JPMorgan Chase & Co. (JPM) will allow customers to house excess swaps and futures collateral in a separate bank account as it seeks to reassure investors after losses at MF Global Holdings Ltd. (MFGLQ) and Peregrine Financial Group Inc.
The new service will allow clients to automatically aggregate excess margin at JPMorgan Chase Bank N.A., the firm’s insured deposit-taking unit, Emily Portney, head of agency clearing, collateral and execution at the New York-based bank, said in a telephone interview.
“It’s certainly in response to client queries and more emphasis on safekeeping of client money,” Portney said. “The key is safety, operational efficiency and more choice for clients” in how their funds are protected and invested, Portney said.
Futures brokerage customers at MF Global are still missing $1.6 billion in segregated funds after the firm filed for bankruptcy in October after bets on European sovereign debt, credit ratings downgrades and the worst quarterly loss in the company’s history unnerved investors. About $220 million in segregated client money is unaccounted for at Peregrine after founder and Chief Executive Officer Russell Wasendorf Sr. was arrested July 13 after a suicide attempt and a signed confession that he defrauded customers for 20 years.
JPMorgan’s decision shows how the brokerage model is under attack, said Craig Pirrong, a finance professor at the University of Houston. Benchmark interest rates near zero since 2008 had already put earnings pressure on the firms, also known as futures commission merchants, or FCMs, and the missing money at MF Global and Peregrine has jarred investors who thought their assets were protected by segregation requirements under the Commodity Exchange Act, he said.
“It’s another illustration of the impending end of the FCM model,” Pirrong said. Futures brokerages earn money on customer collateral by lending it out at higher rates than they pay to the investor or by buying securities with it. “Everything is tilting against that old model,” Pirrong said.
At MF Global and Peregrine, the excess customer money held at the brokerages is what disappeared. Collateral backing trades of MF Global customers that was held by CME Group Inc. (CME), as well as Peregrine customer assets maintained by Jefferies Group Inc., were protected.
Investors who trade futures or clear swaps often leave extra collateral in their accounts to have it available if needed for a margin call. This money exceeds what the clearinghouse and the brokerage demand to keep the trades active.
The JPMorgan service will draw unneeded money and securities from however many clearing brokers an investor uses, Portney said. “It’s clearing-broker agnostic,” she said.
The collapse of Lehman Brothers Holdings Inc. in 2008 prompted many derivatives users to spread their clearing business among several banks or broker-dealers to lessen the risk of having to move all their accounts at once or open a new one in a time of stress.
The new collateral treatment will also allow investors to choose how to invest their excess margin because it’s held in a depository bank account that the client will control, Portney said. That’s different than in the current futures model, where investment decisions are made by the brokerage and not the investor, Pirrong said.
“Banks are looking for services to sell to people, and this can be one of them,” he said.
CME Group, the world’s largest futures market, said last month it’s considering a plan to hold all customer funds at clearinghouses or other depositories in response to MF Global and Peregrine. The exchange operator and clearinghouse owner said any interest earned by the customer money would be returned to the futures brokerages to maintain a key feature of how the firms earn revenue, according to a letter to customers from Executive Chairman Terrence Duffy and Chief Executive Officer Phupinder Gill.
Duffy, testifying before Congress after the idea was announced, said it “will be controversial and perhaps have disruptive consequences.” He later said the proposal wasn’t meant to disrupt how the futures industry works.
JPMorgan has combined clearing services across securities, swaps and futures along with collateral management solutions and agency execution under one unit. Previously, several different parts of the bank had responsibility for the various asset classes and products, Portney said.
The move is meant to help customers on both the buy side and sell side deal with new requirements introduced by the Dodd- Frank Act in the U.S. and similar regulations being developed in Europe, she said.
To contact the reporter on this story: Matthew Leising in New York at firstname.lastname@example.org.