"If anyone thought that you couldn’t have your cake and eat it too in the world of finance, MF Global shows how you can have your cake, eat it, eat someone else’s cake and then let your clients pick up the bill. Hard cheese for many as their dough goes missing."
...
"HYPER-HYPOTHECATION
With
weak collateral rules and a level of
leverage that would make Archimedes tremble, firms have been piling into re-hypothecation activity with startling abandon. A review of filings reveals a staggering level of activity in what may be the world’s largest ever credit bubble.
Fuelling hyper-hypothecation and joining together
daisy chains of liability through the pledging and re-pledging of collateral have been banks around the world. Once in the system collateral is being pledged and re-pledged over and over again either through sale and repurchase agreements or re-hypothecation as demonstrated by a review of SEC filings. For instance, Goldman Sachsdisclosed recently that it had re-pledged $18.03 billion of collateral received as at September 2011, Oppenheimer Holdings re-pledged approximately $255.4 million of its own customers’ securities in the same period, Canadian Imperial Bank of Commercere-pledged $72 billion in client assets, Credit Suissesold or re-pledged CHF 332 billion of assets (received under resale agreements, securities lending and margined broker loans), Royal Bank of Canadare-pledged $53.8 billion of $126.7 billion available for re-pledging, Knight Capital Groupdelivered or re-pledged $1.17 billion of financial instruments received, Interactive Brokers re-pledged or re-sold $7.9 billion of $16.7 billion available to re-sell or re-pledge, Wells Fargo re-pledged $19.6 billion as at September 2011 of collateral received under resale agreements and securities borrowings, JP Morgansold or re-pledged $410 billion of collateral received under customer margin loans, derivative transactions, securities borrowed and reverse repurchase agreements and Morgan Stanley re-pledged $410 billion of securities received.
LIQUIDITY CRISIS
The volume and level of re-hypothecation suggests a frightening alternative hypothesis for the current liquidity crisis being experienced by banks and for why regulators around the world decided to step in to prop up the markets recently. To date, reports have been focused on how Eurozone default concerns were provoking fear in the markets and causing liquidity to dry up.
Most have been focused on how a Eurozone default would result in huge losses in Eurozone bonds being felt across the world’s banks. However,
re-hypothecation suggests an even greater fear. Considering that re-hypothecation may have increased the financial footprint of Eurozone bonds by at least four fold then a Eurozone sovereign default could be apocalyptic.
U.S. banks direct holding of sovereign debt is hardly negligible. According to the Bank for International Settlements (BIS), U.S. banks hold $181 billion in the sovereign debt of Greece, Ireland, Italy, Portugal and Spain. If we factor in off-balance sheet transactions such as re-hypothecations and repos, then the picture becomes frightening.
As for MF Global’s clients, the recent adoption of an “MF Global rule” by the Commodity Futures Trading Commission to ban using client funds to purchase foreign sovereign debt, would seem to suggest that it was indeed client money behind its leveraged repo-to-maturity deal - a fact that will likely mean that very few MF Global clients get their money back.
...
LEHMAN LESSONS
In fact this is exactly what Lehman Brothers did through Lehman Brothers International (Europe) (LBIE), an English subsidiary to which most U.S. hedge fund assets were transferred. Once transferred to the UK based company, assets were re-hypothecated many times over, meaning that when the debt carousel stopped, and Lehman Brothers collapsed, many U.S. funds found that their assets had simply vanished.
A prime broker need not even require that an investor (eg hedge fund) sign all agreements with a European subsidiary to take advantage of the loophole. In fact, in Lehman’s case many funds signed a prime brokerage agreement with Lehman Brothers Inc (a U.S. company) but margin-lending agreements and securities-lending agreements with LBIE in the UK (normally conducted under a Global Master Securities Lending Agreement).
These agreements permitted Lehman to transfer client assets between various affiliates without the fund’s express consent, despite the fact that the main agreement had been under U.S. law. As a result of these peripheral agreements, all or most of its clients’ assets found their way down to LBIE."
http://newsandinsight.thomsonreuter...d_the_great_Wall_St_re-hypothecation_scandal/
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