checks from its retails
clients last year, according to Corcoran. If the new rules take
effect, the check-writing customers would have to double or
triple their margin requirements to ensure they have adequate
funds in their accounts, he said.
"This will be a very, very costly impact to farmers and
ranchers to meet their daily margin requirements," Corcoran
So far, the CFTC has received more than 70 comments on its
proposed rule change, with industry groups - including National
Grain & Feed Association, the largest U.S. grain trade group,
and the Futures Industry Association - planning to send
additional comments by a Friday deadline.
Michael Dawley, who runs Goldman Sachs' futures business and
also heads FIA, warned that the single sentence could upend the
futures industry and put many brokers out of business.
"It's one of the most monumental events that I've ever
seen," he told regulators last week. "If we have to go down that
path, I would encourage the (CFTC) to spend a lot more time
focusing on the unintended consequences. It may be the right
decision long term, but don't underestimate how big of a deal it
Regulators remain skeptical that the costs would really be
that big and say the flip side of the debate currently is the
unacknowledged costs of the system tied to having diligent,
well-margined customers, in effect financing those who take
hours or in some cases days to meet margin calls.
While they acknowledge that the new rules would not have
prevented the customer losses from the MF Global and Peregrine
failures, they say the industry cannot withstand another
failure, for any reason, and that the current way customer
margins are handled makes the industry vulnerable.
Vanguard's Thum agreed. "We don't want our margin excess to
support other customers," he said. "Our shareholders are
watching this space very carefully. They do not want to see our
margin used for any reason."
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