[House Hearing, 112 Congress]
[From the U.S. Government Publishing Office]
THE COLLAPSE OF MF GLOBAL, PART 1
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON
OVERSIGHT AND INVESTIGATIONS
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED TWELFTH CONGRESS
FIRST SESSION
__________
DECEMBER 15, 2011
__________
Printed for the use of the Committee on Financial Services
Serial No. 112-94
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72-635 WASHINGTON : 2012
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HOUSE COMMITTEE ON FINANCIAL SERVICES
SPENCER BACHUS, Alabama, Chairman
JEB HENSARLING, Texas, Vice BARNEY FRANK, Massachusetts,
Chairman Ranking Member
PETER T. KING, New York MAXINE WATERS, California
EDWARD R. ROYCE, California CAROLYN B. MALONEY, New York
FRANK D. LUCAS, Oklahoma LUIS V. GUTIERREZ, Illinois
RON PAUL, Texas NYDIA M. VELAZQUEZ, New York
DONALD A. MANZULLO, Illinois MELVIN L. WATT, North Carolina
WALTER B. JONES, North Carolina GARY L. ACKERMAN, New York
JUDY BIGGERT, Illinois BRAD SHERMAN, California
GARY G. MILLER, California GREGORY W. MEEKS, New York
SHELLEY MOORE CAPITO, West Virginia MICHAEL E. CAPUANO, Massachusetts
SCOTT GARRETT, New Jersey RUBEN HINOJOSA, Texas
RANDY NEUGEBAUER, Texas WM. LACY CLAY, Missouri
PATRICK T. McHENRY, North Carolina CAROLYN McCARTHY, New York
JOHN CAMPBELL, California JOE BACA, California
MICHELE BACHMANN, Minnesota STEPHEN F. LYNCH, Massachusetts
THADDEUS G. McCOTTER, Michigan BRAD MILLER, North Carolina
KEVIN McCARTHY, California DAVID SCOTT, Georgia
STEVAN PEARCE, New Mexico AL GREEN, Texas
BILL POSEY, Florida EMANUEL CLEAVER, Missouri
MICHAEL G. FITZPATRICK, GWEN MOORE, Wisconsin
Pennsylvania KEITH ELLISON, Minnesota
LYNN A. WESTMORELAND, Georgia ED PERLMUTTER, Colorado
BLAINE LUETKEMEYER, Missouri JOE DONNELLY, Indiana
BILL HUIZENGA, Michigan ANDRE CARSON, Indiana
SEAN P. DUFFY, Wisconsin JAMES A. HIMES, Connecticut
NAN A. S. HAYWORTH, New York GARY C. PETERS, Michigan
JAMES B. RENACCI, Ohio JOHN C. CARNEY, Jr., Delaware
ROBERT HURT, Virginia
ROBERT J. DOLD, Illinois
DAVID SCHWEIKERT, Arizona
MICHAEL G. GRIMM, New York
FRANCISCO ``QUICO'' CANSECO, Texas
STEVE STIVERS, Ohio
STEPHEN LEE FINCHER, Tennessee
Larry C. Lavender, Chief of Staff
Subcommittee on Oversight and Investigations
RANDY NEUGEBAUER, Texas, Chairman
MICHAEL G. FITZPATRICK, MICHAEL E. CAPUANO, Massachusetts,
Pennsylvania, Vice Chairman Ranking Member
PETER T. KING, New York STEPHEN F. LYNCH, Massachusetts
MICHELE BACHMANN, Minnesota MAXINE WATERS, California
STEVAN PEARCE, New Mexico JOE BACA, California
BILL POSEY, Florida BRAD MILLER, North Carolina
NAN A. S. HAYWORTH, New York KEITH ELLISON, Minnesota
JAMES B. RENACCI, Ohio JAMES A. HIMES, Connecticut
FRANCISCO ``QUICO'' CANSECO, Texas JOHN C. CARNEY, Jr., Delaware
STEPHEN LEE FINCHER, Tennessee
C O N T E N T S
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Page
Hearing held on:
December 15, 2011............................................ 1
Appendix:
December 15, 2011............................................ 87
WITNESSES
Thursday, December 15, 2011
Abelow, Bradley, Chief Operating Officer, MF Global.............. 11
Baxter, Thomas C., Jr., General Counsel, Federal Reserve Bank of
New York....................................................... 59
Berkovitz, Dan M., General Counsel, Commodity Futures Trading
Commission (CFTC).............................................. 50
Cook, Robert, Director, Division of Trading and Markets, U.S.
Securities and Exchange Commission (SEC)....................... 52
Corzine, Hon. Jon S., former Chief Executive Officer, MF Global.. 10
Duffy, Terrence A., Executive Chairman, CME Group Inc............ 54
Ketchum, Richard G., President, Chairman, and Chief Executive
Officer, Financial Industry Regulatory Authority (FINRA)....... 55
Kobak, James B., Jr., Chief Counsel to James Giddens, Bankruptcy
Trustee for MF Global, Inc..................................... 57
APPENDIX
Prepared statements:
Abelow, Bradley.............................................. 88
Baxter, Thomas C., Jr........................................ 91
Berkovitz, Dan M............................................. 107
Cook, Robert................................................. 115
Corzine, Hon. Jon S.......................................... 126
Duffy, Terrence A............................................ 148
Ketchum, Richard G........................................... 153
Kobak, James B., Jr.......................................... 159
Additional Material Submitted for the Record
Neugebauer, Hon. Randy:
Letter from CME Group dated December 13, 2011................ 164
King, Hon. Peter T.:
Written statement of Tariq Zahir, Managing Member, Tyche
Capital Advisors LLC....................................... 184
Abelow, Bradley:
Written responses to questions submitted by Representative
Posey...................................................... 185
Corzine, Hon. Jon S.:
Written responses to questions submitted by Chairman
Neugebauer and Representative Posey........................ 187
Duffy, Terrence A.:
Written responses to questions submitted by Representative
Posey...................................................... 189
Kobak, James B., Jr.:
Written responses to questions submitted by Representative
Posey...................................................... 191
THE COLLAPSE OF MF GLOBAL, PART 1
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Thursday, December 15, 2011
U.S. House of Representatives,
Subcommittee on Oversight
and Investigations,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 1:08 p.m., in
room HVC-210, Capitol Visitor Center, Hon. Randy Neugebauer
[chairman of the subcommittee] presiding.
Members present: Representatives Neugebauer, Fitzpatrick,
King, Pearce, Posey, Hayworth, Renacci, Canseco, Fincher;
Capuano, Lynch, Baca, Miller of North Carolina, Himes, and
Carney.
Ex officio present: Representative Frank.
Also present: Representatives Hensarling, Royce, Garrett,
Luetkemeyer, Huizenga, Dold, Grimm; Green and Perlmutter.
Chairman Neugebauer. The subcommittee will come to order. I
remind Members that we previously agreed there will be 10
minutes of opening statements on each side. I ask unanimous
consent that members who are on the Financial Services
Committee--but not on the Oversight Subcommittee--who have
joined us today will be entitled to participate: Mr.
Hensarling, Mr. Royce, Mr. Garrett, Mr. Luetkemeyer, Mr.
Huizenga, Mr. Dold, Mr. Grimm, Mr. Green, and Mr. Perlmutter.
Without objection, it is so ordered.
What we are going to try to do is do the Members' opening
statements. We may have an opportunity for the witnesses to
give their opening statements. But we are told that somewhere
around 1:30, we may have a series of votes. We think there are
three or four votes in that series. We were going to try to
continue the hearing during that period, but it looks like that
would be difficult to do since there are three or four votes.
So I think the best thing for the committee to do, unless the
ranking member has a different idea, is for us to adjourn
briefly, go make those votes, and then come back.
I also ask unanimous consent that if any other members of
the Financial Services Committee arrive, they be allowed to be
a part of the hearing as well. At this time, I will now
recognize myself for an opening statement. This is a very
important hearing. We are here to find out exactly what
happened at MF Global and with their bankruptcy.
I think we want to accomplish three things in this hearing.
Number one, we are very alarmed, and a lot of people are
alarmed that we still have customers' funds that are missing.
And that number jumps around anywhere from over $1 billion to a
number less than that. It is very disturbing. This is very
historic that these funds, segregated funds--I think it is the
first time since the law was put in place that segregated funds
have caused customers to suffer a loss.
The second thing that we want to look at is, well, was
there regulatory failure during this process? This is an entity
that has a number of regulators. And we know that some
regulators showed early concerns about what was going on in
this organization. Others were caught by surprise. That is a
very disturbing fact.
The third thing that we want to look into is the corporate
behavior within this organization during this time. What we
know is that during the period of time where these
transactions, these positions were put on the books, there were
people within the organization who were saying that these were
risky and in fact, if the market went a different way, that
could actually take this firm down. And in fact, that is
exactly what happened.
This is all important because as we look at trying to put
this puzzle together, what we need to ascertain is where the
failures were. Because there will be those who will call to
say, we needed more regulations. I would remind you that we had
Sarbanes-Oxley and Dodd-Frank in place, and this event actually
happened anyway. So when we look at the regulatory side, we
need to see if we had regulators who weren't communicating,
regulators who weren't doing their job, exactly what was the
reason that some of these regulators were caught by surprise.
I think the other thing is internally, when we look inside
the corporate structure of this company, what we saw was that
one person had an extreme amount of authority, Mr. Corzine. He
was the chairman of the board. He was the CEO of the company
and, according to some people that we have interviewed, one of
the principal traders of this company. And so, therefore, there
was no real barrier or firewall for protecting the investors
and the customers of this company. So I hope that we will have
a very robust hearing today. And we look forward to hopefully
finding some of the answers to some of these unanswered
questions.
With that, I now yield to the ranking member, Mr. Capuano.
Mr. Capuano. Thank you, Mr. Chairman.
Mr. Chairman, I know that the obvious question everyone
wants to know is, where is the money? I don't expect that we
will be able to get an answer today or any day. There are other
people who are in a better position and more intelligent than
we are to be able to chase that down. But there are an awful
lot of questions left here for me, as far as I am concerned.
First of all, I would like to talk about some of the
conflicting statements that have come out over the last couple
of days, the last week or so with different hearings. Different
people have said different things. I just want to know what the
truth is. I particularly am interested to know whether there is
anyone else out there who has similar exposure doing either the
same things or different things. Does anybody know about it?
And does anybody care? I say that because the more I look into
this, the more I am coming to a, not a conclusion, but at least
a suspicion that there may well have been very little here that
was technically illegal. I have read through the testimony. The
word ``misuse'' has been used a lot. But to me, that is a legal
statement, not a statement as to where we want to go, where we
want to be.
There are still a lot of questions of what was allowed,
should it have been allowed? Is it now closed off for future
people going forward? There are all kinds of things here that I
think we need to talk about. We need to ask what the ratings
agencies were doing. We need to ask what the auditors were
doing, whether we have too many regulators. The last I heard,
MF Global was subject to 20 different regulators. That is
ridiculous.
I am not afraid of regulation, but that can't possibly
work. It does nothing but allow for forum shopping. It does
nothing but allow somebody to point fingers at someone: ``It
wasn't my job; it was his job or her job.'' We have a
significant degree of self-regulation in this particular case.
I think it is a fair question of whether self-regulation is
still applicable in today's world. It was one thing in the
1880s; it is another thing today. So for me, again, where the
money is, that is going to be the headlines. That is what
everybody wants to know. And I don't think we are going to find
out. But I hope that this is the first of a series of hearings
over the next several months, because I just can't imagine we
will be able to get the answers to the real questions I have
today. But hopefully, we will be able to do so in the future.
With that, Mr. Chairman, I will yield back.
Chairman Neugebauer. I thank the gentleman.
The vice chairman of the subcommittee, Mr. Fitzpatrick, is
recognized for 2 minutes.
Mr. Fitzpatrick. Thank you, Mr. Chairman.
What we are here to examine today is not simply a headline
in a financial newspaper. The collapse of MF Global was one of
the largest bankruptcies in our Nation's history. This failure
has changed lives, impacted businesses, and most certainly will
cost American jobs.
I look forward to hearing today's testimony. I also look
forward to reviewing the actions of the relevant regulatory
agencies: Did they provide proper oversight? And what could
they have done to prevent the extensive risk-taking that
apparently occurred at MF Global, reportedly against the advice
of its own chief risk officer. Once again, the confidence in
our financial markets has been shaken.
But the biggest frustration of all is that these are real
people who have lost real money. This is something more than a
loss on a balance sheet. They are farmers. They are regular
everyday people, including constituents of mine in Bucks
County, Pennsylvania, who have been harmed. The trustee
continues to work with regulators on identifying the various
transfers and trying to locate missing funds. I certainly hope
that is true. The victims need to be made whole. And anyone who
acted improperly certainly needs to be punished.
My hope is that today's hearing helps to ensure that this
doesn't happen to another family in Bucks County, or in the
heartland, or anywhere in the United States. People are tired
of opening their newspapers and reading stories about failures
on Wall Street and failures of our regulators to identify and
catch problems. I share the frustration that many Americans
feel reading stories about a major financial institution
failing. And I sympathize with the hardworking Americans whose
lives have been negatively impacted by the flaws in the Federal
Government's regulatory regime. There was a breakdown in
corporate leadership, which I think has been acknowledged in
some of the previous hearings. Clearly, there was also a
failure in our regulatory structure. Multiple agencies had
jurisdiction in this case, and there was a lack of
communication and coordination that might have identified the
problem sooner. I expect that this hearing will help us to
continue to bear out the facts of what happened at MF Global,
and allow us to implement the necessary reforms.
Finally, Mr. Chairman, I hope that as we identify these
problems, it helps us to map out a way forward that restores
confidence in our financial markets, especially as our
regulatory system undergoes its largest restructuring in over
80 years. And I look forward to the testimony.
Thank you for calling the hearing, Mr. Chairman.
Chairman Neugebauer. I thank the gentleman.
And now, the ranking member of the full committee, Mr.
Frank.
Mr. Frank. Thank you, Mr. Chairman.
This is an interesting switch. For some time now, I have
been hearing my Republican colleagues complain about
overregulation and interference with the private sector. Today,
we are hearing complaints about underregulation and
insufficient interference with the private sector.
The facts are clear that whatever was done incompetently,
incorrectly, perhaps dishonestly--although no one has
established that yet--was done in the private sector. The
complaint is that the public sector didn't do enough
regulation.
It is true that the financial reform bill is now in place.
But it was signed into law in July of 2010. We have not yet
seen its full implementation. In fact, one very important rule
that is relevant to trying to deal with the problems here was
just adopted earlier this month.
And the way in which it was held up is relevant. The
Chairman of the Commodity Futures Trading Commission (CFTC),
Chairman Gensler, who I think does a very good job, couldn't
get the third vote he needed. This was not the first time. We
had the same problem with regard to the anti-speculation rule.
And I say that because this Commission structure, which can
lead to delay in the adoption of important rules, is exactly
what my Republican colleagues want to engraft onto the consumer
bureau, hoping, I believe, for similar results: much less
effective action.
But let's go back to the whole question of regulation.
Members have said, well, the regulators didn't do a good enough
job. This is partly because the extent to which we can expect
our regulators to rely on volunteer help is limited. The
regulators are not the Salvation Army.
What we have are my Republican colleagues consistently
resisting the funding that the Commodities Futures Trading
Commission, the primary regulator--and while people have said
there were too many regulators, there was clearly a primary
responsibility on the CFTC. I don't think regulatory diversity
was the serious problem here. What we have is a significant
lack of funding for the CFTC. These are complicated matters.
They require intelligent people to do this.
The President asked for $308 million, $117 million to be
funded through a user fee, that is, the President wanted the
additional money to come from those in the business. But my
Republican colleagues decided to defend the financial interests
of those in the business and rejected that so that it all comes
from the taxpayer. So, first, they make sure that we don't get
money from the industry, and it all comes from the taxpayer.
Then, they use the fact that because of them it is all coming
from the taxpayer as a reason not to fund it adequately because
they say the taxpayer can't afford it. Although $100 million
extra from the taxpayers, from people who support the wars in
Afghanistan, Iraq, Moonshots and everything else, is somewhat
hard for me to accept too seriously.
Let me ask you how much time I have left, Mr. Chairman?
Chairman Neugebauer. The gentleman's time has expired.
The ranking member of the subcommittee has yielded you
additional time.
Mr. Frank. Thank you.
They are inadequately funded. The Republican Appropriations
Committee this year voted them $172 million, less than they
have in the current year. That is for the next fiscal year. The
Democratic appropriators did help to get it up to $205 million,
but $55 million is kept from personnel and put only into IT,
over the objection of the CFTC. So the CFTC has been hampered.
I also believe that a law that has been in effect only a
little over a year, not fully a year when some of these events
started, is not an adequate test of the law. A fully funded
CFTC, able to adopt regulations, would do the job. And I think
my Republican colleagues have this dilemma. They are opposed to
regulation in general. They are now saying, the regulation
should be better. But I invite people to do a little content
analysis, in which we are told that these regulators are
interfering with our private enterprise. You cannot logically
and sensibly be for regulation in the particular when you have
opposed regulation in general and in fact have disabled the
regulators from doing it.
And then, there is one other question I want to raise, and
that is the self-regulatory model. Much of this was self-
regulatory model followed. And I have been skeptical of some
proposals we have had to increase that. I want to talk
particularly about the CME. And I have a great deal of regard
for people at the CME. It is a very well-run organization. When
we drafted the legislation, I was interested in their input.
But I do want to raise a question as to whether or not there is
a conflict of interest. The National Association of Securities
Dealers, which FINRA is the self-regulator for the securities
part, they spun off the regulatory agency from the people
running the exchange.
At CME, no such spinoff has taken place. And I don't mean
to suggest in the slightest that there was any conscious
softening by CME. I have too much regard for the people there
to believe that. But human beings are human beings. And I
believe one of the things we have to look at is if you are
going to have an SRO, should it be spun off in the way that
FINRA was spun off from the National Association of Securities
Dealers in that exchange? Should we ask for a similar degree of
spinoff if the CME and people in that area are also going to be
an SRO?
Thank you, Mr. Chairman.
Chairman Neugebauer. I thank the gentleman. And now the
gentleman from California, Mr. Royce, for 1 minute.
Mr. Royce. Yes. It is not that Republicans are opposed to
regulation in general.
We are opposed to incompetent regulation. We are opposed to
the kind of regulation that would not allow, for example, the
systemic risk regulation of the GSEs. So what Republicans want
to see is competent regulation, including over at the CFTC.
Customer segregation rules have been around in this country for
75 years. And these rules are not convoluted. They are rather
easy to understand and to enforce. Yet, the CFTC failed. And
why this happened is one of the many questions we hope to get
answered here today.
Another concern we have is what happened at MF Global in
terms of the $1.2 billion in missing funds. And on top of that,
the concern that we have in terms of why the Federal Reserve
would grant to this organization the status that it was given
in terms of primary dealer, given the weak credit rating, the
bleeding of cash, the $137 million that it was lost the year
prior by the firm, the 80 regulatory actions taken against it
since 1997. Is the Democrat answer for regulation leading us to
a situation where political pull and political interference
intercedes and prevents the rule of law and prevents the right
kinds of decisions being made by the New York Fed because of
the connections of people politically? Those are some of the
questions we want answered.
Chairman Neugebauer. I thank the gentleman.
Mr. Baca is recognized.
Mr. Frank. Would the gentleman yield for 10 seconds?
Mr. Baca. Yes.
Mr. Frank. I would just say to the gentleman from
California, he said that Republicans are for GSE reform. That
leaves me to question why in the 11 months of this Congress,
they haven't done it. Of course, the answer may be for the same
reason they didn't do it in the 12 years before that. My
Republican colleagues are all for GSE reform when they are in
the Minority, but when they are in the Majority, somehow they
can't seem to do it.
Mr. Royce. Reclaiming my time, you and I have debated this
issue--
Mr. Baca. Excuse me, it is my time.
I had yielded time to him.
Chairman Neugebauer. I think we need to separate the time
here.
Mr. Baca. Getting between the rings here.
Chairman Neugebauer. Mr. Baca, you are recognized.
Mr. Baca. Thank you very much, Mr. Chairman, and Ranking
Member Capuano, for calling this hearing.
I also want to thank the witness, Governor, Senator, Mr.
Corzine, for being here.
I have to say I wish it was under better circumstances, and
you wish it was under better circumstances. But with $1.2
million in customer funds completely missing, I think it is
clear to everyone why we are here today.
Where is the money? Where did it go and why? We want
answers. Over the past 5 years, the American people have had
their share of disappointment with the financial system. There
has not been enough oversight and accountability. And that is
why the Frank-Dodd legislation came into existence, to make
sure that we had a lot more oversight and accountability.
And it seems like now we want to do away with a lot of the
accountability and oversight, yet we want to get back to these
answers. That is why I really believe that we should continue
to have the oversight and the funding that is there. From the
near economic collapse to the massive frauds like the one
orchestrated by Bernie Madoff now to the failure of MF Global,
it is clear that the need for improvement in oversight and
accountability still remains.
And at the heart of it, that is what is so troubling to
Members of Congress and the American public. Not the regulators
or executives who dropped the ball in their responsibilities--
and I state not the regulators or the executives who dropped
the ball in their responsibilities--but that the American
public, innocent investors are left with the check.
I do think it is curious that at a time when we are seeing
a need to increase oversight and enforcement, as displayed in
this case, some of my colleagues are intent on defunding some
of our regulators who are charged with these same goals. And it
is very curious in terms of why is it at a time that we need to
have more? Today, I am hopeful that we will get the answers.
This is the third congressional hearing on this matter. And
I don't think anyone has been overly impressed with what has
happened at the previous two.
I am hoping that can change today. Again, I want to thank
the chairman and the ranking member for calling this hearing. I
thank the witnesses for being here.
And I yield back the balance of my time.
Chairman Neugebauer. I thank the gentleman.
And now the gentleman from Texas, Mr. Canseco, will be
recognized for 1\1/2\ minutes.
Mr. Canseco. Thank you, Mr. Chairman, for calling this
meeting.
Companies go bankrupt in the United States every day. And
while I do not believe it is the role of Congress to examine
every bankruptcy that occurs in the private sector, the case of
MF Global is an exception.
Given that MF Global's bankruptcy is the 8th largest in the
United States' history, it is hard for Congress to not ask,
what happened? It is extremely important for this committee to
examine the consequences for the financial sector of MF
Global's bankruptcy, as well as the impacts on end users, such
as farmers and ranchers, who access futures markets in order to
hedge their risks.
There are also several questions that MF Global's
bankruptcy raises that need to be answered. First, MF Global
received a number of regulatory sanctions throughout the years,
yet was still allowed to dramatically increase its risks,
notably in its exposure to European sovereign debt.
The most important question that needs to be answered,
however, is what happened to $1.2 billion of client money that
has gone missing and nobody seems to know what happened to it?
The first time customers have suffered losses from the improper
handling of customer funds by a clearing member, the case of MF
Global shows not just a failure of company management, which I
would say demonstrates as much concern for its risk as did the
captain of the Titanic, but also a profound failure in our
regulatory structure that needs to be addressed.
Nine years ago, we were told that Sarbanes-Oxley would put
an end to accounting gimmickry. And last year, we were told
that Dodd-Frank would lead to regulatory coordination that
would make our financial system safer and sounder. Despite the
massive increase in the government's authority, neither of
these promises held in the case of MF Global. And yet, the
private sector continues to pay the enormous regulatory tab of
these two bills. I look forward to hearing from our witnesses
today just how this breakdown happened and what can be done to
fix it.
Thank you.
Chairman Neugebauer. I thank the gentleman.
And now the gentleman from New York, Mr. Grimm, is
recognized for 2 minutes.
Mr. Grimm. Thank you, Chairman Neugebauer.
I appreciate you calling this meeting. As unfortunate as it
is, really, to have a need for this hearing, I am eager to hear
exactly and explicitly how the events that led to the collapse
of MF Global actually transpired.
I am anxious to know exactly who was involved in
commingling funds if that occurred. Who gave the order for such
approved transfers? Who else was involved in that approval? Who
actually executed this apparent illegal transfer?
Moreover, details about and insight into what happened and
what appears to be an institution that did not have a strong
internal compliance control, but rather possibly had a CEO who
controlled most aspects of the firm, ranging from trading
strategy, essentially betting the farm on European sovereign
debt, to possibly ignoring chief risk officers' repeated
warnings, and also to possibly having a controlling influence
over the board of directors. Therefore, I look forward to
hearing with some specificity the answers to the questions that
other committees and the media have not been able to extract.
Although many reports and investigations--aspects of the
investigation I have had the opportunity to read, I would
rather not assume any facts, none of this case, but rather, I
would like to learn it firsthand, to be educated today as much
as we can about the entire truth. And the one person that I
believe can shed as much light on this is our witness today,
Mr. John Corzine.
And with that, I yield back the balance of my time.
Chairman Neugebauer. I thank the gentleman.
And now the gentlelady from New York, Ms. Hayworth, is
recognized for 30 seconds.
Dr. Hayworth. Thank you, Mr. Chairman.
Governor Corzine, Mr. Abelow, I serve the Hudson Valley of
New York, and I know former partners at Goldman Sachs who know
both of you and respect you greatly.
I don't imagine that anything we will ask at this hearing
will be new to you. I do have the strong impression that
someone at MF Global knows what happened. And I hope merely
that in the fullness of time, you will apply your talents and
your minds to enlightening us as to how we can prevent
something like this collapse from ever happening again. And I
thank you for your testimony today.
Chairman Neugebauer. I thank the gentlewoman.
And now the gentleman from New York, Mr. King, is
recognized for 1 minute.
Mr. King. Thank you, Mr. Chairman. Thank you for bringing
the witnesses here today, for holding this hearing. Senator
Corzine, it is good to see you again, although it is
unfortunate that it has to be under these circumstances.
As my colleague Mr. Grimm said, this hearing today
addresses the most serious questions both about management and
about the extent to which we have control, we have
jurisdiction. The fact that $1.2 billion can be missing and not
accounted for, the fact that at a time when every taxpayer is
trying to account for every penny, we can have persons such as
yourself, Governor Corzine, who made your reputation in this
field. This is your world, not mine. And yet you not being able
to account for the money raises the most serious questions. I
don't know if they will be answered today. They really haven't
been answered up to now. There have been some differences in
the testimony.
But I think it is important to keep our eye also on the
innocent people out there being hurt. I have a constituent of
mine, Tariq Zahir, who is the managing member of a commodity
trading advisory company in my district. Right now, he is
himself on the verge of losing his business because of the
actions that were taken by MF Global.
And Mr. Chairman, I would, if I could just submit this
statement for the record from my constituent, Mr. Tariq Zahir,
managing member of Tyche Capital Advisors LLC in New York, to
put a human face on the suffering this has caused. And
hopefully, we will find out what happened, why it happened, and
how to prevent it from ever happening again. With that, I yield
back.
Chairman Neugebauer. Without objection, it is so ordered.
I remind all Members that your opening statements will be
made a part of the record.
Without objection, I would like to enter into the record
materials sent to the committee from the Chicago Mercantile
Exchange.
Without objection, it is so ordered.
Now, I am going to introduce our first panel, the Honorable
John Corzine, former chief executive officer of MF Global; and
Mr. Bradley Abelow, chief operating officer, MF Global.
Gentlemen, I want to remind you that your written
statements will be made a part of the record. And we ask you to
summarize that testimony in 5 minutes.
Before you do that, I would ask both of you to please
stand. I am going to ask you to raise your right hand.
[Witnesses sworn.]
Chairman Neugebauer. Please be seated.
As I stated, your written statements will be made a part of
the record.
You are recognized for 5 minutes. Mr. Corzine, you are
recognized.
STATEMENT OF THE HONORABLE JON S. CORZINE, FORMER CHIEF
EXECUTIVE OFFICER, MF GLOBAL
Mr. Corzine. Thank you, Chairman Neugebauer, Ranking Member
Capuano, and distinguished members of the subcommittee. Let me
begin with the fact that, as I have said at each of the
congressional hearings, every day I think about the fact that
MF Global bankruptcy has been devastating to people's lives.
Chairman Neugebauer. Mr. Corzine, I am going to interrupt
you. Is your button on?
Mr. Corzine. It is, sir.
Chairman Neugebauer. Okay. You may need to talk just a
little bit louder.
Mr. Corzine. I recognize that my concerns about their
anguish--are you hearing me now, Mr. Chairman?
Chairman Neugebauer. Yes, sir.
Mr. Corzine. I recognize that my concerns about the anguish
of those affected provide no solace for their losses and
hardship, whether those hurt are customers, employees, or
investors. As the chief executive officer of MF Global, I truly
apologize to all those affected.
As you know, I have provided a written statement to the
subcommittee, and I have previously testified before the House
and Senate Committees on Agriculture. I am here to answer your
questions as well.
Before I do, I wish to make a few additional points in
light of my earlier testimony. First, I have been repeatedly
asked over the last week whether I directed or authorized the
improper use of customer funds. I have tried to answer those
questions to the best of my ability.
But once again, let me be clear, I never gave any
instruction to misuse customers funds, I never intended anyone
at MF Global to misuse customer funds, and I don't believe that
anything I said could reasonably have been interpreted as an
instruction to misuse customer funds.
And as I have repeatedly stated, I was stunned on Sunday
night to learn that there was a problem with many hundreds of
millions of dollars of customer funds.
Second, after I testified on Tuesday, Mr. Duffy of the CME
suggested he recently learned that someone heard someone else
say that they understood that I knew that customer funds may
have been improperly loaned to the MF Global affiliate in
Europe during the last days of the firm's operation. I don't
know the source of the suggestion.
Let me be clear: While the last few days of MF Global were
chaotic, I did not instruct anyone to lend customer funds to MF
Global or any of its affiliates, nor was I told that anyone had
done so.
Third, Mr. Duffy's comments may relate to the overdraft
situation at JPMorgan Chase, about which I have previously
testified. I became aware of that situation on the morning of
Friday, October 28th. At that time, I was trying to sell
billions of dollars of securities to JPMorgan Chase in order to
reduce our balance sheet and generate liquidity. JPMorgan Chase
told me that they would not engage in those transactions until
overdrafts in London were cleaned up. I contacted the firm's
back office in Chicago and others, and asked them to resolve
this issue, which I understood they did.
Later on Friday, JPMorgan Chase contacted me again and said
they needed assurances that the transfer of funds did not
violate CFTC rules. Since I had no personal knowledge of the
issue, I asked senior people in the back office and the legal
department to become directly involved in responding to
JPMorgan Chase's request. The back office in Chicago explicitly
confirmed to me that the funds were properly transferred. And I
understood that JPMorgan Chase was satisfied, since they
executed billions of dollars of trades with MF Global.
Fourth, while I obviously share many of the same questions
that you have about what went wrong at MF Global regarding our
controls on segregated accounts, I did not have such concerns
prior to Sunday night. During my tenure, we hired many people,
employed dozens and dozens of highly regarded and highly
trained professionals in the area of risk, finance, compliance,
legal, internal audit, and back office operations. We also
retained prominent outside auditors, consultants, and
attorneys, to make sure MF Global operated lawfully.
Indeed, we were subject to reviews, audits, and inspections
by internal and external auditors, consultants, and regulators.
To the best of my recollection, none came to me with any major
issues or concerns about the quality of our people, systems, or
procedures.
Finally, before I respond to your questions, I want to
offer two apologies. First, I want to apologize to the
subcommittee in advance. Because I have not been able to review
many relevant records, I cannot be as helpful to the
subcommittee as I would like to be.
And second, and frankly more important, I want to again
apologize to our customers, our employees, and our investors.
My pain and embarrassment do not blind me to the fact that they
bear the brunt of the impact of the firm's bankruptcy.
I look forward to the questions.
[The prepared statement of Mr. Corzine can be found on page
126 of the appendix.]
Chairman Neugebauer. Thank you.
Now, Mr. Abelow, you are recognized for 5 minutes.
STATEMENT OF BRADLEY ABELOW, CHIEF OPERATING OFFICER, MF GLOBAL
Mr. Abelow. Thank you, Mr. Chairman, Ranking Member
Capuano, and members of the subcommittee. The bankruptcy of MF
Global was a tragedy for our customers, our employees, and our
shareholders. For many of our customers, including many of your
constituents, who have still been unable to retrieve funds that
are rightfully theirs, it has imposed extreme financial
hardship.
More than 2,500 employees have already lost or will soon
lose their jobs through no fault of their own. Shareholders
have seen the value of their investments reduced to almost
nothing overnight.
As the president and chief operating officer of MF Global
Holdings, I am deeply sorry for the hardship they have all
endured. While I know nothing I say can ease their pain, I hope
that through my testimony today, I can help this committee
understand what happened at MF Global and how we are attempting
to unwind the company in a manner that provides maximum value
for all parties.
I joined MF Global in September of 2010 as the chief
operating officer. I was given the additional title of
president in March of 2011 and served in that capacity through
the bankruptcy filing this October. After the filing, the
firm's board asked me to remain in my position to work with the
various trustees and administrators to close the firm's
operations, which I have attempted to do over the last 6 weeks.
From my perspective, based on what I was able to observe at
the time, there were a number of factors that led to MF
Global's demise. First, it appeared that by mid-October of this
year, the market had become increasingly concerned with the
firm's exposure to European sovereign debt.
Second, beginning in late October, the ratings agencies
rapidly and repeatedly downgraded the firm's credit ratings.
Third, the company reported disappointing earnings on
October 25th.
The combination of those three events increased concern
about exposure to European sovereign debt; a series of ratings
downgrades and disappointing earnings created an extremely
negative perception in the market, resulting in a large number
of the firm's trading and financing counterparts pulling away
from MF, which dramatically reduced the firm's liquidity.
That reduction in liquidity, a classic run on the bank, led
MF Global to attempt to sell all or part of the firm in order
to provide liquidity and protect the interests of our
employees, shareholders, creditors, and customers.
When those efforts failed, MF Global filed for bankruptcy
on October 31st.
I know this committee is interested in finding out what
amount of segregated client funds went missing in the final
days, how it happened, and where those funds are and what might
eventually be returned to the firm's clients. I am deeply
troubled by the fact that customer funds are missing. And I can
assure you that I share your interest and the public's interest
in finding out exactly what happened.
At this time, however, I do not know the answers to those
questions. They are being investigated by the trustees who have
taken over management of MF Global and have control over its
records and accounts, and a host of regulatory and
investigative agencies.
While I do not know what they have found, I do know that
all of the parties are working hard to find answers. And I hope
they are able to get to the bottom of the issue as soon as
possible.
Since the company filed for bankruptcy, I have focused
every day on minimizing the effect on customers and employees.
There is no way to turn back time and undo all the damage
caused by the collapse of MF Global. But in the last 6 weeks, I
have worked day and night to reduce costs and maximize the
remaining value in the business. Because MF Global was a global
firm, with operations on exchanges in more than 70 countries,
there are separate entities with separate systems and books
around the world. And I have worked to foster cooperation and
communication among those entities. There are a number of
different parties now responsible for unwinding the firm's
operations. It has been an enormous effort to coordinate with
them to generate the maximum possible recovery of assets. While
it is only a small measure, given the number of people who have
lost their jobs, I am also doing whatever I can to help former
employees find new employment.
I believe it is important to examine the issues that led to
MF Global's demise. The firm has attempted to be as open and
transparent as possible. I hope I can provide some assistance
to the committee today in its investigation. As I said, there
is no way to undo the damage that has been done by MF Global's
bankruptcy. But it is my hope that efforts such as this one to
gather facts and provide a clear picture of what occurred will
assist policymakers, regulators, and participants in the
financial service industry in avoiding such tragic events in
the future.
I look forward to answering your questions.
[The prepared statement of Mr. Abelow can be found on page
88 of the appendix.]
Chairman Neugebauer. I thank the gentleman.
And we will now go to the question-and-answer period.
Mr. Corzine, you made some efforts today to kind of clarify
some of your previous testimony and indicated that this will be
your third time to testify.
We have been collecting a lot of information and talking to
a lot of different people. And I want to maybe see if some of
these facts will help you with your recollection. It appears,
in the early morning hours of October 31st, MF Global's
treasurer and the CFO of the global North American operations
informed the CME that deficiency in customer accounts, not an
accounting error, but roughly $700 million in customer
segregated funds had been moved to the broker-dealer side of
the business to meet the liquidity needs of the firm. Were you
aware of that transfer?
Mr. Corzine. I am aware of the phone conversation with
regulators that I think you are speaking to at roughly 2 or
2:30 on that morning of the 31st. I am not aware that we used
the terms that you used.
I am aware that we made very clear that there was an
unreconciled imbalance in segregated funds. And frankly, I
thought the number was higher than the $700 million also.
Chairman Neugebauer. I think in that same meeting, it was
represented that a $175 million loan advance was made to the
global, MF Global UK. Were you aware of that loan?
Mr. Corzine. Mr. Chairman, I am not aware of that
conversation as a part of that meeting. And it is possible for
two things. First of all, we were operating very late in the
day, and after many, many days. I would also say that I stepped
in and out of that meeting on a regular basis, both to consult
with counsel and also speak to the board. So that may have been
said.
I don't have a recollection of that.
Chairman Neugebauer. Yes.
Two hours later, in a separate conference call, it was
represented that you knew about the loans from customer
segregated accounts. The CFO of MF Global's North American
operations stated in a conference call that, ``Mr. Corzine
knows about the loan.''
Mr. Corzine. Mr. Chairman, as I said very clearly in my
opening remarks, I did not in any way know about the use of
customer funds on any loan or transfer.
Chairman Neugebauer. Mr. Corzine, you knew you were having
liquidity problems. Is that correct?
Mr. Corzine. We knew we were in a difficult position.
Chairman Neugebauer. Yes. And did you say, we have to fix
this? We have to find the money?
Mr. Corzine. I think I am responding, you are quoting back
to me something that I said at the time when the CFO of the
global entity informed I think a group of us, in which Mr.
Abelow and I were both a party to, that there was an
unreconciled difference with our segregated accounts.
Chairman Neugebauer. And so, I think one of the things that
is perplexing, Mr. Corzine, you have been with Goldman Sachs,
you have been governor, you have been a Senator, your
recollection of these events, or your lack of recollection is
somewhat puzzling to a lot of us. Because you had to know that
things were not going well and that these positions were
unraveling. And you, all of a sudden, just find out that there
is money missing from customers' accounts? You are the CEO of
the company. You are the chairman of the board. How is it that
all of a sudden, these people acted out of your instruction to
make these transfers?
Mr. Corzine. Mr. Chairman, we had policies, procedures, and
I believe qualified personnel who had the responsibility to
make sure that customer funds were protected.
Chairman Neugebauer. Were these competent people?
Mr. Corzine. From every element of the information that I
had gained up to this point, and I think I put that in my oral
statement, there was no reason that I could think of that they
weren't competent. I relied upon them.
Chairman Neugebauer. The thing I am troubled by, Mr.
Corzine, is when you look at how this company got to this
point, basically you had a chief risk officer who was telling
you that these trades could cause a liquidity crisis for this
firm. You were repeatedly told that. And yet, you disregarded
that. And in fact, that gentleman was then replaced, and the
positions doubled from then. So when you talk to me about how
you had procedures in place to protect the interests of the
company, yet in many ways there was no firewall built in place
for the transactions that you were actually the primary trader
on. So I am having a hard time believing that you were relying
on a firewall when basically you were operating without a
firewall.
Mr. Corzine. Mr. Chairman, the issue with regard to trading
positions was fully vetted with our board of directors, with
risk officers, both the one you spoke about and his successor,
with regard to the nature of the risks that were a part of
those positions. And they were authorized by the board.
That is different than the clearance and settlement and
money transfer aspects, which there are controls that I think,
in my written testimony, I say I had little experience nor
little involvement in, in my time at MF Global.
Chairman Neugebauer. I hear what you are saying, that may
be different functions, but I think it is indicative of the
corporate culture that if people were taking money and sending
it around without your authorization, without--you have the
chief financial officer, the treasurer of the company, they
don't know about money being transferred around? That is a
little perplexing to me.
Mr. Corzine. Mr. Chairman, I know that we had policies,
procedures, and people in place.
Chairman Neugebauer. Obviously, they were not being
followed or--that is what we are all trying to figure out is if
you had competent people in place, you had the top people here
saying that we took money out of customer accounts, and we have
people saying that you knew that they had taken money out of--
Mr. Corzine. First of all, as I said in my opening
statement, I don't know how to respond to something that
somebody said to somebody else to somebody else who is
unidentified and I can't speak to.
I do know that I never authorized anyone to use customer
funds, to make a loan or a transfer of funds. I never intended
to. Nor do I think I said anything that could have been
construed to do that.
Chairman Neugebauer. I now yield to the ranking member of
the subcommittee. And after the ranking member's questions, we
will recess for votes.
Mr. Capuano. Thank you, Mr. Chairman.
Mr. Corzine, I am going to take you at your word that you
never gave instructions to misuse customer money, because
again, that would be somebody else who makes that decision,
whether that is accurate or not. But I am going to take you at
your word. My concern is exactly, how did you get to 40 to 1
leverage in the first place? Whose money was it?
Mr. Corzine. As I think I have conveyed in my written
testimony, we were bringing down the leverage.
Mr. Capuano. But how did you get to 40 to 1?
Mr. Corzine. First of all, that was the number we were at
before I joined MF Global. And I think, as you will see if you
look at the reporting on the quarterly filings, we were closer
to 30 to 1 or even sometimes in the 20s.
Mr. Capuano. I know where you were, and I know you were
coming down, but you were still in the 30 to 1 ratio when you
left the firm as well. Whose money was it? Somebody had to loan
this money to you.
Mr. Corzine. There were many--
Mr. Capuano. Or to your predecessors.
Mr. Corzine. There are many different ways that a firm goes
about financing itself. Probably the most important element
with regard to how those kinds of leverage numbers can be
produced is through repurchase agreements.
Mr. Capuano. There we go. In-house repos for the most part.
Is that accurate?
Mr. Corzine. More of it was likely done with repurchase
agreements from the broker-dealer side of the firm with
clients, where proprietary positions that the firm had--
Mr. Capuano. Repos to maturity?
Mr. Corzine. Not repos to maturity, repos of inventory
positions that the firm--
Mr. Capuano. But even for a repo, I guess what I am getting
at, as I understand, and this really is not just MF Global, as
I understand it, under the rules of the CFTC a week ago, or 2
weeks ago, whatever it was, everybody talks about segregated
funds, that somehow the customers' money is locked away never
to be touched. Yet under the CFTC rules, for 10 years, or 8\1/
2\ years, that is not true.
For all intents and purposes, as long as you went through a
few steps and put a piece of paper on the books that said, ``I
promise I will pay you back, and here is the piece of
collateral that I claim to be right,'' you actually could
legally, under recently passed rules, basically invade those
funds of customers and not break any rules doing so. Is that an
unfair statement?
Mr. Corzine. It is not an unfair statement.
Mr. Capuano. That is what I wanted to know.
Mr. Corzine. I would say that--
Mr. Capuano. I am not suggesting that you were doing
anything other than what everybody else was doing.
Mr. Corzine. Rule 1.25 set out by the CFTC designates or
identifies specific securities--
Mr. Capuano. And that is what I am suggesting. You were
doing exactly what 1.25 said you could do. I am not blaming you
for that. The rules said you could do it. But by doing that, I
guess the next question is, okay, you do a repo, you move
customer money out, perfectly legally under then current rules.
And then, as I understand it, you moved that money to the U.K.
And the U.K. would then put it on the street for additional
repurchase. Now, again, I am kind of jumping around here
because I am trying to follow this as everybody else. And I am
not suggesting up until this point that anything wrong or
illegal or against the rules was done. Is that a fair way to
put this?
Mr. Corzine. I would be speculating if I tried to say that
money produced by repo, legitimate 1.25 collateral was moved to
London. It could very well have just been the financing vehicle
for the securities themselves.
Mr. Capuano. It is my understanding the reason it would be
moved to London, and again, I want to be very clear--I am not
suggesting you did anything different than anyone else, which I
am going to get to in a minute, that it goes to London because
the rules in England are significantly different than here. You
were allowed to take larger risk. You were allowed to do
different things with those repos.
Mr. Corzine. To the best of my recollection, that is not
what we were doing.
Mr. Capuano. That is not what you were doing. But I guess,
let me ask it another way then. To the best of your knowledge,
were you doing anything differently than most people in your
business were doing?
Mr. Corzine. Congressman, that is a very broad question. We
clearly had repos to maturity in our broker-dealer on European
sovereigns that seemed to be different than some of the other
firms. But the kind of repo financing, general repo financing,
match books, are relatively common--
Mr. Capuano. Relatively common. Bingo. Hence the problem.
And by the way, am I wrong to think that the CFTC, for all
intents and purposes, has just shut down this relatively common
approach towards borrowing customers' money?
Mr. Corzine. Congressman, I believe they have narrowed the
available assets--
Mr. Capuano. So that you can't use foreign debts and you
can't use in-house--
Mr. Corzine. You were not able to use foreign debt before,
unless there were deposits of foreign currencies--
Mr. Capuano. One of the reasons why the money would be
moved offshore because those rules are different there. So I
guess what I am trying to get at, as I said earlier, if you did
anything wrong, the criminal investigators will find that, I
won't. I am trying to find out, and my concern is the things
that you were doing, that is, you by your own statement said
nobody intended to misuse anything, again, I am taking you at
your word on that, the things you were doing are relatively
common in the industry. The 30-to-1 ratio is relatively common
in the industry. The regulators didn't find a serious problem
with it, just a little bit of a problem.
You are talking more than $6 billion, $16 to $17 billion of
exposure there, and the regulators told you to put $200
million, a mere pittance. So you were doing at the time, at
least as I read it, pretty much what everybody else was doing.
I guess my question is--which I know you won't be able to
answer--who else was doing this? And how much is at stake?
Because if it happened to you and you did nothing wrong, then
it could happen to anyone tomorrow, and maybe up until this
point, they are not doing anything wrong. And that is the
problem to me. I am less interested in one company, though,
again, you have customers who were seriously hurt, than I am in
the system, and whether there is a systemic risk. And if one
company does it, that may not be a systemic risk. But if
everyone is doing it, and the regulators allow it, and the
people who are enforcing those regulators think it is normal,
the credit rating agencies think it is normal, the accountants
come up with rules to be able to have a loan basically booked
as a sale, that opens up this whole thing to a massive mess.
And by the way, the company that you were looking at to buy
your company at the end, aren't they deeply involved in the
same types of activities?
Mr. Corzine. Sir, I could not respond to that. I don't know
their balance sheet.
Mr. Capuano. So you were going to sell the company to a
company you didn't know anything about?
Mr. Corzine. There would be a period of due diligence after
there was an agreement if it were a standard merger agreement.
Mr. Capuano. I think my time has expired.
Thank you, Mr. Corzine.
Chairman Neugebauer. Thank you.
And now, the committee will recess until the votes are
over. And we will reconvene probably in about 30 minutes.
[recess]
Chairman Neugebauer. The committee will come back to order.
Some people thought this might be somewhat of a heated session,
and it has turned out to be very hot in here. We apologize for
that, but we have some folks hopefully working on the air
conditioning or the temperature as well.
We will now resume the question-and-answer period. The vice
chairman of the subcommittee, Mr. Fitzpatrick, is recognized
for 5 minutes.
Mr. Fitzpatrick. Thank you, Mr. Chairman.
Mr Corzine, we asked the Federal Reserve Bank of New York
whether you had ever called them to talk about MF Global, and
they reported that there were a number of calls made during the
week of October 24, 2011. For instance, on October 26th, you
made two calls to the New York Federal Reserve Bank and spoke
with a Mr. Dudley.
On October 27th, you made five calls to the New York Fed
and discussed the situation of MF Global with Mr. Dudley. And
on the 28th, there were more calls to the New York Fed.
What was the substance, or what came up during those
conversations? What was the purpose of making the calls?
Mr. Corzine. Congressman, first of all, I was called by Mr.
Dudley, I think, preceding that first series of calls that you
identified, to keep the Federal Reserve posted on how we saw
our liquidity position, how our clients were reacting to us,
and what other steps we were taking, given the stress that was
being exhibited in the marketplace.
Mr. Fitzpatrick. So you identify stress in the marketplace,
is it safe to assume that, at that point in time, you were
discussing that MF Global was in trouble?
Mr. Corzine. We weren't discussing that we were in trouble.
We were discussing how we were managing our liquidity position
and what kinds of steps we were taking in that context.
Mr. Fitzpatrick. Was MF Global in trouble at that point?
Mr. Corzine. In my view, we were having stressful
conditions in the market, but I thought we were going to be
able to manage those.
Mr. Fitzpatrick. On October 24th, your assistant controller
called the Chicago Mercantile Exchange and told CME that MF
Global was in trouble, that you were going to be downgraded and
that you were going to report losses.
There is a press release--I think it is dated October 25th,
and it may be on the screens in front of the Members--about
your second quarter earnings. And in that press report, you
said, ``Over the course of the past year, we have seen
opportunities in short-dated European sovereign credit markets
and built a fully financed letter of maturity portfolio that we
actively manage. We remain confident that we have the resources
and expertise to continue to successfully manage these
exposures to what we believe will be a positive conclusion in
December of 2012.''
So my question, Mr. Corzine, is, why do you make a public
statement about your confidence that MF Global has ``the
resources and expertise to continue to successfully manage that
situation,'' when your company previously told the CME that you
were going to be downgraded, and when the very next day, you
were in frequent communication with the New York Fed about MF
Global's position as a going concern?
Mr. Corzine. Congressman, the conversations with the New
York Fed were stimulated by a call from them to us to keep them
posted. So that would not have been in contemplation of this
statement.
And while a downgrade is not comforting news for an
organization, it is not indicative that we were approaching
bankruptcy or that we were in the kind of stress that I think
one would have described the situation on by Friday.
Mr. Fitzpatrick. Your company, in fact, filed a Chapter 11
bankruptcy on October 31st, 6 days later, correct?
Mr. Corzine. That is true, sir.
Mr. Fitzpatrick. Your own securities filings are clear that
downgrades are a huge risk factor and would lead to margin
calls and liquidity problems for the organization. And yet,
knowing that you were going to be downgraded, you still made a
public statement to the effect that all is well.
Why did you do this, and how can you reconcile private
remarks about trouble at MF Global with your public statements
on October 25th?
Mr. Corzine. Sir, I think the statement you are giving to
me to review deals specifically with the repo-to-maturity
portfolio and that we would be able to manage that, and we
thought we had the capacity, including the morning of the 25th,
we were actually liquidating some of those RTM positions.
Mr. Fitzpatrick. But you thought, on the 25th, you could
manage successfully to a successful conclusion in December
2012, and 6 days later, you filed for Chapter 11 bankruptcy?
Mr. Corzine. We thought we would have to take adjustments
to deal with the realities of the downgrade and the potential
reactions of the marketplace, but that was what we were
alluding to. We had the capacity to manage that. We thought we
did.
Mr. Fitzpatrick. So when was the first time the potential
of a Chapter 11 bankruptcy was discussed with the board at MF
Global? Was it before October 25th?
Mr. Corzine. To my recollection, there was no discussion of
bankruptcy before October 25th.
Mr. Fitzpatrick. Okay, I have nothing further.
Thank you.
Chairman Neugebauer. Mr. Baca is recognized for 5 minutes.
Mr. Baca. Thank you very much. Mr. Corzine, we all want to
make sure that someone didn't have an early Christmas, and we
want to find out where this money went, especially $1.2
billion, where it has gone.
You said that you had internal and external controls in
place to ensure the security of the customer funds. Can you
elaborate on the functions of these controls?
Mr. Corzine. There are arrangements, Congressman, in our
Treasury operations area which have, to the best of my
knowledge, thresholds of how money can move, size of amounts of
money that can move. There are cross checks with Treasury
functions that are responsible for making sure liquidity is in
place.
So all of those, starting with the CFO, global level,
moving to a global treasurer, to regional organizational
structures where money could move, all of those had checks and
balances in them to the extent that any of the respective
internal audits and external audits and reviews of those
procedures were in place. I had reason to believe the people,
the policies and procedures would work.
Mr. Baca. Thank you.
Were any of these controls approved or signed on by any of
your regulators?
Mr. Corzine. I would have to actually have that question
answered by the regulators. We know that we are subject to
their periodic review and all of the various venues and self-
regulatory organizations and others periodically check the
policies and procedures and the actions.
And to my knowledge, at least up until that evening of
October 30th, I am not aware of where we had major challenges
to that by the regulators.
Mr. Baca. Maybe we need to find out. But to your knowledge,
is there a common control that other firms have in place?
Mr. Corzine. Congressman, I am not familiar with other
firms, and actually, some of the day-to-day specifics is not my
experience, and detailed knowledge even of our own
organization, other than the kind of description that I tried
to give to you.
Mr. Baca. Okay, to your knowledge, were your counter
partners engaging in the same purchase agreement with other
entities similar to MF Global?
Mr. Corzine. As I responded to the ranking member's
question, I think repurchase agreements, broadly spoken, are
fairly common. Repurchase agreements to maturity are relatively
common for U.S. Treasury securities, agencies, and corporates,
although I don't have specific knowledge about what other
companies have. I think the repo-to-maturity concept applied to
Euro sovereigns is somewhat different.
Mr. Baca. Okay. In your opinion, had MF Global not run into
the problems it did, would this level of finance and
participation have continued, or would there have been changes
in regulations, criteria or procedures to make sure that
hopefully we didn't have this. You didn't have a crystal ball,
but if we had a crystal ball, you probably would have changed
everything, is that correct?
Mr. Corzine. Not unlike what I responded to Congressman
Fitzgerald. We were adjusting our positions given the changing
perspectives that credit agencies were bringing and the
availability of credit.
And so we would have, we were adjusting our balance sheet
and our off-balance-sheet items to produce greater liquidity
and less exposure to liquidity calls, if you would, post the
downgrade.
Mr. Baca. Okay, thank you, I know that my time is running
out, so I appreciate your response, thanks.
I yield back.
Chairman Neugebauer. I thank the gentleman.
The gentleman from New York, Mr. King, is recognized for 5
minutes.
Mr. King. Thank you, Mr. Chairman.
Senator Corzine, as I mentioned earlier, this is really
your world, not ours. And if you could just go through this
with me.
When you came to MF Global, you pretty much dramatically or
intended to dramatically change its business model, make it
more like Goldman Sachs, which would inherently involve more
risk, which there is nothing wrong with, per se, but because of
the increased risk, what new compliance procedures did you put
in place when you came to MF Global, and can you tell me how
many personnel that involved, what the cost was, and how
closely you followed the implementation of those new compliance
procedures?
Mr. Corzine. Congressman, first, I would say that I was not
trying to recreate Goldman Sachs, although we wanted to be a
broker-dealer.
Mr. King. But more like Goldman Sachs than what MF Global
traditionally had been.
Mr. Corzine. It was clear, and I think I have tried to
outline that in quite some detail in my written statement that
we wanted to be in principal broker dealing activities to serve
clients, and that there was some proprietary element that we
would take that typically hadn't been done before, that is
true.
And it is actually in that area that the biggest issue, I
think, developed over a course of time with the initial chief
risk officer because the experience of that individual had been
more on the commodities side of the business, or the FCM
customer credit area, a concern not only of myself but of the
board. And we wanted to look for someone and did a search, a
personnel search, to try to find someone who could bring the
kind of experience.
Mr. King. But if you are changing the business model to any
extent, doesn't it require more than just getting a new risk
officer? Did you put procedures in place yourself? Did you have
any frame of reference to yourself as to what you wanted in
place and how that would be done?
Mr. Corzine. We had to have different compliance
supervision. We expanded our compliance positions. We actually
had some serious concerns.
Mr. King. Can you tell me how many?
Mr. Corzine. Clearly, we had concerns in Asia.
Mr. King. Concerns--you said you brought in new personnel,
I think.
Mr. Corzine. We brought new personnel to bear on our
compliance functions.
Mr. King. Is that hiring new people?
Mr. Corzine. New people.
Mr. King. Do you have any idea what the number is?
Mr. Corzine. I will have trouble giving you the exact
statistics because I don't--it was numbers, and as I said in my
oral remark, there were dozens and dozens of people dedicated
to this. We made changes, upgraded.
We also installed a new technology--
Mr. King. But you can't say, you can't say whether it was
dozens and dozens of new personnel or just reprogram of old
personnel?
Mr. Corzine. No, no, there were new people added.
Mr. King. Do you have any idea what that cost was?
Mr. Corzine. Congressman, without being able to look at my
records, I would be speculating.
Mr. King. Okay, you testified you first became aware of the
missing customer funds on October 30th, the day before MF
Global declared bankruptcy. Now had MF Global not been in the
middle of trying to sell itself to another commodities broker,
when do you think, as CEO, you would have become aware of the
missing funds?
Mr. Corzine. Congressman, we are on premises basically 24/7
for the previous few days, so I probably, as soon as anyone had
known that, it would have been elevated because all of this or
most of this--
Mr. King. But if this crisis had not come about, would you
have known--if the crisis did not become as critical as it did,
would you have any knowledge at all of the funds--
Mr. Corzine. In the normal course of events, I probably
would have been informed early on the morning of the 31st.
Mr. King. Okay. You have repeatedly said that you don't
know where the missing funds are. If I were a lawyer in a civil
case, and I was trying to recover those funds for a client, and
I hired you as an expert witness, what would your expert
testimony be as to where you think those funds would be, based
on your years of experience in the business?
Mr. Corzine. Congressman, I have tried to lay out in my
written testimony some places where I would look, where
movements of money in large positions had moved, I think I
cited $1.3 billion--
Mr. King. Between October 30th and now, you have not been
able to narrow it down at all?
Mr. Corzine. Congressman, I have not had access to any
records. I have made testimony to what I think I would have at
least considered, but I don't have any specific knowledge and
I--
Mr. King. My time has expired. Basically, I was going to
say, just based on the knowledge you had, if you could have
somehow used, the use of expertise and your experience at MF
Global, to somehow deduce where the funds may be.
With that, I yield back. My time has expired.
Chairman Neugebauer. I thank the gentleman.
With that, Mr. Miller is recognized for 5 minutes.
Mr. Miller of North Carolina. Thank you, Mr. Chairman.
The transaction that seems to have caused all the trouble
was the $6.3 billion purchase of European sovereign debt that
was purchased through the repo market or financed through the
repo market, is that correct?
Mr. Corzine. The European sovereign position was?
Mr. Miller of North Carolina. Yes.
Mr. Corzine. Financed to maturity through repurchase.
Mr. Miller of North Carolina. But it was purchased through
the repo market, the repo--
Mr. Corzine. The original sovereigns' position, the
underlying debt of those particular sovereigns, was purchased
in the market, and there was a repurchase agreement arrived at
roughly the same time as the purchase of the underlying
securities, and they were put together. So repo to maturity.
Mr. Miller of North Carolina. Under the securities, the
securities were their own collateral, is that correct?
Mr. Corzine. The securities were collateral for the
repurchase agreement.
Mr. Miller of North Carolina. Were there any client assets
used as collateral for that purchase?
Mr. Corzine. To my knowledge, none.
Mr. Miller of North Carolina. The amount of the transaction
was 5 times your book value, but all of the security was
actually from the sovereign debt that you were purchasing
through the repo market?
Mr. Corzine. There are initial margin requirements for
financing.
Mr. Miller of North Carolina. Right.
Mr. Corzine. And then variation margin periodically that
you have to put up--
Mr. Miller of North Carolina. Okay. Your client contracts
do allow you to use client assets as collateral to purchase
securities for your own account, though, that is right, isn't
it?
Mr. Corzine. Very specific kinds of securities. That is
what Rule 1.25, Congressman specifies. European sovereigns,
except in those cases where there are deposits of European
currencies, are--
Mr. Miller of North Carolina. Okay. In the last 2 weeks,
the last month before MF Global's bankruptcy, did you pledge
any client assets as security for any lending to MF Global?
Mr. Corzine. Could I ask you to repeat the question? I
apologize.
Mr. Miller of North Carolina. In the last days of MF
Global's existence before bankruptcy, did you use any client
assets as collateral for any purchases of securities or any
loans to MF Global?
Mr. Corzine. Congressman, on an ongoing basis, you would
use client funds for 1.25 eligible securities, yes.
Mr. Miller of North Carolina. Okay, were any--let me ask
the other side, then, I think Mr. Capuano's question got at
this, did you borrow money from client funds using repo
transactions? Where client funds had cash, did you use repo
transactions to put--
Mr. Corzine. Over the normal course of business, securities
that qualified as 1.25 eligible could be financed with those
client funds, but there are very strict rules on that, and we
observed those.
Mr. Miller of North Carolina. Okay, were any assets that
were pledged as collateral liquidated?
Mr. Corzine. Taken in the last days, this is one of the
reasons I responded to Congressman King's question, we sold
$1.3 billion worth of commercial paper, which was 1.25
eligible, and I certainly--I am not trying to answer his
question while I am answering yours--but as those were
liquidated, that money should have been put back into
segregated accounts, and that would be one of those places that
I would look very carefully.
Mr. Miller of North Carolina. Were any of the assets that
you used for repo transactions with your own clients, as
allowed by the CFTC rule, assets that you had as collateral for
other transactions with another party?
Mr. Corzine. To my recollection, I can't think of any.
Mr. Miller of North Carolina. Mr. Abelow, can you?
Mr. Abelow. Congressman, the daily activity of funding the
firm was not something that fell under my control, and so I am
not intimately familiar with those structures.
Mr. Miller of North Carolina. Were any, I am sorry, were
any of the assets that were in client accounts as part of repo
transactions liquidated, taken as collateral by anybody?
Mr. Corzine. To the best of my recollection, any of those
kinds of transactions were done according to the rules as we
would have known them, and there was a whole set of people,
policies, and procedures on how that should have been executed.
Chairman Neugebauer. I thank the gentleman.
And now the gentleman from New Mexico, Mr. Pearce, is
recognized for 5 minutes.
Mr. Pearce. Thank you, Mr. Chairman.
Thank you, Mr. Corzine, and Mr. Abelow.
I am fascinated about the continuing response that, ``Day
to day is not my responsibility. It is not my experience.''
In 2003, you offered an amendment to Defense Appropriations
to hold the Bush Administration accountable, with a comment
that the credibility gets weakened each day we fail to have a
full accounting of the facts about what happened, facts such as
who knew what, that certain information was false. When did
they know it? Why was it expunged from one Administration's
speech and not the other.
And then we hear today, ``Oh, I am sorry, I didn't know
about the $117 million loan. I didn't know about the window
dressing, seven quarters consecutively, five in my time.''
You have a question--window dressing, in a Wall Street
Journal article, it says that you just lowered debt right
before the reporting period and then you bounce it back up
right after so that it looks better. It is not technically
illegal, but it sure looks better. It is misleading, but it
looks better, and it is not your day-to-day experience.
Where did you spend the last--what hotel are you at here in
the city?
Mr. Corzine. The Ritz-Carlton.
Mr. Pearce. At the Ritz-Carlton, did I hear that correctly?
Mr. Corzine. Yes, sir.
Mr. Pearce. How many of the 36,000 clients who were
defrauded have you called personally? One?
Mr. Corzine. None. I have called none.
Mr. Pearce. Mr. Abelow, have you called anyone? I see both
of you have real anxiety and sorrow, sadness, I think is the
word, for the people who were hurt. We have a guy coming in
here, with a $600 million net worth. Have you created a
scholarship for any of the families who have been
disadvantaged? Just to help them out with maybe their college
funds? Yes or no?
Mr. Corzine. Congressman, the answer is no.
Mr. Pearce. I am sorry?
Mr. Corzine. The answer is no.
Mr. Pearce. No.
Mr. Abelow?
Mr. Abelow. No, sir.
Mr. Pearce. ``But we are so sorry. We are desperately
sorry. We want to apologize, at the beginning and end of the
transaction.''
Mr. Corzine, you said that there were no warning signs, and
yet, I have three warning signs here from Mr. Roseman, saying
that we were pretty concerned. He even took his concerns to the
board of directors, did you not--I know it wasn't your day-to-
day responsibility, but did you ever communicate with the board
of directors? Did they tell you, Mr. Roseman, the risk manager,
came and said, whoa, we are doing some things that kind of
frighten me?
In fact, the testimony that other people have brought was
that Mr. Roseman may have left the company under duress. Yes,
he left voluntarily, and he was replaced by a guy who also, as
risk manager, was raising questions about what was going on,
and yet I think I heard you say that you had never heard any
questions about anything that was going on at the company from
internal sources.
Mr. Corzine. Congressman, I don't think I said that with
respect to risk management--
Mr. Pearce. So you were aware? You were aware Mr. Roseman
was deeply concerned with risk management things, and you
didn't have to go through standard risk management practices.
You could go straight to the board and you could buy and sell
in your client, in your portfolio, without going through risk
management, one of the basic things of internal controls.
Mr. Corzine. Congressman, risk limits were set at the
board. The risk manager observed those and where we stood
relative to those and would have reported to the board if we
broke those limits.
Mr. Pearce. The risk manager was right on those concerns,
and somebody else was wrong. Who made the decision that you
were not going to concern yourselves with the risk manager's
concerns about where you stood?
Mr. Corzine. No one was uninterested or wasn't willing to
listen to the risk manager present his case to the board.
Mr. Pearce. No, I didn't say no one is disinterested; they
just ignored his advice.
We have ``rainmaker,'' I hear the term ``rainmaker'' used a
lot in your presence. We have rainmakers out in the dusty,
barren sand hills of New Mexico. They drive around in pickup
trucks with 55-gallon drums brought out of the oil field,
cleaned up. Pour a few chemicals in, light them up, create
rain. It is not much different than what they do on Wall
Street.
Thank you, sir.
Chairman Neugebauer. I thank the gentleman.
And now the gentleman from Florida, Mr. Posey, is
recognized for 5 minutes.
Mr. Posey. Thank you, Mr. Chairman.
Mr. Corzine, who advised you that the transfers were legal?
Mr. Corzine. The overdrafts that I addressed on Friday, as
I put in my oral statement, I directed my inquiry to whether
they were proper to senior people back in our Chicago office.
Mr. Posey. Would that be Laurie Ferber?
Mr. Corzine. Ultimately, Laurie Ferber was aware that we
had questions about this, and I referred that also to her, she
is our general counsel. But the assurance that I received was
from our back office people in Chicago.
Mr. Posey. Can you give me a couple of names?
Mr. Corzine. The woman that I spoke to was a Ms. Edith
O'Brien.
Mr. Posey. But Laurie Ferber agreed it was legal, too?
Mr. Corzine. Ms. Ferber was looking at the letter that was
requested by JPMorgan to ensure that we were CFTC-compliant.
Mr. Posey. And she said you were?
Mr. Corzine. Once I submitted the letter that I was
supposed to sign, I did not hear back from Ms. Ferber. As I
suggested in my opening remarks, I had explicit statements that
we were using proper funds, both orally and in writing, to the
best of my knowledge. Since I don't have all my records, I
don't have that, but I believe I have it in writing. And I
conveyed that to JPMorgan. And JPMorgan asked later, at a later
period of time, for confirmation that we were using CFTC
compliant funds, and that is when I spoke with Ms. Ferber.
Mr. Posey. And what was her response?
Mr. Corzine. She took the issue, and was reviewing the
letter, and I never heard anything back about it.
Mr. Posey. So you asked if it was legal to do this, and she
never answered you?
Mr. Corzine. I had confirmation from the people that we
relied upon--
Mr. Posey. Back office people.
Mr. Corzine. People in the Treasury function that we relied
upon.
Mr. Posey. Okay. Have any of your assets or your passport
been frozen?
Mr. Corzine. No, sir.
Mr. Posey. Do you agree with the assertion of the Wall
Street Journal that JPMorgan Chase and Soros benefited from the
fall of MF Global?
Mr. Corzine. I only read the article, and I have no idea.
Mr. Posey. You have no idea?
Mr. Corzine. No.
Mr. Posey. Did you sell them stuff? Do they generally make
money when you sell them stuff or they broker stuff for you?
Mr. Corzine. I was not involved in those sales.
Mr. Posey. Okay. Do you think there is anything in Dodd-
Frank that would have prevented this?
Mr. Corzine. I am really not in a position to speculate
about that.
Mr. Posey. Do you have an opinion, just a personal opinion?
I am just curious. We have heard a lot of talk here. If we had
had Dodd-Frank, this would have never happened, and I don't see
it. I just wonder if you saw anything in Dodd-Frank that would
have stopped this from happening? This is bad behavior.
Somebody basically stole essentially out of an escrow account.
You can have all the regulation in the world if somebody is
going to steal somebody else's money--but unless the regulators
catch you, if they get off their bus and do their job and catch
you, it is not going to make any difference.
The only way this bad behavior, I am getting on another
subject, but this is going to be changed by putting people in
prison eventually.
Mr. Abelow, are you still employed by MF Global?
Mr. Abelow. I am employed by MF Global Holdings, the
holding company, not MF Global Inc., the entity in which--the
regulated entity.
Mr. Posey. Were you ever employed by the regulated entity?
Mr. Abelow. I was employed by MF Global Holdings, of which
the regulated entity was a subsidiary.
Mr. Posey. So is that a yes?
Mr. Abelow. I believe that I was employed by MF Global
Holdings as a technical matter. That is who I got my paycheck
from, sir.
Mr. Posey. What do you think should be done differently? If
we could roll back the clock, what do you think could be done
differently that would prohibit this from happening?
Mr. Abelow. Congressman, I am waiting to see the results of
the investigation, and I assume that when we do and when you
do, that you, together with regulators, will be better informed
and able to take a view as to what can be done.
At the moment, absent the information as to what happened,
I am not sure how to answer the question.
Mr. Posey. Mr. Corzine, same question.
Mr. Corzine. I think this will be fact-dependent,
Congressman.
Mr. Posey. Thank you.
My time has expired. Thank you, Mr. Chairman.
Mr. Chairman, I yield back. My time has expired.
Chairman Neugebauer. Thank you, just a quick follow up.
Mr. Corzine, did you say you signed the letter for JPMorgan
before it was verified that those funds were, and you just told
them to go check it out?
Mr. Corzine. Mr. Chairman, I did not sign the letter.
Chairman Neugebauer. Okay, thank you.
I now recognize the gentleman from Ohio, Mr. Renacci, for 5
minutes.
Mr. Renacci. Thank you, Mr. Chairman.
Mr. Corzine, MF Global had a history of compliance,
failures, internal control problems, incomplete disclosures.
With all of that, when you took over, did you make any effort
to look at enhancing internal controls in the company?
Mr. Corzine. As I responded, I think, to Mr. King or
Congressman King, we had broadened out our compliance
activities. We brought in consultants.
Mr. Renacci. So you were trying to enhance internal
controls?
Mr. Corzine. Yes.
Mr. Renacci. So you do understand internal controls?
Mr. Corzine. As a CEO, you have to sign the Sarbanes-Oxley
verification that you have policies and procedures and people
in place.
Mr. Renacci. And you have to understand internal controls
to sign that; correct?
Mr. Corzine. You have to have the assurance that you can
rely on those things that happen.
Mr. Renacci. Right.
Mr. Corzine. And you need to be able to have those tested
by auditors and others.
Mr. Renacci. I agree, so you have to be able to understand
it to sign it; otherwise, you wouldn't be able to sign that,
correct?
Mr. Corzine. You do, but you can't be as detailed, as
experienced and in the execution of that as someone who might
have a specialty on some of those areas.
Mr. Renacci. I understand. As part of your internal control
procedures, who made the decision to allow you complete
authority over trades which only the board of directors could
block? That is a pretty significant internal control issue.
Mr. Corzine. Any of the trades that I think you are
speaking to, the European sovereign trades that were repo-ed to
maturity, were in the context of limits established after
debate and discussion at the boards.
Mr. Renacci. But you do agree the board was the only one,
the board of which you were chairman, was the only one, the
group that could block your trades?
Mr. Corzine. They certainly could have blocked them up to
the limits unless we got authority to go beyond those limits,
which we did.
Mr. Renacci. But they were the only ones that could block
it, yes or no? There was nobody in the company who could block
those trades. The board could block them.
Mr. Corzine. The board could block them, yes, sir.
Mr. Renacci. Right. So no matter what anybody said below
that--and I go back to Mr. Pearce's questions for you, Mr.
Roseman raised serious concerns. Mr. Stockman raised serious
concerns--and it is another interesting thing on internal
controls, when Mr. Stockman took over, someone took away his
authority to determine the liquidated risks of trade you were
making. Who did that, was that you, or was that the board, or
was that the board based on your recommendation?
Mr. Corzine. Congressman, I am not aware of anyone taking
away authority from Mr. Stockman and, in fact, I would think
that we broadened his authorities.
Mr. Renacci. But clearly, he had no authority to stop you
from making trades because everything rolled back up to the
board. He could, when he went to the board, they didn't really,
it was up to the board to stop you from making some of these
trades?
Mr. Corzine. Mr. Stockman, like Mr. Roseman, had access to
the board, reported to the board, could have and did have
individual meetings with the board members, and had full
ability to state his position, his concerns, his comfort.
Mr. Renacci. Comfort, right. Of course, you were chairman
of the board, so I think I read somewhere at one point in time,
you told the board you were considering leaving because they
were just coming down on--
Mr. Corzine. Congressman, to my recollection, that is not
the fact.
Mr. Renacci. Okay. You indicated earlier that these types
of situations were consistent with other companies similar, and
would you say that type of internal control was similar, that
other companies similar, similar, would only have the board of
directors be able to overrule them? Yes or no?
Mr. Corzine. Congressman, I don't really want to speculate,
and I don't really know.
Mr. Renacci. Okay. We talked about the significance of
internal controls of financial reporting given through the
Sarbanes-Oxley certifications. Did you sign those on March
31st, June 30th, and September 30th?
Mr. Corzine. I signed them on, actually, I think the
timeframe is later than that when the---
Mr. Renacci. Right.
Mr. Corzine. When the auditors came back with--
Mr. Renacci. Did you believe that MF Global had sufficient
internal controls over financial reporting given the breach of
segregated funds that occurred subsequent to that? Did you
believe that when you signed those?
Mr. Corzine. When I signed those agreements or those
certifications, I believed we had the policy and procedures and
people in place. And, as I have said, there are no significant
notices, either from regulators or others, that I would notice
with regard to those controls.
Mr. Renacci. So you believe that you were being truthful
with your auditors when you signed the Sarbanes-Oxley
certifications and assured investors and regulators of the
adequacy of internal controls over financial reporting. You
believed that when you signed them?
Mr. Corzine. Yes, sir.
Mr. Renacci. Thank you, my time is up.
Chairman Neugebauer. I thank the gentleman. And now the
gentleman from Texas, Mr. Canseco.
Mr. Canseco. Thank you, Mr. Chairman.
Thank you, Mr. Corzine, for being here. Back in July of
2002, while you were serving in the Senate, you made a
statement regarding financial regulation, and you said, ``We
need real reform, and we need it now. We do not need the
rhetoric. We need to be able to restore the confidence the
American people want to see, move away from the era of Enron
and WorldCom and get to an era where we have markets that are
balanced and fair, where they have the checks and balances in
them to give people the confidence that when they make an
investment, that investment is what they thought. It is when
they entered into it.''
Unfortunately, the bill which you were then speaking in
strong support of was the Sarbanes-Oxley bill, which has cost
the private sector billions of dollars to comply with and is a
direct cause of the lack of public offerings in recent years.
Yet even with all the provisions of Sarbanes-Oxley, $1.2
billion of customer money could supposedly just vanish into
thin air at MF Global. A lot of this money belongs to
hardworking farmers and ranchers across the country who trusted
MF Global and the customer segregation laws that have been in
place for years.
The farmers and ranchers whose assets are frozen, or lost,
are no different than the rank and file workers at Enron who
lost some or all of their retirement savings. They are all
innocent victims of failed corporate management and failed
regulation, and certainly, the investments that customers made
in MF Global aren't what they thought they were.
So, a question to you, you had specific responsibilities in
your role as mandated by Sarbanes-Oxley law. Yet, according to
your testimony, you seem to have made little or no effort to
acquaint yourself with the firm's primary business. Were you
failing as a CEO to perform the due diligence as required by
law?
Mr. Corzine. Congressman, we have a whole staff of
individuals and checks that are performed to make sure that
senior management has knowledge of deficiencies and elements of
our control systems that would have been reported, not only to
me, but to the audit committee before we would sign those
Sarbanes-Oxley certifications.
Mr. Canseco. Let me ask you this, because I have limited
time here. You as CEO have a responsibility to monitor the
internal controls at MF Global. Who at the company was
responsible for ensuring that customer accounts were
segregated?
Mr. Corzine. There was a team of people in our Chicago
office, led by the North American CFO and people on that staff
who had the oversight of the functions of the segregated
accounts.
Mr. Canseco. And you know who they are?
Mr. Corzine. I do.
Mr. Canseco. Let me move on a little bit here to a
different line of questioning. MF Global's Web site states,
``MF Global is a well capitalized and diversified intermediary
with a strong, conservatively managed balance sheet. We take
measured principal risk to support client activity and offer
financing to facilitate client transactions. Because of our
financial strength and comprehensive risk management, clients
can have confidence that they are trading with a strong
counterparty.''
So, please tell us, Mr. Corzine, in your own words, what
the following terms mean. First, ``well capitalized.''
Mr. Corzine. ``Well capitalized'' means that we were
meeting our regulatory requirements, that we had capital that
would allow us to believe that our positions were sustainable
for the timeframe that we were to hold them.
Mr. Canseco. Second, ``diversified intermediary.''
Mr. Corzine. ``Diversified'' would mean that we were in
more than one business, that we had different ways that we
could approach producing revenues.
Mr. Canseco. Third, ``strong, conservatively managed
balance sheet.''
Mr. Corzine. As you know, we were, or as I suggested in my
written statement, that we were actively reducing the leverage,
and we were in the midst of looking for a strategic sale or
partnership with regard to our FCM so that it would come down
even more dramatically.
Mr. Canseco. All right, and finally, ``measured principal
risk.''
Mr. Corzine. The measured principal risk has to do with how
we look, how, generally, people are required to report their
risk, its valuation at risk, and those numbers were really
quite small by comparison of any of our competitors and didn't
grow under my watch.
Mr. Canseco. All right. I see that my time is just about to
expire, so let me ask you this, where were Sarbanes-Oxley and
Dodd-Frank in preventing the collapse of MF Global? Could they
have prevented it?
Mr. Corzine. I don't know that I can answer that question,
Congressman.
Mr. Canseco. Do you have an opinion?
Mr. Corzine. I believe that when you have internal
controls, and they work the way they are supposed to, you have
the right people, policies, and procedures in place, which we
believe we did, they should have prevented the kind of problem
that we had.
Mr. Canseco. So, obviously, Dodd-Frank and Sarbanes-Oxley
couldn't help you and couldn't have helped MF Global survive.
Thank you very much, and I yield back the balance of my time.
Chairman Neugebauer. I thank the gentleman, and now the
gentleman from Colorado, Mr. Perlmutter, is recognized for 5
minutes.
Mr. Perlmutter. Thanks, Mr. Chairman, and I guess that sort
of gets to where I want to start. There is an old adage:
Desperate people do desperate things, desperate companies do
desperate things.
So, in these final days, just some basic questions and
maybe you have answered these, who were your top three secured
creditors, say a week in advance of the bankruptcy? And I am
asking both gentlemen.
Mr. Corzine. Secured creditors, probably JPMorgan, which
ran a secured credit facility for us.
Mr. Perlmutter. Okay.
Mr. Corzine. And there were a number of banks in that, most
of the major financial institutions.
Mr. Perlmutter. And did they cash their collateral in that
last week?
Mr. Corzine. I have no knowledge on whether they did or
they didn't. They continued to allow us to fund against that
secured facility.
Mr. Perlmutter. I guess my question is, over the course of
the last week, how did the company get so upside down?
Mr. Corzine. I think, as I have stated in my written
testimony, the downgrade, the reported loss and the concern
that was expressed by the rating agencies, in particular, with
regard to this sovereign position created a fairly negative
environment for investors and people who were making judgments
about the company.
Mr. Perlmutter. Look, there are going to be plenty of
courts to look at this, from the bankruptcy court to who knows
what else. So, I am with Mr. Capuano. I am trying to figure
out, in times where there really is a run on the bank, where
there really is desperation, ordinary protocols sometimes go
out the door.
Now, whether there needs to be a third party who holds the
money in trust, kind of slows down the whole process in good
times, but definitely slows it down in bad times, is that
something that would have helped here to protect folks who seem
to have lost their investment?
Mr. Corzine. If segregated accounts were held outside, it
might have. I don't want to speculate on that. The depositories
now hold some of the customer funds, and they are already held
outside the firm. Some are; some aren't.
Mr. Perlmutter. Mr. Canseco's questions, though, he was
focusing on Sarbanes-Oxley, he was focusing on Dodd-Frank, we
have the 33 Act, we have the 44 Act, we have all sorts of
things, but the thing we don't have is some specific
requirement, in my opinion, and maybe I am wrong, that there be
a segregated account.
That may be too harsh on the system, and it won't operate
very efficiently, but in this instance, it would have
potentially blocked or been a firewall to slow down the
movement of the money. And so I am just trying to figure out,
as Mr. Capuano was, how could we have prevented this, because
in those last days it was, in your word, ``chaotic.''
Mr. Corzine. Congressman, until the facts are peeled back
on literally thousands of transactions, I am moving into a
speculative forum, and I could be misleading.
Mr. Perlmutter. Okay. Mr. Abelow, do you have any response
to that, because we are here as legislators. I am not here to
judge what happened.
I am just trying to hear--a lot of people lost a lot of
money and I am trying to figure out, is there a way that could
be--we could deal with it in terms of the law to stop this from
happening?
Mr. Abelow. Congressman, at the risk of repeating myself
and the Governor, I think that we will, in the fullness of
time, when we understand exactly what happened, we will be, you
will be and the regulators will be better positioned to
identify what additional safeguards, if any, would prevent
whatever happened from happening again.
Mr. Perlmutter. Okay.
Thank you, I yield back.
Chairman Neugebauer. I thank the gentleman.
And now the gentlewoman from New York, Ms. Hayworth, is
recognized for 5 minutes.
Dr. Hayworth. Governor Corzine, on page 18 of your written
testimony, you state you were not an expert on the complicated
rules and regulations governing the various operating
businesses that comprise MF Global, that you had little
experience or expertise in those operational aspects of the
business.
Now, on page 4, when you are describing your initial tenure
at MF Global, you do say that you initiated, obviously, you had
a strategic review with the Boston Consulting Group, very well
respected, and you looked into obviously a range of businesses
and determined that you would take MF Global from being a
fairly stodgy 230-year-old brokerage firm and 3-to-5-year plan
that you would ultimately convert it into an investment bank,
which obviously carries more risk but more potential
profitability, one presumes. That is why you would have done
that, although I don't mean to impute motives.
But if it had remained simply a broker, obviously,
presumably, we wouldn't all be here.
But I am just, you can understand the discrepancy, and you
can understand from your, again--I have spoken with former
colleagues of yours who have the highest respect for your
gifts. It is hard to imagine. And we have found ourselves in
this sort of situation, unfortunately, all too frequently in
the recent past, where there is a highly talented man or woman
who experiences or leads an organization that unfortunately
comes to grief in one way or another, and then there is a
contention of ignorance.
So, I am wondering how we resolve those things, and how can
any awareness in that way or any perception in that way help us
to prevent this kind of event from happening in the future?
Mr. Corzine. It is a challenging question, Congresswoman. I
believe that the vigorous application of the checks and
balances that come from things like Sarbanes-Oxley's review of
internal controls are a positive ingredient to bring some sense
of security to those that look at organizations externally,
certainly give one a greater sense that the financial numbers
are what they are supposed to be.
It is absolutely essential that leaders within an
organization set a culture that people attend to those terms
and conditions of operating within the spirit and letter of the
law. Until that evening, as it relates to customer funds, I
believed we were doing that.
Dr. Hayworth. Do you think, sir, that there might have been
excessive deference toward your position given that you had had
a rather stellar career, to say the least?
Mr. Corzine. Sometimes, the kind of career that I had had
might not bring deference.
Dr. Hayworth. I assume you are talking about the political
side. Don't forget your audience.
Mr. Corzine. But I leave it to your conclusion. It is a
risk when someone new comes into an organization.
Dr. Hayworth. I wonder, as I listen, because we try to come
up with--the 111th Congress passed a massive law that was meant
to try prevent tragedy, and yet we find ourselves at risk of
suffocating the very mechanisms that create growth and jobs.
And what I think we need is better tools that will allow
the effective application of the laws that existed prior to
Dodd-Frank. Would you say better tools might help us, better
analytics?
Mr. Corzine. Better analytics always help. More
information, more transparency, in my view, are positive, and
certainly, better analytics are important.
Dr. Hayworth. I yield back.
Mr. Chairman, thank you.
Chairman Neugebauer. I thank the gentlewoman.
And now, the gentleman from Tennessee, Mr. Fincher, is
recognized for 5 minutes.
Mr. Fincher. Thank you, Mr. Chairman.
Thank you, Senator, Governor for coming here today.
I represent a very heavily agricultural district back in
Tennessee. A lot of constituents had money tied up in MF
Global, and they are calling me and asking me, what happened?
What is going on? If you were a customer of MF Global--I have
just a couple of statements, a couple of questions, and then I
will let you comment. If you were a customer of MF Global,
would you accept the story that you are telling that you simply
don't know where the funds are, that $1.2 billion is
unaccounted for, and the CEO and the COO and the CFO of this
firm simply don't know where the money is and can't help find
it, because they quit and don't have access to the records?
Should hardworking farmers and ranchers who have their money
tied up accept this, and would you?
Mr. Corzine. If I were one of those customers, I would be
very frustrated and angry. I would expect that we will get the
answers to this as the multiple investigations that are looking
at all of the facts lay those out. And people, according to
what I have heard, have almost a 24/7 approach to those
investigations. I am sure it is frustrating, but it needs to be
resolved with facts, not speculation.
Mr. Fincher. Why did you resign?
Mr. Corzine. I was asked to resign by implication.
Mr. Fincher. You repeatedly state that you are unable to
answer specific questions because you do not have access to the
books. Why not help the investigators find this money? And can
you point to any instances where you have assisted in the
ongoing search for these funds after you left?
Mr. Corzine. I have not, other than my testimony, which I
am sure has been reviewed.
Mr. Fincher. Who had the right to approve transfer of money
between firm accounts?
Mr. Corzine. As I said in my testimony, it was in our
Treasury function. And there are checks and balances on that.
There are Treasury operations where people physically move
securities and cash, and there are people who do the financing
part, operate and interface with banks in the repurchase
markets and other things.
Mr. Fincher. Would it be safe to say that maybe the reason,
and just in layman's terms, if you will, that you were just, MF
Global was just shorting the market and couldn't cover the
margins, and that is why the money is gone?
Mr. Corzine. Congressman, to my recollection, on the
evening of October 27th, there were substantial hundreds of
millions of dollars in cash and free collateral that should
have allowed us to meet margin calls.
Mr. Fincher. Do you think any laws have been broken here?
Mr. Corzine. Congressman, I would be speculating, because I
don't know the facts. And I think it is fact-dependent.
Mr. Abelow. I do not know, sir. I have not--I don't have
access to the ongoing investigations and what they have
uncovered to date.
Mr. Fincher. It is just really, to commonsense business
people, farmers who take risks--and I am a farmer--every day
trying to deal with all sorts of variables, to have some
stability and presence knowing that their capital is safe, and
then to have these hearings--and I have watched the Senate and
then the House Agriculture Committees, and then today--and it
just, no answers, it is just beating around the bush so to
speak, as we say back in Tennessee, no clarity, no one knows
anything, everybody has done something, and it is really a
shame. I am sure we will get to the bottom of it; someone will.
But I hope no laws have been broken here, because this is
really a disservice to a lot of American farmers. Thank you,
gentlemen.
Chairman Neugebauer. I thank the gentleman.
And now, the gentleman from California, Mr. Royce, is
recognized for 5 minutes.
Mr. Royce. Thank you. Mr. Corzine, you took the helm of MF
Global in March of 2010. But a couple of months prior to that,
you lobbied or argued before the New York Fed on behalf of MF
Global, seeking to become a primary dealer. It has been noted
that you believed that this status was a critical part in
shifting MF Global toward a Goldman-like institution, a mini-
Goldman, I think was the wording. Can you explain why that was
the case?
Mr. Corzine. Congressman, I did join MF Global in the last
few days of March of 2010. And I did not, previous to that
time, meet with the Federal Reserve on MF Global or on any
matter, or anyone else with regard to an MF Global matter.
Mr. Royce. So the reports about joining the select club as
primary dealers, you did not play a role in that, you did not
envision that as an advantage and suggest that and try to--go
ahead, sir.
Mr. Corzine. After I joined MF Global, I certainly
continued the pursuit, which had actually begun I think as much
as a year and a quarter before I had joined, believed that it
was important for us in a development of our business. We were
active market makers in U.S. Treasury and agency securities
before I came to MF Global. It is part of my own history at
some place I actually had expertise. And we certainly did not
step back from seeking that recognition after I came.
Mr. Royce. At the time of your approval as a primary dealer
at MF Global, the institution had a weak credit rating, MF
Global was bleeding cash, the losses in the prior year, I
believe, were $137 million. There was a history of compliance
failure, at least 80 regulatory actions taken against it since
1997. Looking at that period in the spring of 2010, does it
make sense to you that MF Global was approved to be a primary
dealer by the New York Fed?
Mr. Corzine. Congressman, we were approved in, if I am not
mistaken, in 2011, either January or February, I can't remember
the specific date. But it was a 2011 approval.
Mr. Royce. Would you have approved an institution with
those problems?
Mr. Corzine. I would have, as we did, make the case that we
were a meaningful provider of liquidity to the underwriting of
U.S. Treasury debt, that we were providing liquidity to our
clients through the repurchase agreement markets, that we had
insights because we were active in futures markets around the
globe that could be important to the capital markets desk about
what was happening in markets.
Mr. Royce. At the same time, if you were in the shoes of
the New York Fed, and you had been through Bear Stearns,
leveraged at 30 to 1, if you had been through Lehman at 30 to
1, and arguably the leverage here of your firm was 40 to 1, I
guess I am asking, do you think you got special treatment
because of your connections in terms of this decision to give
this designation to MF Global given some of the concerns out in
the financial press about the institution?
Mr. Corzine. Congressman, I don't believe we got special
treatment. We never asked for special treatment.
Mr. Royce. Then let me ask you about CFTC, because, as you
know, Mr. Gensler has recused himself from the case because of
your past relationship. Do you believe MF Global, specifically
the segregation of customer funds, was properly overseen by the
CFTC? And do you believe that your firm might have been given
special treatment because of your connection to Mr. Gensler,
who has now recused himself?
Mr. Corzine. I do not believe we were given special
treatment. And I need to understand as we--as I have
communicated to the committee, that when we know the issues
that caused this element, then I think you can make better
judgments about whether the CFTC or anyone else actually,
including internally, we performed our responsibilities.
Mr. Royce. My time has expired, Mr. Chairman. Thank you.
Chairman Neugebauer. I thank the gentleman.
And now, the gentleman from New Jersey, Mr. Garrett, is
recognized for 5 minutes.
Mr. Garrett. I thank the chairman, and I thank you,
Governor, for being here.
Governor, you go to great lengths in your testimony to
explain that in your opinion, none of the firm's European
sovereign debt trade ever lost money. I understand that. But
obviously, you would also had to have known that the downgrades
and other concerns could lead to margin calls, which is what
occurred, and a loss of liquidity risk as well. And I think you
allude to this in your testimony. So the question then becomes,
isn't it your job, as CEO and chief risk officer, and I believe
your testimony or one of your statements someplace was, ``I
consider one of my most important jobs to be chief risk
officer,'' isn't one of your jobs then to take this seriously?
Isn't this also really what got AIG, for example, which you
talk about all the time, in trouble? Is it maybe that the bets
were appropriate bets, all things considered, but it is the
liquidity and the potential for downgrades that had to be
considered and in this case were not?
Mr. Corzine. Congressman, it is not that they weren't
considered, but they probably weren't measured, certainly after
the fact, to the degree that they should have been factored in.
Mr. Garrett. I see. In the course of extensive interviews,
we have learned from your former chief risk officer, Michael
Roseman, that he expressed significant concerns with the
liquidity risks associated with the growing repo market that
you have already talked about tied to European sovereign debt.
He said liquidity risks associated with these risks that we
just talked about might ultimately sink the firm. First of all,
do you think that he was right in that sense?
Mr. Corzine. First, Congressman, I believe that, by my
recollection, that Mr. Roseman's chief concern was the default
risk, or restructuring risk, as opposed to liquidity risk. Mr.
Stockman was much more focused on the liquidity risk than I
think Mr. Roseman was.
Mr. Garrett. Was Mr. Stockman correct then, in that sense?
Mr. Corzine. The facts speak for themselves.
Mr. Garrett. Mr. Roseman apparently was uncomfortable with
position limits. And you were talking about the process as far
as going to the board for that. He was concerned apparently
when they were set at $2 billion. I understand that you had to
go to the board at least twice to approve limits above that
level. And as the position went above that level, eventually,
it went to $4 billion in late October of last year. I guess at
that point in time, according to Mr. Roseman, you sought to
draw a proverbial line in the sand against any other increases
and made that presentation to the board in November of 2010. Is
that a correct assessment of what he was trying to do?
Mr. Corzine. I am not certain of the timeline, but I do--
Mr. Garrett. Generally.
Mr. Corzine. I accept that Mr. Roseman did not want to
increase this. I would add that it was in the context of not
only sovereigns, but other activities that we did in those
countries with private investors and other credit arrangements.
Mr. Garrett. Gotcha. The board apparently, after those
concerns, ultimately agreed to put a hard cap at $4.5 billion
and revisit the position in February or March of this year. Mr.
Roseman eventually was replaced in early January of this year.
The question then is, when did you begin, if it was you, your
search to replace him? Was it at this time of his departure or
prior?
Mr. Corzine. This is to the best of my recollection--
Mr. Garrett. Sure.
Mr. Corzine. --we started a search sometime around the
first of February.
Mr. Garrett. Immediately or sometime after his departure?
Mr. Corzine. Mr. Roseman and I had a conversation about
whether there were other things that he might want to do, and
would we want to have additional folks, and would he help us in
a transition.
Mr. Garrett. Okay. Now, you mentioned Mr. Stockman before,
and he was more concerned about the liquidity risk aspect of
it. But it was under him, I guess, then, that the board decided
to go past that $4.5 billion cap that just previously had been
set on a previous review date in February or March. How did it
happen that they went once again above the limit they had set
upon themselves, or for the company I should say?
Mr. Corzine. I would, to my recollection, suggest that I
went and asked for specific sovereign authority on individual
countries.
Mr. Garrett. Okay.
Mr. Corzine. And to my recollection, the board was more
comfortable with some sovereigns than they were others, ones
that had higher ratings and were more comfortable having larger
size--
Mr. Garrett. So, collectively, they decided that they could
go beyond that?
Mr. Corzine. My request actually was for smaller size, but
to take into consideration what the European community had put
in place to back up Ireland and Portugal.
Mr. Garrett. If the Chair would allow just one last
question then. In the interview--see if this is correct in my
understanding of the interview with Mr. Stockman--he mentioned
that he did not have liquidity risk in his portfolio. First of
all, is that correct? And if that is correct, why was that
decision made to take out of his portfolio of responsibility?
Mr. Corzine. Congressman, I really--I don't know how to
respond to that. Liquidity risk was certainly something that we
constantly depended upon our risk department to address.
Whether he had limit authority, I can't speak to it.
Mr. Garrett. Thank you. I will yield back to the Chair with
that.
Chairman Neugebauer. I thank the gentleman.
And now, the gentleman from New York, Mr. Grimm, is
recognized for 5 minutes.
Mr. Grimm. Thank you, Mr. Chairman.
Mr. Corzine, you just testified a moment ago, my colleague,
Mr. Royce, asked you a question, and you responded in part, at
some place I actually had expertise. And I assume you were
talking about at your time at Goldman.
Mr. Corzine. Congressman, I grew up in the government
securities business, and I was responding to the fact that Mr.
Royce raised this issue about the primary dealership. And this
had been something that I probably had spent 15 years, had been
very, very active in that marketplace.
Mr. Grimm. Okay. But you would say that as the CEO at MF
Global, you had some expertise. Is that correct?
Mr. Corzine. Certainly with regard to the government
securities markets.
Mr. Grimm. Okay. And you were asked a little bit about your
deference. Do you think you could have gotten any special
treatment because of deference because of the positions that
you have held? And I just want to note that you were granted a
3-year extension of your employment agreement in 2011. And two
of the reasons they cited were success in securing primary
dealer status and improving the posture with regulators, the
company posture with regulators. Do you think that would
definitely have something to do with maybe some deference to
who you are and your status? I mean, plausibly?
Mr. Corzine. Congressman, it is plausible. But I think
what--
Mr. Grimm. That is all I needed to know. Thank you very
much.
Let me ask this: You mentioned before in your statements
that you actually came in when the leverage was about 40 to 1,
and brought it down to say 30 to 1. Is that correct?
Mr. Corzine. Yes, sir.
Mr. Grimm. Okay. Mr. Pearce started to hit on it, but he
didn't let you answer the question, so I am going to let you
answer the question. When you analyze the records for seven
quarters in a row, you run up your leverage right after the
quarter ends. So you delever right before the filings for seven
quarters in a row. That I am sure you know is known as window
dressing. But let's go through that. These are the repos 105, I
believe. Right? These are 105? Or--
Mr. Corzine. To my knowledge, Congressman, there were no
repo 105s executed at MF Global.
Mr. Grimm. There weren't. Okay. Then what repos did you
use? Is it not true that after each filing, for seven quarters
in a row, the leverage went dramatically up?
Mr. Corzine. Congressman, because our systems were not as
strong as we would like them to be, we only netted positions at
the close of a quarter. That is if you were long in a security
in one account and shorted in another--
Mr. Grimm. Thank you for the explanation, but ultimately if
I look at your seven quarter filings in a row, at the end of
each filing, your leverage is one place, and then right after
that filing, your leverage is much higher. Regardless of why,
is that a factual statement or not?
Mr. Corzine. I can't actually answer that question.
Mr. Grimm. Okay. Maybe the CFO can answer that question.
Would a strict analysis of someone who knows nothing, say like
me, who is not involved in MF Global, if I look at your
quarterly filings, is that statistically a fact, regardless of
why?
Mr. Abelow. Congressman, the CFO isn't here today. I
apologize.
Mr. Grimm. I am sorry. You are the acting president?
Mr. Abelow. I was the president. And I don't have those
records with me, so I can't verify. I was not at the company
seven quarters ago. And I don't know what happened the day
before or the day after.
Mr. Grimm. Okay. And Mr. Corzine, you don't recall seven
quarters in a row? There was an article about this. So I am
assuming it was brought to your attention. It was written in--I
am sure you read the article.
Mr. Corzine. Congressman, I am not familiar with the
article.
Mr. Grimm. You are not familiar with that article?
Mr. Corzine. I am not familiar with that article.
Mr. Grimm. Okay. Outstanding. Let me ask you this. I think
there are millions of people who are familiar with that
article. I am going to just say, I don't believe that answer,
Mr. Corzine. If I am the CEO of a company and a major national
newspaper writes an article about my company alleging that I
did something that is unethical, window dressing, maybe not
illegal but unethical, I would know about it. I can't believe
that no one said to you, called you and said, ``Hey, you see
that article they wrote about you?'' I get that now as a Member
of Congress: ``Hey, did you see that article they wrote about
you?'' You don't know about that article. You just testified
under oath you did not know about this article.
Mr. Corzine. I don't know the date.
Mr. Grimm. Fair enough. That is your testimony.
Mr. Corzine. I don't know the date or what newspaper.
Mr. Grimm. The Wall Street Journal. It is a small little
tablet. You testified before about unreconciled differences in
segregated accounts. Unreconciled differences. I am not a CEO.
I haven't been a Senator. What is ``unreconciled differences?''
Does that mean there is money missing in the account?
Mr. Corzine. It means that there are not the assets that
were supposed to be held against the segregated dollars that we
were responsible for.
Mr. Grimm. And do you reconcile every day at the end of the
day?
Mr. Corzine. Absolutely.
Mr. Grimm. Every day broker-dealer and so on?
Mr. Corzine. Have to submit to the CFTC that you are in
reconciliation.
Mr. Grimm. So unreconciled difference means something is
missing?
Mr. Corzine. Either that or--
Mr. Grimm. No. I mean in your case, not in the abstract. We
are talking about MF Global, the company you were in charge of.
What did that mean, ``unreconciled differences?''
Mr. Corzine. We were not in balance in our segregated
accounts.
Mr. Grimm. Not in balance? What does that mean, ``not in
balance?''
Mr. Corzine. It could mean we didn't have control of
collateral, it could mean we had money that moved that
shouldn't have moved.
Mr. Grimm. You had money that moved that shouldn't have
moved. Who other than you, is it the Treasury Department within
that has the authority to move that money?
Mr. Corzine. Yes, sir.
Mr. Grimm. My time has expired.
Chairman Neugebauer. I thank the gentleman.
Now the gentleman from Michigan, Mr. Huizenga, is
recognized for 5 minutes.
Mr. Huizenga. Thank you, Mr. Chairman.
And I am, frankly, intensely interested where my friend
from New York was going. So if it is all right, I am going to
give you 30 seconds of my time so you can quickly finish that
up.
Mr. Grimm. Thank you. I appreciate that.
At the end of each day, you just testified that they
reconciled. Prior to this time that we are talking about now,
the demise, the explosion here, were you ever--did you ever
have unreconciled differences in your account.
Mr. Corzine. Not to my knowledge.
Mr. Grimm. Never. Okay. That is good to hear. What is the
first thing that would happen when they found out that there
was something out of balance, something was unreconciled? Would
you get a call, as the CEO, from treasury?
Mr. Corzine. If it was a serious imbalance, yes.
Mr. Grimm. And is that what happened, you got a call?
Mr. Corzine. There was work trying to reconcile this, and I
know this after the fact, not before the fact, on that Sunday.
Mr. Grimm. But this is a serious unbalance, this is a
pretty serious difference, correct?
Mr. Corzine. From only what I have been able to discover
afterwards from reading some of the press reports--
Mr. Grimm. Okay. So as soon as they found out, treasury
found out that it was unreconciled, did they call you or not?
Mr. Corzine. I was notified on Sunday evening--
Mr. Grimm. Okay. So they didn't call you, they did not call
you then when they--when they closed the books at the end of
the business day, it was not reconciled, but they did not call
you.
Mr. Corzine. It was normal operating procedure to have the
calculation done the following business day, which was Friday
to Monday. And so folks were working on this reconciliation
through the weekend. I think there was a--
Mr. Grimm. Who ultimately notified you then that there were
unreconciled differences?
Mr. Corzine. The CFO.
Mr. Grimm. The CFO.
Mr. Huizenga. I would like to reclaim my time at this
point. It quickly turned into 10 minutes. Kind of along that
line, do you recall making this statement: ``Our positions and
the judgment about risk mediation steps are my personal
responsibility.'' That is according to Bloomberg regarding an
October 25th conference call regarding these quarterly losses
and the debt downgrade. You then saw a 67 percent loss in value
there. Do you recall making that statement?
Mr. Corzine. I recall something of that nature made.
Mr. Huizenga. Okay. That was the quote in the article.
And I am just curious, we all get here, you sat on this
side of the microphone, I am sure you are wishing you weren't
sitting on that side of the microphone today, but are you a
hands-on kind of guy, a detailed kind of guy?
Mr. Corzine. In markets and clients' activities, I think
most people would--
Mr. Huizenga. But in general life? Because I know I am here
and I like asking questions. I like knowing about what is going
on. Are you a control freak type, or are you the, hey, we will
let things kind of play out and see what happens?
Mr. Corzine. When it comes to the things that I understand
and have expertise in, I am very hands on.
Mr. Huizenga. Okay. It seems to me that in the things that
you have done in life, you have maybe had to strike a balance.
I know I do. I have to know some details; I have to know about
details on legislation. Do I know about every detail about
every piece of legislation? Probably not, but I have people who
follow that, and I have to go get it when a constituent asks.
That is fair, right? I don't think we are expecting you to know
everything that every single employee is possibly doing during
the day. But I think what my friend from New York is getting at
is when you have some major issues like this, it would seem
that responsibility lies in your office. That is what you said
on October 25th.
I can tell you, having some personal experience with
attorneys and real estate brokers--I am a former REALTOR
myself--when you start commingling funds, when you start
pulling funds that don't belong to you to go do things, no
matter how valiant, no matter how beneficial to you personally
or the firm or whatever else, people lose their law licenses;
people lose their brokerage licenses. I think that is why you
are seeing such frustration, anger, and hostility at this.
My phone started blowing up November 1st and late on
October 31st by people whom I had no idea in my district, whom
I couldn't even fathom had some sort of connection to MF
Global, but they did, predominantly through the agricultural
community. And it just seems to me that when you are claiming
not to know details about some major, major issues that have
been brought up here, it just doesn't ring true. It just
doesn't ring like it is heartfelt.
And Mr. Abelow, I know both of you were employed by the
Global Holdings. I am assuming that this isn't the only asset
that Global Holdings had. I know you have operations in Canada,
and Hong Kong, and England, and a number of places around the
world. Correct?
Mr. Corzine. Yes, sir.
Mr. Huizenga. And are they all much like this structure, a
separate entity operating in these other countries?
Mr. Corzine. Each country has its own regulatory structure,
each country has its own finance structure. And there is
cooperation across the global--
Mr. Huizenga. And you communicate on a regular basis with
those other entities?
Mr. Corzine. Yes, sir.
Mr. Huizenga. And that seems to maybe get at, and I know my
time is almost up here, but it seems like I think that is some
of the concern is we are seeing this money get passed around.
The fiduciary element feels like it is lost. Now, it might be
there legally technically, but I can tell you as someone who
had a fiduciary responsibility as a REALTOR and a developer,
and having those dollars come in, this certainly doesn't feel
or look like you were caring for those other people's money the
way that you should have, and certainly were expected to. One
last question: Did you have personal dollars yourself in those
segregated fund accounts?
Mr. Corzine. I did not.
Mr. Huizenga. You did not. So this was not any of your own
money. You were just out with everybody else's money. It was
other clients.
Mr. Corzine. I didn't have a futures account, didn't trade
for my own account. I thought it would be a conflict to be an
active trader for my own purposes while I was leading a
company.
Mr. Huizenga. But you certainly were active in trading
personally, correct?
Mr. Corzine. No. I bought shares in MF Global, which I
think I have reported in my written statement.
Mr. Huizenga. Yes. But you weren't involved in the day to
day choosing where things were going to be going?
Mr. Corzine. There were things that I traded through--we
set up a very complex compliance structure, extra supervision,
to make sure that when I executed a trade, first of all, I
didn't write a ticket, but somebody else did, that they were
both observed and those procedures were followed.
Mr. Huizenga. I know my time is up, but Governor Corzine,
you have thousands of hardworking people around this country
who feel cheated. And frankly, it is hard not to disagree with
them. Thank you.
Chairman Neugebauer. I thank the gentleman.
Mr. Dold is recognized for 5 minutes.
Mr. Dold. I thank the chairman. And certainly I want to
thank the Governor. I appreciate your appearance and testimony
here today and at other House committees and Senate committees
as well. I am particularly interested in this issue. For the
first time in 150 years, the Chicago Mercantile Exchange had
customer funds missing. I represent the Northern District of
Illinois and the 10th District, and I probably have more
traders in my district than perhaps any other district in the
country.
So my first question for you is, when we look at the $1.2
billion missing, did you have any communications, whether in
person, by telephone, by email, or text message, or any other
means that specifically contemplated, addressed, or approved
sending segregated customer funds to serve as loans to,
collateral for, or liquidity for broker-dealers whether or not
they were MF Global affiliates or nonaffiliates?
Mr. Corzine. I believe the answer to that is no.
Mr. Dold. So today here, before this committee, you are
saying that--
Mr. Corzine. I believe that--
Mr. Dold. I am just clarifying.
Mr. Corzine. --the moving of customer funds I never
authorized, I never intended to authorize, nor do I think
anyone could misconstrue anything I said that would authorize
the moving of customer funds in an improper way. And so I
don't--you put a lot of--
Mr. Dold. Let me try to be more specific then, and not put
so many of those caveats in there, because it was really trying
to get to the point of certainly in today's technology, did you
receive any emails where you may have been CC'd that talked
about moving customer funds?
Mr. Corzine. To my knowledge, and I haven't been able to
review all my records--
Mr. Dold. This is a pretty big deal, so I assume it would
stick out.
Mr. Corzine. If someone sent me a memorandum, or an email,
or a PDF off of an email that suggested we use customer funds,
I wouldn't have authorized it.
Mr. Dold. And you do not--at this point in time, you are
saying that you do not remember receiving any of those?
Mr. Corzine. At this moment, I don't recollect receiving
any of those.
Mr. Dold. If segregated customer funds were used for MF
Global's purposes, wouldn't you expect U.S. Treasuries or
similar securities to be placed in the segregated accounts as a
substitute for customer funds?
Mr. Corzine. That would be how the rule 1.25 requirements
would work, on that basis.
Mr. Dold. Now, I do have just a couple more questions. You
talked before about being notified that there was an imbalance.
Correct? Just moments ago?
Mr. Corzine. Yes. Yes, sir.
Mr. Dold. Okay. Did any customer statements ever show that
there was an imbalance in their account?
Mr. Corzine. Congressman, I can't answer that question. I
don't know the answer to that.
Mr. Dold. My understanding is that no customer ever
received a statement--do you have any knowledge of that? No
customer ever received a statement that their account was in
imbalance?
Mr. Abelow. I don't know about that. Again, that I learned,
as the Governor has stated, I learned on the evening of the
30th that there was an imbalance in customer funds. I don't
know if any statements went out subsequent to that date to
customers because the filing for bankruptcy was the next
morning.
Mr. Dold. Governor, you talked before about having the
right people and the right policies in place. And I understand
that is important. Do you know Stephen Grady, Dennis Klejna, or
Joseph Murphy?
Mr. Corzine. The first two gentlemen I know.
Mr. Dold. Okay. And the reason I bring up those names
specifically is I think they were involved with the Refco
bankruptcy, where a number of folks went to jail, and I think
there were some significant fines paid in connection with
related Justice Department consent orders. Do you know how they
were connected to MF Global and what role they played in the
weeks leading up to the bankruptcy?
Mr. Corzine. Mr. Grady was responsible for trying to bring
about this joint venture or the sale of our FCM. He was
actively involved in those negotiations and framing that
activity in the days that led up to the bankruptcy and well
before that.
Mr. Klejna, Dennis, I couldn't always pronounce his name,
was in our general counsel's office. I think he had previously
served with the CFTC.
Mr. Dold. Were you aware of their roles with Refco?
Mr. Corzine. I was aware they were a part of the Refco
acquisition that preceded my joining MF Global.
Mr. Dold. Any background checks, anything along those lines
that would have highlighted the fact that they were involved
and had some issues potentially with some fines through the
Justice Department?
Mr. Corzine. I am not aware of those.
Mr. Dold. Mr. Chairman, my time has expired.
Chairman Neugebauer. I thank the gentleman. I have
consulted with the ranking member, and we are going to have
what I would call a lightning round. And if we could ask
Members to keep those questions maybe to one question, or short
questions so that we can move through that process. And I now
recognize the ranking member.
Mr. Capuano. I thank the chairman.
Mr. Corzine, just one question, a ballpark, I would never
hold you to exact numbers. It wouldn't be fair. Approximately a
week before the bankruptcy, a week, 10 days, whatever, do you
know who the biggest creditor of MF Global was? And the
creditor could be either a customer or somebody who was on the
counterparty through a repo or any other instrument.
Mr. Corzine. I am glad you say that. I couldn't give you
specifics. I would suspect it was JPMorgan, but I don't know
it. They were our clearing bank. They were also responsible for
our unsecured lending facility, and also responsible for our
secured lending facility.
Mr. Capuano. Would you have a ballpark idea how much that
might be? And again, I am not trying to nail you on it. Just a
ballpark.
Mr. Corzine. Well, 10 days before the bankruptcy, we hadn't
drawn on any of those facilities.
Mr. Capuano. Okay.
Mr. Abelow, the same question for you now, not 10 days
before, but now, who is your biggest creditor? Again, with the
same caveats.
Mr. Abelow. I apologize. I simply don't know.
Mr. Capuano. Okay. Thank you.
Chairman Neugebauer. Mr. Corzine, you testified in the
House Agriculture Committee hearing last week that it would be
inappropriate for you to promote the designation as a primary
dealer. In fact, you said it probably would have been
criticized by the Fed if you did so. Is that a fair assessment?
Mr. Corzine. As I recall what I said, that is--and I would
believe that using it as an advertising tool would be--
Chairman Neugebauer. On February 2nd, you sent out a press
release stating, ``Being designated a primary dealer by the
Federal Reserve in New York is consistent with our global
strategy of expanding our broker-dealer activities as we seek
to serve our clients with broader execution services and
greater market insight and ideas.'' Would you say that was
promoting your--
Mr. Corzine. That was just part of the announcement that we
were recognized. We had to say something. And I don't believe
that is implying a Good Housekeeping Seal from the Federal
Reserve.
Chairman Neugebauer. In fact, the board, in a proxy
statement, said, ``In granting Corzine a 3-year extension of
his employment agreement in 2011, the board compensation
committee noted that his performance had been exemplary since
joining the firm over a year ago. The board also noted that
Corzine's accomplishment in near-term building blocks,
including significant improvements in the reputation of the
firm as demonstrated by its ability to hire quality officials,
the company's success in securing primary dealer status, its
growing client balances, and improving posture with the
regulators.''
So it seems that was a big deal.
Mr. Corzine. Internally, there is no question that people
felt good about having that designation. But it was not
something that we advertised or promoted to our clients. There
were many clients who will not do business with people who are
not designated primary dealers. And so, the mere fact that
designation exists is a good thing, which I think the board was
trying to recognize.
Chairman Neugebauer. Did that give you borrowing power at
lower--having that dealer status, did that allow you to access
credit at a cheaper rate?
Mr. Corzine. If it did, I am not aware of it. There are--
the more lenders there are, the more likely it is that you will
have marginally better rates. But we didn't see a meaningful
element in that.
And as you know, Mr. Chairman, we are at very low interest
rates in the short-term markets today anyway. And I don't think
those were impacted by that.
Chairman Neugebauer. Thank you.
Mr. Perlmutter?
Mr. Perlmutter. Thanks. I guess my questions are similar to
Mr. Capuano's as to who got paid and who didn't get paid here.
Just as simple as that. Secured creditors. I am just trying to
figure out what happened in that week advance. Because if you
hadn't drawn on the facilities 10 days in advance of this
thing, everything kind of cratered in the last 10 days.
So did the secure creditors come in and sweep these
accounts and then assets that you thought were assets just sort
of evaporated because sovereign debt went down? And that has a
question mark at the end.
Mr. Corzine. Congressman, I said this and I meant it
sincerely, I apologize, I don't have the information to that.
And those are the kinds of things that you would have to go
through the records. I don't know whether that happened or it
didn't happen.
Mr. Perlmutter. Okay. I guess at some point, SIPC placed MF
Global in bankruptcy, and then that froze everything. And this
will all, the story will be told, as you have said, over the
course of the next few years. But I look back at CME, I look
back at all of the regulations and laws we have in place, and I
am trying to figure out today how--is there something that
needs to be improved in Dodd-Frank or Sarbanes-Oxley or the
1933 Act where some firewalls need to be built? And I guess
until we really know this whole story, we won't know, because
it seems like there, especially with CME, there should have
been a lot of protections.
Mr. Corzine. Congressman, I believe we need the facts to be
determined so that we can figure out where the mistakes were,
what was the cause of the problem.
Mr. Perlmutter. Okay.
I yield back. Thank you, Mr. Chairman.
Chairman Neugebauer. Thank you.
And the gentleman from New Mexico, Mr. Pearce, is
recognized.
Mr. Pearce. Thank you, Mr. Chairman.
Governor, what was your pay when you were working with MF?
Mr. Corzine. I was--I started out with a salary of $1.5
million, and I think it was in the second year down to about
$750,000 a year.
Mr. Pearce. Any performance bonuses on top of that?
Mr. Corzine. I had a guarantee when I joined the firm,
which I took less than the guarantee. I don't--
Mr. Pearce. How much of a guarantee?
Mr. Corzine. I don't quite remember, sir.
Mr. Pearce. Just approximately.
Mr. Corzine. I think it was a million and a half. It could
have been a million and three-quarters.
Mr. Pearce. Mr. Abelow, how about you?
Mr. Abelow. Congressman, my total compensation in the time
that I was at MF was a guaranteed amount of approximately $3
million.
Mr. Pearce. Okay. I think, Mr. Corzine, that you had
testified to Mr. Neugebauer that you didn't know anything about
the $117 million loan when he was asking his first questions.
Is that correct, that there is some loan that--
Mr. Corzine. As I said, I don't know of any loan that was
backed by customer funds. I wouldn't have authorized it. And as
I said in my oral testimony, there were questions raised by
JPMorgan about the transfer of funds from New York to London
accounts, I don't know whether they were loans or I know it was
based on the issues of overdrafts. I had oral confirmation from
the people in Chicago. And as I said, I believe I have written
confirmation from the people in Chicago that it was
appropriately funded.
Mr. Pearce. You testified to Mr. Grimm's questions that you
didn't know about the window dressing, the article that
appeared in the Wall Street Journal on November the 4th of this
year. They were kind of walking back through. If you didn't
know about that, kind of what level did things have to get to
before you were notified? In other words, all these people
below you scurrying around and putting things in place and
taking things out, and you the CEO, you didn't have day-to-day
knowledge, and it is not your background, not your expertise.
What does a CEO actually--when do they have to come to you and
say--what level does it have to reach before they notify you? I
find this compensation package and your day-to-day knowledge
not very thorough, frankly, in this testimony. And so what was
the threshold at which they had to come to you?
Mr. Corzine. Congressman, with regard to being out of
balance with client funds, they would have to come on a much,
much smaller scale than the hundreds of millions that I heard
about on Sunday.
Mr. Pearce. Yes. So the fact that we are sitting over here
on this side of the desk and there is $1.2 billion missing and
you have no day-to-day knowledge of it is just incredible. It
is just incredible.
I yield back, Mr. Chairman. Thank you.
Chairman Neugebauer. I thank the gentleman.
The gentleman from Florida, Mr. Posey, is recognized.
Mr. Posey. Thank you, Mr. Chairman.
Mr. Pearce, although he said he did not read that article
that Mr. Grimm was holding up, 3 minutes later in an answer, he
said when he read articles about that problem. So one of us is
confused there I think.
Mr. Corzine, you stated that after, I think you used the
term ``significant imbalances'' were discovered on October
31st, no statements were sent out. I am looking at a statement
dated November 7th. It indicates no imbalances whatsoever. And
there are others besides the one I am holding in my hand here.
How can that be?
Mr. Corzine. Congressman, I am not trying to avoid the
question, but I left the firm on November 3rd. And I would not
know what was included in those statements even if I had access
to my records.
Mr. Posey. Okay. I am not saying that it is your fault, my
fault, his fault, her fault, God's fault, nobody's fault. But
isn't it clear that somebody is lying to the clients if they
send out a statement that says there are no imbalances when, in
fact, it is a week after I think you used the term
``significant imbalances'' were discovered?
Mr. Corzine. Congressman, I don't know how that
confirmation or that notification was sent. So it would be hard
for me to categorize it.
Mr. Posey. It is a statement like they send out every
single month. They have been getting the same statements for
years. Just like all the others. That is how it was sent out.
It is obviously a standard procedure, a standard policy.
Mr. Abelow, can you shed any light on this?
Mr. Abelow. Sir, I don't know what statement you have in
front of you. I haven't seen it before.
Mr. Posey. You have never seen one of your customers'
statements before? You don't know what they look like?
Mr. Abelow. Sir, you are referencing a statement on a
specific date which I have not seen.
Mr. Posey. But it is the same style statement every day. Do
you change your statements every month?
Mr. Abelow. Congressman, as I stated earlier, the operating
company, the regulated company MF Global Incorporated, was
placed under an SIPC trustee on, I believe, October 31st. So a
statement subsequent to that date I wouldn't have any
information about.
Chairman Neugebauer. I thank the gentleman.
Mr. Posey. Slippery when dry.
Chairman Neugebauer. The gentleman from Texas, Mr. Canseco,
is recognized.
Mr. Canseco. Thank you, Mr. Chairman.
Just a couple of follow-up questions. Mr. Corzine, how much
of the shortfall is due to slippage in collateral transfers,
and how much was seized by creditors through margin calls after
the firm was technically bankrupt?
Mr. Corzine. Congressman, I don't know the answer to that
question. And I would have to do a real analysis with people
who knew how to read the thousands of pages. That is what I
presume that the investigators are doing at this moment.
Mr. Canseco. Any venturing, any opinion one way or the
other?
Mr. Corzine. Congressman, I am as interested in the answer
to that as you are.
Mr. Canseco. Thank you. Let me go to your Web site that
proclaimed to the public in October, now this is October of
this year, that MF Global has an extremely liquid and high-
quality balance sheet that consists primarily of client
payables and short-term Treasuries and agencies, slash,
contains minimal level three trading assets. Now, if those
statements are true, then how did MF Global go bankrupt and
lose over $1 billion in customer funds in less than a month
after that statement was made?
Mr. Corzine. Congressman, I think that statement is
consistent with how our balance sheet looked. I think that once
there is a loss of confidence, the financing techniques that I
think we have talked about here today, repurchase agreements,
and the need to put up additional margin calls, can put extreme
pressure on a financial institution. It should not have put so
much financial pressure that anyone would have improperly used
customer funds.
Mr. Canseco. Okay. Fair enough.
Now, Mr. Abelow, there are news reports stating that Mr.
Corzine had a personal trading account as CEO of MF Global. In
fact, it is reported that he was making trades from his
BlackBerry in the middle of meetings. Now, in your expert
opinion, is it proper for a CEO of such a large company as MF
Global to be engaging in such transactions?
Mr. Abelow. Congressman, I have no frame of reference. I
haven't worked directly for a CEO of a similar firm before.
Mr. Canseco. Okay. Were customers or investors of MF Global
ever made aware that the CEO of the company was spending so
much time trading? You don't know whether he was out there
trading or doing things for clients or for his own account?
Mr. Abelow. I am not aware of any specific question or
disclosure related to how the chairman of the company spent his
time.
Mr. Canseco. Thank you.
I yield back the balance of my time.
Chairman Neugebauer. Mr. Dold is recognized.
Mr. Dold. Thank you, Mr. Chairman.
I appreciate the second lightning round. I wanted to just
get back into something that my colleague Mr. Renacci was
talking about when he was going over kind of the role, I would
say the unique role that the board played at MF Global in terms
of trying to be involved in terms of risk and being able to--
the request to take on additional risk. Do you know of any
other firm that operated like that?
Mr. Corzine. I believe that delegations of authority on
risk flow from boards in most major financial institutions.
Mr. Dold. But how about day to day-type operations? My
understanding was--
Mr. Corzine. If there were major exposures, which certainly
the euro sovereign RTM positions were a major exposure, then it
would, in most companies, flow, I believe, to a board.
Certainly as a CEO, I would want my board to be aware of the
kinds of things that would be of risk to the company.
Mr. Dold. Can you just give me some sort of an idea about
what their qualifications were? Were they engaged former
traders? Were there former management in terms of futures and
equities that sat on the board?
Mr. Corzine. There were--the lead director was a former
senior officer at Merrill Lynch, which has an FCM, and is very
active in futures markets. There was a gentleman in London who
was a senior member of the management team at ICAP, which is
also another significant futures and options player. There is--
Mr. Dold. I think we can establish that there were some
folks who were on the board.
Mr. Corzine. Yes.
Mr. Dold. I guess my point is it seemed to me when you were
talking to Mr. Renacci that you were talking about having to go
to the board to overrule certain things or to get additional
risk and retention even outside of the monumental ones that you
were talking about with the European sovereign debt. Maybe I am
misinterpreting that.
Mr. Corzine. There were requests to the board, certainly
from time to time starting after December, as the position
grew. And sometimes, the board said no.
Mr. Dold. Okay. Governor, I just want to follow up with one
last thing that Mr. Posey was talking about, and then I will
yield back. The statements that went out--you said, ``I have no
idea how the statements went out.'' The statement that he just
held up in front of us, I assume that is a statement, that
general looking statement is a statement that you have seen
before.
Mr. Corzine. Yes, sir.
Mr. Dold. How about you, sir?
Mr. Abelow. I didn't see it, so I will assume that it was a
normal course statement.
Mr. Dold. Okay, a normal course statement. The long and the
short of it is you basically said you don't know how it would
have gone out on November 7th because you had left just days
prior. Had you still been there, would that statement have
still said the same thing or would there have shown--
Mr. Corzine. We are an operating business, and if we are
sending out nonfactual information, something would have had to
be done. But we would have had to correct that imbalance. We
would have had to go more than just reconcile, we would have to
had customer funds properly segregated.
Mr. Dold. So are you saying that, if indeed, this did go
out and no customer statements were augmented, that there was
some impropriety that was going on after you left?
Mr. Corzine. Congressman, I don't want to speculate about
that. I can't believe that the trustee, who has a very high
reputation, is doing--at least from my following of the
information, trying to do everything he can to return customer
funds to the clients. I would have to think that is an
oversight or somebody forgot to turn off the computer.
Mr. Dold. One last thing. Did MF Global use an off-the-
shelf risk-management program or was it proprietary?
Mr. Corzine. To the best of my recollection, we had
multiple risk management systems for different product lines.
Mr. Dold. Off the shelf or proprietary?
Mr. Corzine. Many of them were off the shelf, some were
proprietary, and they all folded into the global risk
management activities in our risk department.
Mr. Dold. Thank you.
Thank you, Mr. Chairman.
Chairman Neugebauer. I thank the gentleman.
And I thank the panel. There are no further questions from
the Members. This panel is dismissed. We will call up the
second panel now.
Before the second panel gets too comfortable, I would ask
you to stand please, and raise your right hand.
[Witnesses sworn.]
Chairman Neugebauer. On our second panel, we have: Dan
Berkovitz, General Counsel, Commodity Futures Trading
Commission; Robert Cook, Director, Division of Trading and
Markets, U.S. Securities and Exchange Commission; Terrence
Duffy, executive chairman, CME Group Inc.; Richard Ketchum,
president, chairman, and chief executive officer, Financial
Industry Regulatory Authority; James Kobak, chief counsel to
James Giddens, Bankruptcy Trustee for MF Global Inc.; and
Thomas Baxter, general counsel, Federal Reserve Bank of New
York.
I would just remind all of you that your full written
statements will be made a part of the record. We ask you to
summarize your testimony in 5 minutes.
Mr. Berkovitz, you are recognized for 5 minutes.
STATEMENT OF DAN M. BERKOVITZ, GENERAL COUNSEL, COMMODITY
FUTURES TRADING COMMISSION (CFTC)
Mr. Berkovitz. Good afternoon, Chairman Neugebauer, Ranking
Member Capuano, and members of the subcommittee. Thank you for
the opportunity to testify.
Chairman Neugebauer. Mr. Berkovitz, would you make sure
your button is on.
Mr. Berkovitz. Is that better?
Chairman Neugebauer. Much better.
Mr. Berkovitz. Good afternoon. The Commission's highest
priority at this time is returning money to MF Global customers
as quickly as possible. We are working around the clock to
determine what happened to and to locate all of the customer
funds.
The MF Global Bankruptcy Trustee, with the assistance of
the CFTC, has transferred nearly all positions of customers
trading on U.S. markets and soon will have transferred
approximately $4.2 billion of customer property. Commodity
customers will have quickly received approximately 72 percent
of their account values.
In FCM bankruptcies, commodity customers have priority in
customer property. This includes segregated property, property
that may have been illegally removed from segregation and is
still within the debtor's estate, and property that was
illegally removed but has clawed back into the debtor's estate
by the trustee.
If the customer property is insufficient to satisfy in full
all the claims of the customers, part 190 of the Commission's
regulations allows other property of the debtor's estate to be
classified as customer property to make up any shortfall. A
parent or affiliated entity, however, generally would not be a
debtor unless customer funds could be traced to that entity.
FCMs such as MF Global are subject to the Commission's
financial and reporting requirements. Frontline oversight is
carried out by designated self-regulatory organizations, such
as the National Futures Association or the Chicago Mercantile
Exchange.
DSRO responsibilities include establishing and enforcing
rules to ensure the financial integrity of STMs and the
protection of customer funds. DSROs are required to examine
each FCM every 9 to 15 months. Each FCM must submit to the
Commission and to its SRO an annual financial report, certified
by an independent public accountant. Annual reports are
reviewed by the staff of the Commission's Division of Swap
Dealer and Intermediary Oversight (DSIO) as well as the SROs.
FCMs are also required to file monthly unaudited financial
reports. Each report must include a statement of financial
condition and a statement of segregated funds. The DSROs
conduct a primary review of the monthly financial statements.
The CFTC staff conducts limited scope examinations of FCMs,
either as part of the assessment of the DSRO's examination
function or on a for-cost basis. These examinations generally
focus on specific issues at the firm and may include capital
and segregation reviews.
With respect to the protection of customer funds, by
statute, an FCM must treat all money, security, and properties
received from a customer to margin for the trades or contracts
of that customer as belonging to that customer. All customer
money, securities, and property must be separately accounted
for and segregated from the FCM's proprietary funds. Funds
deposited by one customer to margin for secure trades may not
be used for another.
An FCM must notify the Commission immediately of any
occurrence of undersegregation and of significant margin calls
or whenever its capital drops below minimum requirements.
Section 4(d) of the Commodity Exchange Act permits FCMs to
invest customer segregated funds in obligation to the United
States, obligations fully guaranteed as to principal and
interest by the United States and municipal securities.
Commission regulation 1.25 permits additional types of
investments.
On December 5th, the Commission voted unanimously to amend
regulation 1.25 to impose new restrictions on these types of
investments. Under the revised rule, permitted investments are
those identified by statute, as well as certificates of deposit
and money market mutual funds, commercial paper, and corporate
notes or bonds that are fully guaranteed by the United States
under the Temporary Liquidity Guarantee Program. The new rule
also includes various concentration limites on investments.
All FCM investments made with customer funds under
regulation 1.25 must be kept by the FCM in the customer
accounts. Further, when investing customer funds, the value of
the customer's segregated account must remain intact at all
times.
Thank you. I would be happy to answer any questions.
[The prepared statement of Mr. Berkovitz can be found on
page 107 of the appendix.]
Chairman Neugebauer. I thank the gentleman.
Mr. Cook?
STATEMENT OF ROBERT COOK, DIRECTOR, DIVISION OF TRADING AND
MARKETS, U.S. SECURITIES AND EXCHANGE COMMISSION (SEC)
Mr. Cook. Chairman Neugebauer, Ranking Member Capuano, and
members of the subcommittee, my name is Robert Cook, and I am
the Director of the Division of Trading and Markets at the
Securities and Exchange Commission. Thank you for the
opportunity to testify on behalf of the Securities and Exchange
Commission concerning the collapse of MF Global.
The bankruptcy of this firm and the apparent shortfall in
segregated accounts of futures customers has resulted in
serious hardship for many MF Global customers.
We are committed to working with the trustee and our fellow
regulators to help return customer assets, as well as to
investigate any potential violations of law that may have
contributed to customer losses.
MF Global's regulated U.S. subsidiary, MF Global Inc., or
MFGI, was duly registered with the CFTC as a futures Commission
merchant and with the SEC as a broker-dealer. As of October
31st, MFGI had approximately 36,000 futures customers and
approximately 330 custodial accounts for nonaffiliated
securities customers.
MFGI was also the member of several futures self-regulatory
organizations, or SROs and securities to SROs. For securities
activities, the frontline supervision of a broker-dealer is
performed by the SROs of which the broker-dealer is a member,
in this case FINRA and various securities exchanges.
There has been significant attention given to the repo-to-
maturity transactions entered into by the firm on European
sovereign debt. In the summer of 2011, SRO staff identified
these transactions based on an analysis of MSGI's financial
statement and questioned whether the firm was recognizing them
appropriately for purposes of its net capital computation.
The firm believed that the transactions should be subject
to lesser capital charges than the SRO staff. The SRO staff, in
consultation with and supported by SEC staff, ultimately
required the firm to take the higher capital charges and to
report the net capital deficiency for the month of July.
Several months later, after reporting a substantial net
loss with its stock, and with its stock and credit rating under
pressure, MFGI entered the weekend of October 29th to 30th
engaged in negotiations with various parties regarding
potential strategic transactions, such as the sale of the
firm's customer business to another firm.
I participated in communications with the firm management
during this period, together with other SEC staff and at times
other regulators. My recollection is that the CFTC's request
for more information about firm's computations for its
segregation accounts for futures customers was one of the
issues discussed with the firm on Sunday, October 30th.
When the firm subsequently reported early in the morning on
Monday a significant deficiency in those accounts and that
negotiations for a strategic transaction had ceased, firm
management attempted to explain to regulators how the
deficiency had occurred and whether it could be remedied. After
consultation with the CFTC, we determined together that the
safest and most prudent course of action to protect customer
accounts and assets was to initiate a liquidation proceeding
under SIPA. A referral was made to SIPA that morning.
Since then, we have been working with SIPC and the trustee
to return securities and funds to the securities customers of
MFGI. Last Friday, the court approved the sale and transfer of
approximately 338 accounts held for nonaffiliated customers of
MFGI. The trustee estimates that the initial transfer will
restore 100 percent of the net equity for more than 80 percent
of these securities customers.
The SEC has a set of rules designed to protect customer
property by prohibiting broker-dealers from using customer
funds and securities to support the proprietary positions. The
rule requires broker-dealers that hold securities or cash for
customers maintain physical possession or control over the
securities that customers have paid for in full.
Alternatively, if a customer has a margin loan, the
customer protection will strictly limit the amount of
securities that can be used for the broker-dealer for financing
purposes. As to cash, the broker-dealer must also maintain a
reserve in an account for the benefit of customers in an amount
that exceeds the net funds attributable to customer positions.
These funds cannot be invested in any instrument that is not
guaranteed by the full faith and credit of the U.S. Government.
Together, with the applicable SEC capital requirements and
SIPC protections, this regime is meant ensure that if a broker-
dealer fails, customer securities and funds will be readily
available to return to those customers. The SEC will continue
to work to identify further improvements to his customer
protection regime.
Thank you again for inviting me here today, and I look
forward to answering your questions.
[The prepared statement of Mr. Cook can be found on page
115 of the appendix.]
Chairman Neugebauer. I thank the gentleman. Mr. Duffy?
STATEMENT OF TERRENCE A. DUFFY, EXECUTIVE CHAIRMAN, CME GROUP
INC.
Mr. Duffy. Chairman Neugebauer, Ranking Member Capuano, and
members of the subcommittee, I am Terry Duffy, executive
chairman of the CME Group. Let me start by saying the actions
of Mr. Corzine's firm, MF Global, have put a lot of market
users in a tragic position.
At CME Group, our efforts, with respect to the
unprecedented loss of customer segregated funds caused by MF
Global, have been to assist these customers and minimize market
disruptions.
My testimony summarizes reports from our staff, who were on
site at MF Global along with the CFTC in the days immediately
preceding its bankruptcy. My written testimony expands on the
introductory statement and includes substantial background
material. By the middle of the week of October 24th, MF Global
had announced poor earnings and was downgraded by several
credit rating firms.
Sparking rumors that it would sell its brokerage business,
CME was the designated self-regulatory organization for MF
Global with responsibility for auditing its futures business.
On Thursday, October 27th, two of our auditors went to MF
Global's Chicago offices to review MF Global's daily
segregation report for the close of business on Wednesday,
October 26th.
Wednesday's segregation report, which is not available
until Thursday, showed full compliance. Our auditors asked for
the material necessary to check the numbers on the report
against the general ledger and third-party sources and began
the process of tying out the numbers for Wednesday's report.
That substantial review process of the Wednesday
segregation report continued on Thursday and Friday. The MF
Global segregation report for Thursday, October 27th, which was
delivered to CME on Friday the 28th, also stated that MF Global
remained in full compliance with segregation requirements.
In fact, it showed that the firm held $200 million in
excess of segregated funds. On Sunday, the CFTC informed us
that they were aware of a draft segregation report for the
close of business for Friday, October 28th, which showed a more
than $900 million shortfall in required segregation. CFTC and
CME staff and auditors returned to the firm on Sunday, October
30th, and were informed by MF Global employees that the
discrepancy was caused by ``an accounting error.''
Our auditors worked with the CFTC, and devoted the rest of
the day and night on Sunday to find the so-called accounting
error. No such error was ever found. Instead, at about 2 a.m.,
on Monday morning, October 31st, MF Global informed both the
CFTC and CME at approximately the same time that the shortfall
was real and the customer segregated firms had been transferred
out of segregation to the firm's broker-dealer accounts.
After receiving this information, CME remained at MF Global
while MF Global attempted to identify funds that could be
transferred into segregation to reduce or eliminate the
deficiency. A CME auditor also participated in a phone call
with senior MF Global employees wherein one employee indicated
that Mr. Corzine knew about the loans that had been made from
the customer segregated accounts. CME Group has provided this
information and the names of the individuals to the Department
of Justice and the CFTC who are investigating these matters.
On Monday, October 31st, the day the SIPC trustee took over
MF Global, MF Global revised its segregation report from
Thursday, October 27th, indicating that the alleged $200
million in excess segregated funds should have been reported as
a deficiency of $200 million. The shortfall in segregation on
Thursday, October 27th, was hidden by the inaccurate report, a
telling sign that regulators were being kept in the dark. It
remains to be seen whether this failure to disclose permitted
additional segregated funds to be improperly transferred.
Throughout this time, the firm and its employees were under
the direction and control of MF Global's management. Transfers
of customer funds effectuated by MF Global management for the
benefit of MF Global constitutes a very serious violation of
our rules and of CFTC regulations. We met our obligations to
all other clearing firms and their customers. Also, at all
times, we held $1 billion in excess of the required amount of
customer segregated funds on behalf of MF Global's customers.
All of CME Group's efforts have been directed towards
speeding recovery and access to their trading accounts,
transferring their positions and providing the trustee with a
$550 million guarantee from CME Group to encourage him to
quickly release customer funds that were securely held at CME
clearing. No other exchange or clearing entity in the United
States or abroad has done the same as CME group has done. The
FederalFly mandated customer segregation program has been in
place since 1936.
In that time, prior to the MF Global failure, no customer
has ever lost its segregated funds because of the failure of a
clearing member of the CME. Moving forward, we intend to work
with Congress, regulators, and the industry leaders to
strengthen safeguard systems at the firm level.
I thank you very much for your time and attention, and I
look forward to your questions, sir.
[The prepared statement of Mr. Duffy can be found on page
148 of the appendix.]
Mr. Canseco [presiding]. Thank you, Mr. Duffy.
Now, we will go to Mr. Richard Ketchum, president and CEO
of the Financial Industry Regulatory Authority. Thank you.
STATEMENT OF RICHARD G. KETCHUM, PRESIDENT, CHAIRMAN, AND CHIEF
EXECUTIVE OFFICER, FINANCIAL INDUSTRY REGULATORY AUTHORITY
(FINRA)
Mr. Ketchum. Thank you, Chairman Neugebauer, Ranking Member
Capuano, and members of the subcommittee. Thank you for the
opportunity to testify today.
My name is Richard Ketchum, and I am chairman and CEO of
the Financial Industry Regulatory Authority, or FINRA. When a
firm like MF Global fails, there is always value in reviewing
the events leading to that failure and examining where rules
and processes may be improved. I commend the subcommittee for
having this hearing to do just that.
With respect to oversight of MF Global's financial and
operational compliance with the securities laws, which is most
relevant to today's hearing, FINRA shares oversight
responsibilities for the Chicago Board Options Exchange and the
SEC.
For broker-dealers that are members of multiple SROs, the
SEC assigns a designated examining authority, or DEA, to
examine for, among other things, the firm's compliance with the
Commission's net capital and customer protection rules. For MF
Global, that DEA is CBOE.
When FINRA is not the DEA for one of its regulated broker-
dealers, we work closely with the DEA and routinely analyze the
firm's FOCUS report filings and annual audited financial
statements as part of our ongoing oversight of the firm. While
that monitoring focuses on a broad range of issues, it is
particularly relevant to note that our financial surveillance
team placed a heightened focus on exposure to European
sovereign debt, beginning in the spring of 2010. During April
and May, our staff began surveying firms as to their positions
in European sovereign debt as part of our monitoring in this
area.
In a review of MF Global's audited financial statements
filed with FINRA on May 31 of this year, our staff raised
questions about a footnote disclosure regarding the firm's
repo-to-maturity portfolio. During discussions with the firm,
FINRA learned that a significant portion of that portfolio was
collateralized by approximately $7.6 billion in European
sovereign debt. According to U.S. GAAP, RTMs, or repos to
maturity, are afforded sale treatment and therefore not
recognized on the balance sheet.
Notwithstanding that accounting position, the firm remains
subject to credit risk throughout the life of the repo.
Beginning in mid-June, FINRA, along with CBOE, had discussions
with the firm regarding the proper treatment of the RTM
portfolio. Our view was that while recording the repos as sales
was consistent with GAAP, they should not be treated as such
for purposes of the capital rule, given the market and credit
risk those positions carried. As such, we asserted that capital
needed to be reserved against the RTM position.
FINRA and CBOE also had discussions with the SEC about our
concerns. The SEC agreed with our assertion that the firm
should be holding capital against these positions. The firm
fought this interpretation throughout the summer, appealing
directly to the SEC before eventually conceding in late August.
MF Global infused additional capital and made regulatory
filings on August 31st and September 1st that notified
regulators of the identified capital deficiency and the change
in net capital treatment of the RTM portfolio. Following this,
FINRA added MF Global to alert reporting, a heightened
monitoring process whereby we require firms to provide weekly
information, including net capital and reserve formula
computations.
During the week of October 24th, as MF Global's equity
price declined and its credit rating was cut, FINRA increased
the level of surveillance over the firm. At the end of that
week, FINRA was on site at the firm with the SEC as it became
clear that MF Global was unlikely to continue to be a viable,
stand-alone business. Our primary goal was to gain an
understanding of the custodial locations for customer
securities and to work closely with potential acquirers in the
hope of avoiding SIPC liquidation. As has been widely reported,
the discrepancy discovered in the segregated funds on the
futures side of the firm ended those discussions.
While FINRA believes that the financial security rules of
the SEC, combined with SIPC, create a good structure for
protecting customer funds, firm failures provide opportunities
for review and analysis of where improvements may be warranted.
FINRA has two proposed rules that we believe would assist us in
our work to monitor the financial status of firms.
One of the proposals would expedite the liquidation of a
firm and, most importantly, the transfer of customer assets.
Firms would need to contractually require their clearing banks
and custodians to provide transaction feeds to the firm,
regulators, and SIPC after the commencement of liquidation. The
rule would also require carrying or clearing firms to maintain
current records in a central location. The other proposed rule
would require FINRA-regulated firms to file additional
financial or operational schedules or reports as we deem
necessary to supplement the FOCUS report.
FINRA shares your commitment to reviewing MF Global's
collapse. We will review our own rules and procedures, but
would also be pleased to participate in a coordinated review
with our fellow regulators to provide a broader assessment of
where current processes may be enhanced.
Again, thank you for the opportunity to share our views. I
would be happy to answer any questions you may have.
[The prepared statement of Mr. Ketchum can be found on page
153 of the appendix.]
Mr. Canseco. Thank you, Mr. Ketchum.
Now, we proceed to Mr. James Kobak, chief counsel to Mr.
James Giddens, Bankruptcy Trustee for MF Global.
STATEMENT OF JAMES B. KOBAK, JR., CHIEF COUNSEL TO JAMES
GIDDENS, BANKRUPTCY TRUSTEE FOR MF GLOBAL, INC.
Mr. Kobak. Chairman Neugebauer, Ranking Member Capuano, and
members of the subcommittee, thank you for inviting me to
testify today about efforts to identify, preserve, and return
assets to the former customers of MF Global Inc.
My name is James B. Kobak, Jr. I am lead counsel to James
Giddens, the court-appointed trustee for MF Global Inc. under
the Securities Investor Protection Act. I would like to provide
an update on the actions we are taking to protect the former
customers of MFGI.
The trustee appreciates the interest of this committee and
the direct encouragement for Members of Congress to return
assets to customers of MF Global Inc. as quickly as possible,
consistent with the law. We share that sense of urgency.
The Office of the Trustee has been working closely and
continuously with the Securities Investor Protection
Corporation, the CFTC, and the SEC and has been receiving
invaluable assistance on transfers from the CME.
By statute, the trustee is the customers' advocate. His
staff includes legal experts, consultants, and forensic
accountants. We take very seriously our obligation to protect
customers of the failed firm. We are focused on returning
assets as quickly as possible but in a manner that is fair and
consistent with the applicable provisions of the Securities
Investor Protection Act, the Bankruptcy Code, and the relevant
CFTC regulations. Every distribution we have made has been
approved by the bankruptcy court. We are distributing as much
as we can as soon as we can within the law.
I am very pleased to report that distributions to nearly
all of the approximately 36,000 former retail customers with
U.S. futures positions, whether farmers, day traders or
institutional investors, have been made within weeks of the
bankruptcy filing. We are now in the process of implementing a
third bulk distribution that will bring the total amount of
customer distributions to more than $4 billion.
The order approving that distribution was entered by the
bankruptcy court on Monday. The first distributions in this
bulk transfer were made yesterday. I believe they should be
appearing in customers' accounts as of today and total $1.7
billion. The remainder should be completed within 2 to 4 weeks.
With this third transfer, retail commodities customers with
U.S. positions will have received approximately 72 percent of
the value of their accounts. We have also moved ahead with the
court-approved transfer of MF Global Inc.'s approximately 330
nonaffiliate securities accounts. This will return between 60
percent and 100 percent of the assets in those accounts.
At the same time, the customer claims process, which will
assure that everyone is treated fairly in accordance with the
law, is also up and running. Claim forms have been sent by mail
and forms are available on our Web site. Claims are being filed
and reviewed as we speak. And as we meet here today, some
claims have already been determined and allowed.
As part of his statutorily mandated duty, the trustee is
also investigating the extent of the apparent shortfall in
customer funds. The Department of Justice, the CFTC, and the
SEC are also conducting investigations. We are coordinating
with those investigations.
Our investigation, however, is not a law enforcement
investigation. It is primarily focused on identifying and
recovering funds for customers.
To understand the apparent segregation and compliance
shortfalls, it is important to remember that there are three
categories of segregated customer assets at MF Global Inc:
first, there are customers with U.S. futures positions, which
are primarily under the jurisdiction of the CME; second, there
are U.S. customers with substantial foreign futures positions;
and third, there are securities customers.
At this time, we don't know with certainty the amount of
the potential segregation and compliance shortfalls, but our
best estimate of the figure remains that it is not less than
$1.2 billion across all three categories of customer assets
that I have just described.
We arrive at this estimate by comparing the actual assets
we believe are available or have collected from depositories
with an estimate of the claims. The full amount of the
shortfall cannot be known with certainty until the claims
process is complete.
No matter the final amount of the shortfall, this is, as
the chairman has described it, completely unacceptable, and as
the trustee characterized it in his testimony Tuesday, an
appalling situation. The ultimate shortfall will likely be
significant, and this will substantially impact the trustees'
ability to make a 100 percent distribution to former customers
in the immediate term.
Exhaustive efforts to collect funds from U.S. depositories
continue. Assets located in foreign depositories, however, are
now under the control of foreign bankruptcy trustees and
administrators. We have been and will continue to pursue these
assets vigorously, but recovery may be more uncertain and may
take more time.
Mr. Chairman, Mr. Ranking Member and members of the
committee, thank you for the opportunity to testify here today.
[The prepared statement of Mr. Kobak can be found on page
159 of the appendix.]
Mr. Canseco. Thank you, Mr. Kobak.
And now, we go to Mr. Thomas Baxter, general counsel,
Federal Reserve Bank of New York.
Mr. Baxter.
STATEMENT OF THOMAS C. BAXTER, JR., GENERAL COUNSEL, FEDERAL
RESERVE BANK OF NEW YORK
Mr. Baxter. Good afternoon Chairman Neugebauer, Ranking
Member Capuano, and members of the subcommittee. Thank you for
inviting me to appear here today.
I am Tom Baxter, general counsel of the Federal Reserve
Bank of New York, and I will speak about the New York Fed's
relationship with its primary dealers and, more specifically,
our relationship with a former primary dealer, MF Global Inc.
Let me start with a short summary of the New York Fed's
relationship with the regulated institutions that we designate
as primary dealers. Our relationship with this group of 21
firms is a counterparty relationship, not a supervisory
relationship.
We are not a supervisor. Primary dealers serve as trading
counterparties in the transactions that the New York Fed
undertakes to implement monetary policy. As such, primary
dealers are required to participate consistently as
counterparties to the New York Fed in purchases and in sales of
Treasury and agency securities.
Primary dealers are also expected to provide the New York
Fed's trading desk with market information and analysis that is
helpful in the formulation and implementation of monetary
policy and to participate in the New York Fed's auctions of
U.S. Government securities on behalf of our Treasury.
In evaluating whether a particular firm may be designated
as a primary dealer, the New York Fed considers whether the
firm has the experience and capability to meet the New York
Fed's unique requirements, which are different from the needs
of other market participants.
As a result, the New York Fed has repeatedly and publicly
stated that the designation of a firm as a primary dealer
should not be regarded as a kind of Good Housekeeping Seal of
Approval. And we have cautioned market participants that they
should not take the primary dealer designation as a substitute
for their own counterparty due diligence.
Now, I will turn to the specific issues concerning MF
Global. First, concerns have been raised about the New York
Fed's application process for primary dealers. More
specifically, the question has been asked as to how MF Global
became a primary dealer.
The application process for primary dealers is governed by
our primary dealer policy, which is published on our public Web
site. The rigorous application process is designed to assist us
in obtaining dealers who will satisfy our highly specialized
needs.
MF Global first expressed interest in becoming a primary
dealer in December 2008. It was not until February of 2011,
more than 2 years later and hardly in a rush to judgment, that
we designated MF Global as a primary dealer. In considering MF
Global's application to become a primary dealer, we followed
our primary dealer policy to the letter.
As my written testimony explains in detail, the substantial
record evidence fully supported the New York Fed's decision to
designate MF Global as a primary dealer.
Second, I would like to briefly address questions that have
been asked about the prompt and progressive actions that the
New York Fed took in late October 2011 as MF Global's financial
condition deteriorated abruptly and quickly.
First, we mitigated exposure by excluding MF Global from
certain primary dealer operations.
Second, to protect us against potential exposure to MF
Global, we asked MF Global to execute an agreement to post
margin to the New York Fed, and it did post margin.
Third, the New York Fed informed MF Global that MF Global
was suspended from conducting new business as a primary dealer.
Through these actions, we protected the taxpayer interest
and we sustained no loss.
On October 31st, following the initiation of a proceeding
by the Securities Investor Protection Corporation, the New York
Fed terminated MF Global's status as a primary dealer. We also
returned excess margin we had received from MF Global to the
SIPC trustee in accordance with the trustee's directions.
Let me finish by thanking the subcommittee for holding this
hearing. The New York Fed joins this subcommittee and its
members in sharing concern for those customers of MF Global who
have sustained losses as a result of the firm's collapse. We at
the New York Fed stand ready to assist the MF Global trustee
and the Congress in their important roles in this matter.
I am pleased to answer any questions you may have.
[The prepared statement of Mr. Baxter can be found on page
91 of the appendix.]
Mr. Canseco. Thank you, Mr. Baxter.
And thank you, gentlemen, for being here today.
At this time, I will yield itself 5 minutes for questions.
And I would like to begin by hearing from the CFTC and the
SEC about regulatory coordination in the wake of Dodd-Frank.
One of the big selling points of that bill was that regulators
would work together, particularly through the FSOC, and in
doing so, we would be able to avoid problems like the one we
have at MF Global.
So, Mr. Cook, last March the SEC began looking into the so-
called window dressing of quarterly statements by MF Global,
and it was known by that point that the company had significant
exposure to the European debt crisis. At this point, what kind
of communication was going on between the SEC and other
agencies?
And there's a second part to my question. Was Secretary
Geithner or FSOC notified and involved in the MF Global
situation?
Mr. Cook. Mr. Chairman, I am--I think the timeframe you are
referring to, there may have been some ongoing review by our
Division of Corporation Finance of some of the filings that
were being made in the ordinary course. I'm not directly
familiar with what questions they were raising; I think there
were regular reviews of the filings. I'm not aware of any
communications with other regulators at that time.
Mr. Canseco. Mr. Berkovitz, do you have any--
Mr. Berkovitz. I would add that typically there is
consultation and coordination between the two agencies on these
types of matters. If there is not something that would raise
red flags, though, then it wouldn't necessarily be
communication.
Mr. Canseco. Was any communication sent to the Secretary
Geithner or the FSOC?
Mr. Berkovitz. I couldn't answer that in full, but I'm not
aware of any. Throughout this period, I think that you are
referring to in the review of the reports, that we had in the
information that we obtained from our review of MF Global, as
well as looking at the reports from the self-regulatory
organization, we had not received any red flags that would be a
major issue at that time.
Mr. Canseco. The Dodd-Frank statute states that one of the
objectives of the FSOC is to facilitate information-sharing and
coordination among member agencies.
There were obvious problems at MF Global. Was FSOC doing
its job here, do you know, Mr. Berkovitz?
Mr. Berkovitz. I am from the CFTC.
Mr. Canseco. Right.
Mr. Berkovitz. I would say, again, during that time period,
based on the information that we had in terms of the money and
the segregation accounts, that with respect to the issues that
we look at with respect to MF Global, the protection of
customer funds, how they were protecting customer funds, the
daily reports that we were getting, the monthly reports that we
had and that we had been obtaining from the self-regulatory
organization from CME had not raised any red flags regarding
the treatment of customer funds.
So, in the normal course of business, absent red flags, it
wouldn't necessarily rise to something that the FSOC would have
been notified of.
Mr. Cook. If I could add, sir, when I was addressing your
earlier comment, I was thinking of the earlier time period I
think you had started your question with. When it became clear
that there were serious concerns with MF Global, there was a
lot of discussion among various regulators. We were talking
with the CFTC, the Fed Reserve Bank of New York, and the
Treasury Department during that week about, and leading into
the weekend about what was going on.
FSOC has been talking about, and I don't want to speak for
FSOC, but--
Mr. Canseco. You are a board member of FSOC?
Mr. Cook. Our chairman is one of the members.
Mr. Canseco. Yes, all right.
And you, Mr. Berkovitz, you're a member of FSOC, right?
Mr. Berkovitz. The chairman of the CFTC is a member of the
FSOC.
Mr. Cook. FSOC had included exposure to European sovereign
debt as one of the risk factors in its recent report assessing
systemic risk, and obviously, after the bankruptcy filing,
there was a call of FSOC on that day to discuss what the
implications might be of this, of the bankruptcy.
Mr. Canseco. Mr. Ketchum, do you have any comments on that.
You are also a member of--or your organization is a member of
FSOC?
Mr. Ketchum. No, we're not. To the best of my knowledge, no
self-regulatory agency is a member of FSOC.
Mr. Canseco. All right. So you have no comment on that.
There were obvious problems with MF Global. Do any of you
have an opinion of whether or not FSOC was doing its job here?
Mr. Cook. Sir, my view is that--my understanding that FSOC
was really created primarily as a way to help monitor systemic
risk, identify where there may be systemic risk and to deal
with it. While the bankruptcy of MF Global is obviously a
significant event and has caused enormous hardship for many
individuals, it's not clear to me that it fell within the
framework of a systemic risk.
That being said, I think some of the discussions post--on
that call after the bankruptcy, there was a--it was recognized
that this is an opportunity to learn lessons about what we--how
we--the regulatory structure works and whether there's any
opportunities for further improvement.
Mr. Canseco. Let me ask you something, the purpose of the
FSOC is also to facilitate information-sharing and coordination
among the member agencies and other Federal and State agencies
regarding domestic financial service policy development,
rulemaking, examinations, reporting requirements, and
enforcement actions, and these are the duties of the FSOC.
So both of your organizations were duty bound to exchange
information. And was that not happening with regard to what you
were hearing from MF Global at the time?
Mr. Berkovitz. We had exchanged information. We were in
communication with the SEC, and our staff was in communication
with FINRA as well. Through this period, up until the last
several days that have been described, the daily segregation
reports, the monthly reports, the reports that we were getting
from our DSRO had not indicated there were issues with the
customer segregated funds.
The absence of information coming to us from the reports
from MF Global, from the DSRO, from our own review, and in the
absence of information, this wouldn't be something that
necessarily we would pass on to the FSOC, as Mr. Cook stated.
Mr. Canseco. Thank you very much, gentlemen.
I now yield 5 minutes to Mr. Capuano, the ranking member.
Mr. Capuano. Thank you, Mr. Chairman.
Mr. Chairman, I'm going to try to stick to the issues at
hand. If you want to talk to FSOC, let's get them in here. I
think it's a fair question to ask what they are going to do
from this point forward, but they were put together for
systemic risk. And this may or may not get to that point, but I
don't think anybody has suggested yet that it is.
So, in the meantime, Mr. Kobak, I would like to start with
you. I understand and totally 100 percent agree that your first
and primary responsibility is to the customers. But for the
sake of discussion, I also presume that as a bankruptcy
trustee, you were collecting information on all creditors, not
just customers, is that a fair assumption?
Mr. Kobak. That's correct. Our primary emphasis at this
point is on customers, both on the securities and commodities
side.
Mr. Capuano. I understand that.
Mr. Kobak. But we certainly have to do our duty for
everyone.
Mr. Capuano. But let's assume for the sake of discussion
that all customers--and I'm not suggesting that they can--but
for the sake of this discussion, let's assume that they can get
to 100 percent of them. After the customers are paid, who is
the largest creditor, to your knowledge, at the moment?
Mr. Kobak. I believe the largest creditor is probably
JPMorgan. They were creditor of the holding company but also of
us.
Mr. Capuano. Do you have any idea--and again, I'm not
trying to be--
Mr. Kobak. I know there was a very large revolving loan. I
know they were the clearing bank. I'm not exactly sure what
amount.
Mr. Capuano. Millions, 500 million, a billion?
Mr. Kobak. Hundreds of millions.
Mr. Capuano. Hundreds of millions. Okay, so it's a
regulated bank at the other end of this. Because the reason I
ask is, as I understand it, when everything is said and done,
where the collateral might come from, that's fine, we'll get
into that in a minute with the CFTC.
But in the final analysis, somebody had to loan money to
get tie 30-40-1 ratio, and it appears on a very cursory review,
that money had to come from the outside, and it probably came--
I won't say probably--but at least in this case a significant
amount of it came from a regulated entity. Is that a fair
statement?
Mr. Kobak. I really don't know, Congressman. We haven't
been there. We haven't really done an analysis.
Mr. Capuano. I'm not trying to jump ahead. I guess I'm
jumping ahead because that's what I have to do today. I think
it's--I personally think that's where it's going to end up.
Mr. Kobak, have you looked at the auditors or have you
looked at the credit rating agencies, have you looked at any of
the other regulated agencies with the presumption being at some
point, you are going to have to go at everybody to try to get
money from any place you can that is due to this company from
anybody who might not have done their job? Have you started to
look at them yet?
Mr. Kobak. Step one has really been to look at the accounts
to see if we can identify what the transactions were. I think
as Mr. Corzine was suggesting today, another part of that is
probably looking at money that should have been coming in to
see whether it all got there. That's what we have been
concentrating on today. We certainly will do the other things.
Mr. Capuano. Mr. Baxter, do you know if the Fed has started
looking at any of their regulated entities that might have been
on the other side of these agreements?
Mr. Baxter. You know, ranking member, that I can't talk
about specific regulated institutions.
Mr. Capuano. I'm not asking you to.
Mr. Baxter. But the answer to your question generically is
we were looking at certain institutions, banking institutions,
before the bankruptcy, and we have continued to look at them
after the bankruptcy.
Mr. Capuano. Because I will tell you that eventually, I,
myself, am going to want to go to ask questions. I'm not
expecting you to know the answers today. But to make this mess,
there had to be two parties. One party might have been MF
Global, maybe or maybe not doing something wrong, but there had
to be another party. And if it's another regulated entity out
there giving loans in incredibly risky situations, this
unfortunately sounds all too familiar, which I know it's too
early yet, but I just want to make sure that the Fed is aware
that I, for one, am going to want to go down that road when the
time is appropriate.
Mr. Berkovitz, for the CFTC, you just last week I think it
was, I might be a week off, changed regulation 1.25. But that
regulation, that change has been pending since May of 2009.
That's 2 years it was officially put out there in October of
2010, but you have been dealing with this for 2 years.
Do you think that maybe you kind of waited a little too
long?
Mr. Berkovitz. Congressman, the Commission, as you noted,
published an advance notice of public rulemaking in May of
2009. We took the comments, the public comments we received on
whether we should--
Mr. Capuano. How many public comments did you get?
Mr. Berkovitz. I think there were maybe--
Mr. Capuano. Twelve.
Mr. Berkovitz. Fifteen or something like that.
Mr. Capuano. So 12, so it was not hundreds of thousands of
public comments.
Mr. Berkovitz. That's correct. And we issued a notice of
proposed rulemaking in October of 2010 at that time.
Subsequently--
Mr. Capuano. I understand that, but do you think that maybe
you should have acted a little quicker? The only reason I ask
is because clearly, this is the way that MF Global went through
it. Whether they did it right or not, it's clearly the
incredible doors that were open by the CFTC through 1.25 to
allow them to repo and double repo and hyper repo everything
there was involved.
Now from what I see, and again, I'm still catching up here,
it looks like you finally closed the door. And the truth is the
fact that you closed the door a week after the bankruptcy
raises even more red flags that you knew that there was an open
door, and you knew you should have closed it earlier. And so I
guess the question is, if you had closed it earlier, we
wouldn't be sitting here today.
Mr. Berkovitz. All right, so I would like to clarify in
terms of what regulation 1.25, the types of transactions it
would allow and the types of transactions it does not cover.
Regulation 1.25 covers--
Mr. Capuano. So are you saying that MF Global has violated
regulation 1.25?
Mr. Berkovitz. No, Congressman, I'm saying that 1.25 covers
what investment of customer funds may be, customer funds.
Mr. Capuano. I understand. That's why we're trying to get
back to customers, 1.25 is the regulation that for all intents
and purposes enforces the so-called segregation of customer
funds. But obviously, they weren't segregated, otherwise we
wouldn't be looking for them. So, and as I understand it,
everything I have read so far has indicated that MF Global went
through 1.25, possibly legally, maybe not, not sure yet, to get
at those funds in a way that was allowed by the CFTC.
Now, whether they did it illegally is fine, but at least
some of it, that door was open. And now that it's closed, the
fact that you closed it so quickly after the bankruptcy,
certainly indicates to me that was the problem. And you have
have now closed the barn door after the horse is gone, which is
fine. So, for me, I would like to know what changed, why all of
a sudden? Did somebody on the board change their vote?
Mr. Berkovitz. Congressman, we, as I was describing, this
has been a process.
Mr. Capuano. I understand the process, Mr. Berkovitz. Why
wasn't it passed before the bankruptcy? You didn't have the
votes?
Mr. Berkovitz. The Commission was considering it through
the summer.
Mr. Capuano. All of a sudden, they woke up on December 4th
and said, ``Oh, my God, we have to pass this today?''
Mr. Berkovitz. There were a number of outstanding issues in
the rule that the Commission was--
Mr. Capuano. Do you realize how much this smells? This is
like a dead fish sitting on the table to me. Because you--with
the way you are implying it is that if this had never happened,
somehow miraculously, on December 4th, they would have passed
the change anyway, which, of course, is virtually impossible
for me to believe since it had been hanging out there for 2
years.
Mr. Berkovitz. There is nothing in the change or in 1.25
prior to the change which would have permitted a person to take
customer out of segregated funds. The prohibition--
Mr. Capuano. I am familiar with what 1.25 does. But I also
understand what doors it opened up. It allowed them to be in
sovereign debt. It allowed in-house repos, and you have now
closed those doors, which I think is fine. As a matter of fact,
as I understand it, Mr. Cook, you never opened those doors at
the SEC, is that a fair statement, in-house repos and invading
customers'--
Mr. Cook. The reserve account on the security side needs to
be invested in cash or Treasuries.
Mr. Capuano. You didn't have this door open for the SEC
side?
Mr. Cook. I'm not--I don't know exactly everything they
permitted.
Mr. Capuano. Okay. That's--
Mr. Berkovitz. If I could clarify, what 1.25 allowed before
it was amended--
Mr. Capuano. Mr. Berkovitz, I know what 1.25 did, but I
also know how it was used, and that's why the door was closed.
You clearly saw it as an open door, and I think that's fine,
because it was, and I'm glad you closed it.
But I have to tell you, it seems as though you were sitting
on your hands for a year-and-a-half when you knew you should
have shut the door. You knew there was a problem. Had you acted
precipitously, we wouldn't be here today because MF Global
wouldn't have been able to do this. That's the way I read it,
and I wouldn't mind hearing a follow up at a later time, but
have limited time here. I think I am already over my limited
time, so I think I'm done even though I'll be back.
Chairman Neugebauer. I thank the gentleman.
Mr. Berkovitz, Commissioner Sommers told the Senate
Agriculture Committee on Tuesday, ``We have a very good idea at
this point what happened to the money.''
What happened?
Mr. Berkovitz. Congressman, I think what Commissioner
Summers was referring to was we have a very good idea of the
initial transfers out of the segregation account.
We have a lot of information about initially where that
money went within the company. What we are continuing to look
at, we are continuing to examine, is what was the nature of
those transactions, what was the underlying purpose of those
transactions, to what extent were they legitimate transactions,
to what extent were they not legitimate transactions, and then,
from there, what happened to those funds? So there are several
other steps that we are looking at very, very closely to try
and trace exactly where all that money went.
Chairman Neugebauer. Was there one particular entity that
got a lion's share of those transfers in the last day and hour?
Mr. Berkovitz. I can't speak to that. That's where we're
continuing to try to trace these funds, and that's an ongoing
process that I can't really speak to. It's also part of our
investigation. But we are, that is one of the questions that we
are trying to track down.
Chairman Neugebauer. Thank you.
Mr. Duffy, you heard Mr. Corzine testify today. When asked
about a $175 million transfer that may have been classified as
a loan to a U.K. subsidiary, and he denied actually knowing
about those transactions, do you agree with that testimony?
Mr. Duffy. I can only tell the committee, which I told in
the Senate, what I have been told. This committee asked for an
explicit timeline of everything that CME Group knew, and we
documented that and submitted it for the record. I think you
submitted it earlier.
In there, it had references of our employees who were on
calls where the other employees of MF Global said Mr. Corzine
was aware of the loans of the $175 million to the European
subsidiaries. So that is what I know about it, sir.
Chairman Neugebauer. Okay. And when you, I assume you all
have been doing some postmortem of what went on as you're
trying to help, be a part of recovering those funds?
Mr. Duffy. We are not, sir, we are not allowed to do an
investigation. The CFTC has asked us not to.
Chairman Neugebauer. Okay. So your hands are off it at this
particular point.
Mr. Duffy. Our focus, as I said in my testimony, was CME
Group put up $550 million to help the trustee put moneys back
into the small farmers and ranchers, and that's what we have
done, sir.
Chairman Neugebauer. Thank you, sir.
I think my friend from Texas--yes, I want to follow up on
the testimony, I think the line of questioning about that
interagency coordination. And I know that the SEC initiated
some actions back in the summer, I believe, to require this
entity to put up additional collateral; is that correct, Mr.
Cook?
Mr. Cook. Yes, sir, I just amplified that was initiated
really by the front-line supervisors of FINRA and the CBOE, who
initially identified the issue and then consulted with us and
that resulted--
Chairman Neugebauer. When did you first get concerned about
this issue with this entity?
Mr. Cook. This particular issue was raised by FINRA and the
CBOE, I think in the June, July timeframe. And there were a
number of conversations during that timeframe.
Chairman Neugebauer. Mr. Berkovitz, when was kind of the
first indication to the CFTC that there was a problem in MF
Global?
Mr. Berkovitz. It was the weekend, obviously--let me back
up, the week of the 24th of October, after the downgrades, the
ratings downgrades, the earnings statements, we became
concerned about the protection of customer accounts and
customer funds, so we sent people on site. I believe, it was
the 27th of October.
Chairman Neugebauer. This was about 90 days later, and it
was about the last week of the game.
Mr. Cook. Sir, if I might just amplify it, because I think
you were talking about the bankruptcy in the week beforehand.
The capital charge issue that came up in August was one that
was discussed to clarify what are the facts, understand what
are the issues and to ultimately reach a final determination
where the firm was told they needed to take the charge. At the
time, I understand the SEC staff did inform the CFTC staff
about the issue that a capital charge was going to be taken.
Under the normal rules, when someone has to take a capital
charge of this nature in a way that suggested their capital
charges earlier were inadequate, they have to file a notice to
their regulators, which I believe they did, which would be to
us and to the FINRA and to the CFTC. And then they were forced
to restate their report, their financial report, which would
then be filed with us and the CFTC all in the August, early
September timeframe.
Chairman Neugebauer. I want to go back to what you just
said, Mr. Berkovitz, though you didn't acknowledge that August
date. You said we became aware the problem was in the first
week--
Mr. Berkovitz. I think I answered a different question than
the one you asked, and I apologize for that. Mr. Cook is
correct, we were told about the capital issue in early August,
when we were informed of the issue and the resolution of that
issue at that time. So we were aware of that in the early
August timeframe.
Chairman Neugebauer. Okay. I thank the gentleman.
Mr. Perlmutter?
Mr. Perlmutter. Thanks, Mr. Chairman.
It will be interesting, as the weeks and months go by and
all of these facts really do unfold, because there are several
sort of major things that I am concerned about. And I would
like to first just sort of understand the process. Mr. Ketchum,
you said we need to be able to get our hands on this quicker.
But if I am not mistaken, the SIPC steps in and they can freeze
everything by filing a bankruptcy. That is how we protect
customers of broker-dealers.
Mr. Ketchum. Congressman, the ultimate protection for
customers of broker-dealers when there is a bankruptcy and
liquidation is SIPC and the trustee, and should be. In many
circumstances where a firm is in financial trouble, the
regulators working with the firm are able to identify either
transfer accounts or the sale of the firm, which avoids having
customer accounts frozen and avoids the variety of impacts that
come from SIPC liquidation. So we try to avoid that whenever we
can.
Mr. Perlmutter. That is sort of the last straw.
Mr. Ketchum. Absolutely.
Mr. Perlmutter. Okay. But in advance of that, you are
saying you would like to be able to have some authority to
force a sale or to protect--because it sounded to me like you
are getting weekly sort of updates, and you guys got nervous a
week or two in advance of the trustee stepping in and closing
the company.
Mr. Ketchum. We, of course, as you recall from my testimony
and from Mr. Cook's earlier, we became concerned over the
positions after the quarterly statement at the end of May, and
made the initial request with CBOE for additional capital to
meet the capital requirements we thought applied. With the
support of the SEC, that finally occurred in August.
We continued to monitor the firm. As time went on, the
position didn't change. What changed over time was the gradual
public recognition of the size of the position in foreign
sovereign debt that the firm had, and with that, the ratings
impact and the eventual withdrawal of liquidity support to put
the firm into its spin in the last week.
So we were very concerned about that. It was entirely
working together with the other self-regulatory organizations
and with the SEC. No, I don't think it is a matter of
additional authority. It simply is the concern when you have a
firm that takes a very substantial position.
Mr. Perlmutter. In hindsight, somebody should have put them
into bankruptcy a week before this. Maybe we would have saved
that $900 million that seems to be floating around. Really, I
am just trying to understand this because I am very concerned.
This feels like deja vu all over again to me. Okay? And, Mr.
Duffy, you and I have had conversations about CME and about how
this would be the first time that money was lost from
segregated accounts. I was counting on you guys sort of in
this. And I appreciate that the CME has put up $550 million,
which is towards the assistance to the customers. How does this
happen? You clear twice a day. You see who has money and who
doesn't.
Mr. Duffy. It is very disturbing, sir. You and I have had
many conversations. And I think one of the reasons you saw my
testimony the way it was, it was a timeline to show that we
were getting falsified segregation reports. And as we tied the
segregation report out from Wednesday going into Thursday,
Friday, the money was there as of Wednesday for the most part,
80 to 90 percent tied out. So something happened on Thursday or
Friday. We were doing everything possible to do it. We have 50
auditors; we spend $11 million a year doing this. We audit
every firm each and every year. We do spot audits. We do
surprise audits. We have done things to make sure our system
never fails. Our system has never failed in 75 years. In our
opinion, someone has violated the law here. And it is hard to
have a cop on every street.
Mr. Perlmutter. If somebody--if there is an embezzlement, a
fraud, whatever, we have to just deal with it. The FBI is in
this. But I was hoping that the system with that was in place,
especially through--
Mr. Duffy. The system didn't fail, sir.
Mr. Perlmutter. All right. So as this unfolds, I want to
see that.
Mr. Duffy. I am trying to show that in my testimony.
Mr. Perlmutter. Now, I would like to turn my question to
Mr. Baxter, because here you have this primary dealer, MF
Global. I don't remember if Lehman Brothers was a primary
dealer. I think it was. In monitoring these guys who are doing
deals with you, you started getting nervous. You cut them off
in earlier October. Mr. Ketchum was nervous about things over
the course of the summer through August. Maybe the books were
getting cooked. We have two regulators over there. And finally,
the bankruptcy trustee comes in, boom, locks it down, is able
to return $4 billion, which is 72 percent as of today.
I am curious, and this is where Mr. Capuano was going, did
the banks come in--and if they did, they were doing their job--
and sweep all the cash that then left the customers holding the
bag?
Mr. Baxter. Let me review some of the--
Mr. Perlmutter. I said a lot there. I apologize.
Mr. Baxter. And I hope I don't replicate that.
Let me review some of the activities of the New York Fed
during the week of October 24th, which was the week preceding
the bankruptcy. It started with a downgrade on Monday, the
24th. The next day, there was a large loss declared by MF
Global. And already in the market there were rumors--and not
only rumors, they were confirmed--about the large position
taken in sovereign debt by MF Global.
What those three things did, Congressman, is they acted
together to generate a loss of confidence that started a run on
MF Global. And the run that went on MF Global really went on
the funding side. And MF Global funded itself in the repo
market the same way that Bear Stearns funded itself in March of
2008. You will recall, Congressman, that the run began on March
11th, and by March 14th, Bear Stearns had no liquidity.
Mr. Perlmutter. Right.
Mr. Baxter. Similarly with Lehman, which you mentioned, the
run began on September 9, 2008, and, again, it began on the
repo side of the book, and by September 12th, that Friday, the
Lehman Brothers broker-dealer was out of liquidity.
So a part of what you see happening here relates to the
funding and relates to funding assets that are not liquid. So
what you see happening is the run starts abruptly, and it is
vicious in its downward spiral on these firms. So consequently,
when we saw what was happening early in the week on October
24th, on October 26th, I called my counterparts at the
Commission, and one of my colleagues called counterparts at the
CFTC, and said, given what we have seen in other recent
experience, we think that we ought to be picking up the pace
with respect to our crisis management with respect to MF
Global. So with respect to the earlier questions about
communication among the governmental entities, including the
Fed, there was, I think, good communication that we had a
crisis on our hands.
Now, turning for just a minute to the other piece of this
question, which relates to the secured parties and the
unsecured parties, I want to make three points, Congressman,
because we were one of those secured parties that protected
themselves and protected the American taxpayer.
Mr. Perlmutter. You said you had extra margin.
Mr. Baxter. Yes. And I want to make three points of what we
did. And by making these points, I don't want to in any way
come across as insensitive to those who lost money by reason of
this bankruptcy. But for the purpose of this hearing today, I
think there are three important points as to why we avoided a
loss.
First, our margin account was on our books, and we
controlled it. It wasn't on the books of MF Global. All right?
Second point, we received margin in the form of cash, and the
proceeds came in, in a wire transfer of funds. And there was
absolutely no evidence, in looking at that $4.2 million wire
transfer, that it in any way connected to any customer funds.
Third point, and perhaps the most important, we had an express
representation in writing from MF Global that the property
transferred to us as margin was MF Global's own property. If
that representation turns out to be false, a Federal criminal
offense has been committed.
Mr. Perlmutter. And the gentleman sitting next to you will
come and collect that money.
So with that, I would yield back.
Chairman Neugebauer. I thank the gentleman.
I recognize the gentleman from Florida, Mr. Posey.
Mr. Posey. Thank you very much, Mr. Chairman.
First for Mr. Kobak, both you and Mr. Giddens in your
previous testimony, I believe, stated that no matter the exact
size of the shortfall, speaking of segregated funds, its
probable size is significant and will substantially affect the
trustee's ability to make a 100 percent distribution to former
MF Global, Inc., customers. Is that still your opinion today?
Mr. Kobak. Yes, it is, unfortunately.
Mr. Posey. And thank you for just the yes-or-no answers.
They are very rare around here, and we really do appreciate it.
I know that you do not want to speculate while your
investigation is still under way, but based on Mr. Duffy's
testimony and other reports, it seems highly probable that
customer funds were transferred out of segregated accounts and
commingled with MF's own funds--I don't think anybody is
doubting that at this point--probably to meet margin calls on
European bond positions. Does that--
Mr. Kobak. That is certainly something we are looking into.
Mr. Posey. Okay. Assuming for the moment that is, in fact,
what happened, it would mean that the missing customer funds
will never be found in some overlooked or unreported account
somewhere, as had been hoped for by many customers when they
first discovered that a substantial sum of money was missing
from their accounts, because if the money was being used to
back those bond positions, we know that those bonds were sold
in mid-November, correct?
Mr. Kobak. That is our suspicion as well. It doesn't mean
we are not looking at it carefully. We stay up late at night
thinking of--
Mr. Posey. We take ``yes'' for an answer around here. Thank
you.
According to a detailed report in the Wall Street Journal,
those bonds were sold at a loss, and at an additional discount
or bargain price, so to speak, to buyers that included JPMorgan
Chase and George Soros. Have you seen the reports in the Wall
Street Journal?
Mr. Kobak. I have looked quickly at the Wall Street
Journal, yes.
Mr. Posey. All right. Thank you.
I know you are not responsible for dealing with the
bankruptcy proceedings for MF Global, but is it true that once
the wall has been breached between customer segregated funds
and corporate funds, the money could have been moved via a
whole range of intracompany transactions, internal repos, etc.,
to virtually any part of MF Global or to the counterparties who
were financing those bond positions?
Mr. Kobak. If the question is, is it possible, I believe it
is possible. Whether it happened or not, we don't know. That is
what we are looking at.
Mr. Posey. ``Possible'' is fine.
It strikes me that what we have here is a situation where
the segregated funds belonging to MF Global, including the
honest, hardworking families in my district's money, were
misappropriated to support a way too big speculative bet by Mr.
Corzine and the board at MF Global. Since the bet was closed at
a loss in a transaction that I believe needs to be investigated
further, we could be looking at an absurd and totally unjust
situation in which money has been taken from customers' pockets
only to find its way into the pockets of big bankers and hedge
fund managers.
I know that you need time to do your work, and you have no
right to interfere with the bankruptcy proceedings. That is the
responsibility of the Judiciary Branch, obviously. But if this
committee can find a way to help reverse the travesty,
obviously that is what we want to do. And that is in large part
why we are here right now. It is just essential, obviously, to
protect the sanctity of segregated accounts if we are ever
going to restore confidence to the commodity markets and the
U.S. markets in the future.
Final question: Mr. Capuano poses a really, really
interesting question. Let me just frame this a little bit
differently. Is it true that JPMorgan was one of the main
depository banks for customers' segregated bank accounts?
Mr. Kobak. I believe it was a depository, but any funds
that they--I am not actually sure it was a customer bank. And
we have gotten from virtually all the domestic depositories the
funds they were holding. It is really the foreign funds that
are our problem.
Mr. Posey. Okay. And they were also the providers of the
main line of credit to MF Global, over a billion dollars?
Mr. Kobak. There was a substantial line of credit, I think,
to the holding company, and I think it was on behalf of a
syndicate of banks. But JPMorgan, I believe, was the lead of
that syndicate.
Mr. Posey. Okay. And they would probably be unable to
recover all of those loans if customers were made whole.
Mr. Kobak. I don't know whether that is true or not at this
time.
Mr. Posey. Possible?
Mr. Kobak. It is possible.
Mr. Posey. Probable?
Mr. Kobak. I would say possible.
Mr. Posey. All right. We will settle on possible.
JPMorgan and Soros purchased the MF bonds in mid-November;
is that correct?
Mr. Kobak. That is what I read in the paper.
Mr. Posey. That is what the article says. By then, everyone
in the world was well aware of a missing $1.2 billion in
customer funds, correct?
Mr. Kobak. I certainly was aware of it. I assume others
were.
Mr. Posey. Okay. Do you think they should be concerned
about the possibility of buying stolen goods?
Mr. Kobak. I really don't know what the circumstances of
those sales were.
Mr. Posey. Mr. Baxter, do you? Yes or no would work.
Mr. Baxter. There are provisions in law for a bona fide
purchaser, and those transactions, which I don't remember as
vividly as perhaps I wish I did, Jim, and you may help, but I
think the bankruptcy court might have approved some of those
transactions. And I assume the bankruptcy court would not have
approved transactions if the bankruptcy court felt they were
violative of law.
Mr. Posey. Mr. Ketchum?
Mr. Ketchum. I know no more with respect to the
liquidation, Congressman, than that. I do have some
recollection that there was approval of those transactions from
reading the story, but I know nothing more directly.
Mr. Posey. Okay. Mr. Duffy?
Mr. Duffy. I have no other knowledge other than what I read
in the paper also, sir.
Mr. Posey. Mr. Cook?
Mr. Cook. I have nothing further, sir.
Mr. Posey. Mr. Berkovitz?
Mr. Berkovitz. I can't really comment on where the money,
where the transactions really may have gone. We are trying to
trace these, and we are trying to get the money back.
Mr. Posey. Do you think it would be reasonable for
customers to expect some clawback? Starting with Mr. Baxter.
Mr. Baxter. Again, there are protections in law for
transferees who are bona fide purchasers and have no knowledge
that the property they are acquiring has in any way tainted in
title or otherwise. And I don't know the facts, Congressman, as
to what the purchasers may or may not have known.
Mr. Posey. If the purchase had been made after everyone was
aware you have $1.2 billion missing, I think even the most
extraordinarily naive person would say there is $1.2 billion
missing here somewhere, I wonder why I am getting such a
bargain on this.
Mr. Baxter. And perhaps Mr. Kobak is more familiar to
answer this than I am, but we have worked in a couple of
bankruptcies together, and oftentimes it is important to be
able to liquify some assets, particularly if the market is
declining and those assets are losing value. So you shouldn't
jump to the conclusion, Congressman, that a sale is necessarily
bad for the bankruptcy estate. It wasn't for some of the
estates that I acted as liquidator for, and I suspect that Jim
would agree with me on this.
Mr. Posey. And again, I am trying to think of customers
first, just like the customer advocate is supposed to think of
customers first. And I can't help, as far removed as it is--I
can't help but be reminded of Madoff, and I can't help but be
reminded of how effective the clawback has been for some of
those poor people who were exploited by Madoff. And I am just
trying to get an idea if there is a possibility here. Maybe
there is not. But it was just an interesting concept brought
forth.
Could I get a response from any of those others? I think
they are all going to plead ignorance on this, but--
Chairman Neugebauer. There will be lightning answers here,
please.
Mr. Kobak. Okay. I don't know if I would call them
clawbacks. There are legal theories that you avoid transfers,
you can attack transactions. That is what we are going to look
into. I am not sure if the transaction you are talking about is
specifically our transaction, but it is certainly something we
will be looking into. But we have to find a basis, a cause of
action. If we find it, I can assure you we will pursue it very
diligently.
Mr. Posey. Okay.
Mr. Ketchum. I neither have the facts nor the bankruptcy
expertise to be able to speculate, Congressman.
Mr. Duffy. I don't have the expertise, but I will say one
thing. I think that if customer segregated funds are the ones
that are missing, they do not have SIPC protection or other
things of that nature, I believe that they should be first in
line in any circumstance whatsoever to get this money back.
Mr. Posey. Thank you, Mr. Duffy. I do, too.
Mr. Cook. I don't have the specific facts, and I am not a
bankruptcy expert. I think your original question was would it
be reasonable for a customer to look for clawback? And I think
if I were a customer, I would want every possible avenue to be
pursued vigorously. I don't know whether there is--I don't know
the technical details of the law here to be able to know
whether there is hope that would occur here.
Mr. Berkovitz. We are absolutely committed to getting
customer money back to the customers.
Mr. Posey. Thank you.
Thank you, Mr. Chairman.
I yield back, and I thank you for the extra time.
Chairman Neugebauer. Mr. Miller is recognized.
Mr. Miller of North Carolina. Thank you. I want to make
another try at the questions that I asked earlier of the first
panel, without satisfactory results, maybe because of my
questioning, maybe because of their answering.
As I understand it, MF Global bought more than $7 billion
of European sovereign debt, which was 100 percent financed
through the repo market. The sovereign debt itself was the
collateral, which is pretty stunning. Mr. Capuano earlier asked
how they got to 40-to-1 leverage. Maybe that was how. But at
some point, the lenders figured out that was maybe not such a
good idea, either because of the debt, or the sovereign debt
that was pledged as collateral, or because of MF Global, and
they issued a margin call, and then there began a mad scramble
to come up with the money. They sold assets. And then I think
Mr. Baxter, and before that Mr. Abelow, said that what happened
was a classic run like used to happen to a depository
institutions, if you know the movie, ``It's a Wonderful Life.''
The other lenders decided that they maybe needed a little more
security, too, and it went downhill from there.
But in the mad scramble, the question is what happened to
the money or to the assets that were in clients' segregated
accounts? The reality is that segregated accounts get used all
the time. It is supposed to be segregated, yes, but they can
get at those accounts. A Reuters article a week ago set out
verbatim a paragraph in MF Global's client contract: ``Consent
to loaner pledge. You hereby grant us the right, in accordance
with applicable law, to borrow, pledge, repledge, transfer,
hypothecate, rehypothecate,'' and on and on. Mr. Corzine said,
yes, but there were limits to that under CFTC.
But the question is--I guess for Mr. Berkovitz--was it
legal? Was there a legal way for MF Global, under the CFTC
rules that existed at the time, to use assets in client
accounts as security for any kind of short-term loan for MF
Global? And whether it was legal or not, is there a reason to
think that might have happened?
Mr. Berkovitz. I can't speak to what MF Global did or what
they didn't do. That is the matter that we are currently
looking into. What I can say is under our regulations, the
customer funds remain the property of the customer, and they
can't be pledged to--on behalf of the company as security for a
loan or something like that.
Mr. Miller of North Carolina. It could not legally have
been done?
Mr. Berkovitz. Correct.
Mr. Miller of North Carolina. And you cannot speak to
whether there is reason to think--any evidence that did, in
fact, happen.
Mr. Berkovitz. I can't speak to anything that they may or
may not have done factually.
Mr. Miller of North Carolina. Okay. And then, several
Members have asked questions about whether there was a way to
structure the transaction so they could, in fact, borrow funds
in clients' accounts, whether through internal repo or
whatever. Was there, in fact, a legal way with the CFTC rule
that was in effect at the time for them to borrow from their
own clients?
Mr. Berkovitz. Under the regulation 1.25 in effect at the
time, they could have done an internal repurchase agreement.
But the customer segregated funds would have to remain intact
and whole at all times. The value of the customer funds would
have to be preserved. They could not reduce the value of those
funds or take customer funds.
Mr. Miller of North Carolina. They could borrow from them
and offer something as collateral?
Mr. Berkovitz. I wouldn't say ``borrow from.''
Mr. Miller of North Carolina. It is a repo transaction.
Mr. Berkovitz. It is a repo transaction where they are
putting something of equal value back into the customer
account.
Mr. Miller of North Carolina. Okay. And was the thing of
equal value, was there a way that they could have created an
instrument on their loan that would have been permissible
collateral for repo transactions?
Mr. Berkovitz. They would only have been able to do that
with permissible investments under the regulation. They could
only use a repo transaction with permissible investments.
Mr. Miller of North Carolina. And can you speak to whether
there is reason to think something like that happened?
Mr. Berkovitz. I can't speak factually to that.
Mr. Miller of North Carolina. Okay. Again, a couple of
people have used the term ``run on the banks.'' That used to
happen to depository institutions all the time, and then we had
safety and soundness regulations, and then we had deposit
insurance. It hasn't happened in 70 years really. Before the
financial crisis, we had a repo market, a shadow banking system
that was equal in size to all bank deposits. Stunning amounts
of money were sloshing around every night. Bear Stearns was
borrowing $40 billion a night in the repo market. There was a
run on Bear Stearns, there was a run on Lehman, there was a run
on the entire financial system in that week after that Lehman
collapse. Now, it has happened again.
Is there reason to think that maybe this completely
unregulated shadow banking system that actually no one in
Congress knows much of anything about, but seems to create a
remarkable instability for our entire financial system, that
maybe we ought to pay attention to that; there ought to be some
limitation on how many times a given asset can be made
collateral, and then collateral again, and then collateral
again, or there should be some required haircut so there is a
limitation on how much can be borrowed? Is there some reason to
think there should be some limitation, or should this just go
on the way it has over the last 3 or 4 years?
Mr. Duffy, do you want to answer a question?
Mr. Duffy. I won't answer on behalf of CME. I will answer
it on behalf of myself.
I absolutely think you are correct. I think there needs to
be some reining in of this type of activity. One of the things
that Mr. Corzine kept saying was he was bringing leverage
ratios down from 37 to 30. He failed to say that he also took
the debt from $1 billion to $6.3 billion, too. So there are a
couple of other things in there. I do believe, and this is me
speaking personally, that these leverage ratios need to be
adjusted.
Mr. Miller of North Carolina. Okay. Actually, I think all
of you were equally qualified to speak to this, but, Mr.
Berkovitz, how about you?
Mr. Berkovitz. I can't really speak to the issue on shadow
banking, although I would note that under Dodd-Frank, there are
a number of additional measures to reduce systemic risk, to
increase transparency in the marketplace for a variety of swap
transactions. But I can't really speak to questions of shadow
banking.
Mr. Miller of North Carolina. Mr. Baxter? New York Fed is
deeply involved in all this stuff.
Mr. Baxter. Thank you, Congressman.
One additional point I would note in terms of references to
banks, banks also fund short term with respect to deposits, and
they fund longer-term assets like loans. But banks, of course,
have access to the liquidity facilities of the Federal Reserve.
Mr. Miller of North Carolina. Right.
Mr. Baxter. The shadow banking system, which consists of
nonbanks primarily, broker-dealers, they do not have access to
the discount window at the Federal Reserve. And as you may
recall, one of the changes effected in Dodd-Frank is some of
the provisions that we used--and I am speaking here about
Section 13, subdivision 3 of the Federal Reserve Act to lend to
broker-dealers--that provision was changed to make it much more
difficult for the Fed ever to loan to a single company that was
facing insolvency, or a single company for the purpose of
taking assets off the balance sheet like we did with respect to
Bear Stearns.
So that is one point I would make to you right off the bat,
is there is a difference, because the banking system has access
to the liquidity facilities of the central bank, whereas the
shadow banking system generally does not. Now, that is a
generalization. There are some exceptions.
Second point: Just by way of historical reference, you
mentioned Lehman. You may also remember that the week after
Lehman, there were several prominent investment banks, and I
won't name names because I shouldn't, that became--
Mr. Miller of North Carolina. There weren't that many.
Mr. Baxter. --that became bank holding companies.
Mr. Miller of North Carolina. Right.
Mr. Baxter. And again, the reason for that relates to this
structural feature of having access to the liquidity facilities
at the central bank.
Mr. Miller of North Carolina. Mr. Chairman, I know, but one
more question along my earlier lines about the way that a
transaction could have been structured to borrow money from
client segregated accounts. Could MF Global have issued any
kind of instrument on their own, a bond, commercial paper,
whatever, that would have been an asset that they could have
used in an internal repo and borrowed the client's funds?
Mr. Berkovitz. I won't speak to MF Global, but I will just
speak--hypothetically speaking, you could put a corporate--a
highly rated corporate bond could be a subject of a repo.
Mr. Miller of North Carolina. Your own corporate bond?
Mr. Berkovitz. You couldn't put your own bond in. You could
not put your own bond in.
Mr. Miller of North Carolina. Okay. All right.
Chairman Neugebauer. I thank the gentleman.
And now the gentleman from Ohio, Mr. Renacci, is
recognized.
Mr. Renacci. Thank you, Mr. Chairman.
Mr. Baxter, MF Global's application to become a primary
dealer with the Federal Reserve Bank of New York was approved
despite the firm's history of compliance failures, internal
control problems, and incomplete disclosures to regulators.
Apparently, compliance problems and poor recordkeeping
continued at MF Global until the firm's collapse. If the New
York Fed had a surveillance provision for primary dealers in
place, do you think weaknesses in MF Global's books would have
been caught?
Mr. Baxter. The first point, Congressman, is we were not
acting as MF Global's supervisor; we were acting as MF Global's
counterparty. And as MF Global's counterparty, we were
concerned about our financial risk, and we were concerned about
our reputational risk. That is why it took the application of
MF Global more than 2 years to be approved.
And with respect to reputational risk specifically, one of
the concerns arose from the enforcement action that the CFTC
did in December of 2009 against MF Global. And under our
policy, the institution facing a material enforcement action
goes into a kind of penalty box period for a period of a year.
We put that MF Global application through that full 1-year
penalty box. We checked to make sure it had remediated the
enforcement problems that resulted in the 2009 action, and
there were no new problems during that 1-year penalty box
period. And as a result of that, in February of 2011, so more
than a year from the date of the enforcement action, we decided
to approve the designation of MF Global as our counterparty.
Mr. Renacci. What was that date again? I am sorry?
Mr. Baxter. It was February 2011.
Mr. Renacci. Okay. And was there any review past that? Was
there any surveillance past that?
Mr. Baxter. Past that, we continued to receive weekly FR
2004 reports from MF Global. We continued to receive the
monthly FOCUS reports from MF Global. We continued to meet
regularly with MF Global staff. And most importantly, we were
transacting business on behalf of the government with MF Global
and looking at their trading activity done through us.
Mr. Renacci. And in those reports you were receiving,
subsequent to that, were you seeing any weakness in MF Global?
Mr. Baxter. What happened after the date we approved it, so
February of 2011, is these repo-to-maturity trades in European
sovereign debt were put on. To the credit of FINRA, FINRA
discovered those in the summer of 2011. They were reported to
us by MF Global in late July of 2011. And we were looking at
the situation at MF Global throughout that period.
Now, we have two particular capital requirements for
primary dealers. One is a minimum capital requirement of $150
million. That was always satisfied. The other is that our
primary dealers need to satisfy the SEC net capital rules. And
after the experience through the summer of 2011, MF Global
brought itself into compliance with the SEC net capital rules.
So there was no problem under our policy, which we apply
evenhandedly across all 21 dealers.
Mr. Renacci. I noticed you used the word ``counterparts.''
And I guess I would question why it is necessary for the
Federal Reserve Board of New York to designate a select firm of
group of firms as primary dealers if the New York Fed maintains
that its primary dealers are only counterparts?
Mr. Baxter. We impose specific burdens on the 21
institutions that we designate as primary dealers: one, they
have to participate in our trades in the open market to
implement monetary policy; two, they have to provide us with
market intelligence related to our monetary policy function;
three, they have to participate in every auction we conduct on
behalf of the Treasury for U.S. Treasury securities; and four,
they have to be ready to make markets for us for the $3
trillion in assets we have under management for foreign central
banks and monetary authorities, dollar reserves. So there are
burdens that every one of the primary dealers has to agree to.
And so, not every primary dealer can experience those
burdens, and there are situations, Congressman, where primary
dealers withdraw and can no longer satisfy our very specific
requirements. But they are our requirements. They are our
requirements because of the types of counterparty activities we
engage in. And they assure that the primary dealers that are
designated meet the needs of the Fed and the United States.
Mr. Renacci. Last but not least, do you monitor any of the
communications released by the primary dealers which reference
their status as primary dealers? Given the market perceptions
about primary dealers, wouldn't it be wise for the Federal
Reserve Bank of New York to compel all primary dealers
referencing their primary dealer status in oral or written
communication to explicitly disclose that a primary dealer
designation does not constitute an endorsement by the Federal
Reserve?
Mr. Baxter. I hear that suggestion, Congressman. And, on
our Web site, we publish prominently that the primary dealer
designation should not be regarded as a substitute for
counterparty due diligence. But I hear your suggestion that
maybe we should do more and monitor what all of the 21 are
saying. Now, that is a significant burden on us, but maybe it
is a burden we need to undertake. So I will take that under
advisement, sir.
Mr. Renacci. All right. Thank you. I yield back.
Chairman Neugebauer. I thank the gentleman.
So we are going to do a lightning round. I don't know who
our timekeeper is here, but we are going to do a 2-minute
round. So I ask the Members to pick the question they want to
ask, and I would ask our panel to be brief in their answers.
With that, I recognize the ranking member, Mr. Capuano, for
2 minutes.
Mr. Capuano. Thank you, Mr. Chairman.
I don't need a response to this, Mr. Berkovitz, but this is
a CRS report dated November 28, 2011, on MF Global. And in a
footnote on page 2, which is ridiculous it is this small, they
are talking about segregated accounts can't be commingled. But
they also cite Section 4(d)(f)(3)(a) that has an exception
permitting commingling ``for convenience.''
I don't expect you to answer that today, but I would like
to hear from you at some point in the future as to exactly how
big of a loophole that might be. Not today. Another time. But
it certainly raises questions. And I ask it really only because
I have such high regard for the CRS, if they put something in
there, it raises my concern.
I guess for the entire panel, I don't expect that you will
be familiar with an article, but I haven't read a news article
as often, as frequently I have read this one. I have read it 3
times now--actually 4 times, very slowly, because it is very
difficult. It is above where I am capable of understanding. But
it is a Reuters article entitled, ``MF Global and the Great
Wall Street Rehypothecation Scandal.'' It was published on
December 7th by a Christopher Elias out of the U.K. And I am
not going to suggest anything here is accurate, but I would
like you all to go back and take a look at this later on, and I
would love to have some of your comments on this to see what
you think he says.
The reason I mention it is it goes through a long
explanation, which I have to admit I have a hard time
following--this is above my pay grade, but I am trying--is
that--on some really serious questions. I will read you one
paragraph near the end. After he talks about rehypothecation,
which, I have to be honest, I am still struggling exactly what
that is, but it is basically loans on loans, ``With collateral
being rehypothecated to a factor of four, according to IMF's
estimates, the actual capital backing banks' rehypothecation
transactions may be as little as 25 percent. This churning of
collateral means that the rehypothecated transactions have
created enormous amounts of liquidity, much of which has no
real asset backing.''
Now, I have to be honest, that sentence reads like
something I read not too long ago about mortgages, and it
concerns me deeply. And he goes on in the next page listing big
companies that, in his estimation, have taken advantage of weak
collateral rules, incredible leverage by pledging and
repledging collateral. And he lists JPMorgan as having sold or
repledged $410 billion of collateral received under customer
margin loans, derivative transactions, securities borrowed, and
reverse purchase agreements; Morgan Stanley at $410 billion;
and interestingly enough, Interactive Brokers at $8 billion.
They are the ones you were trying to sell MF Global to.
And again, I am not trying to bushwhack you, but I would
really love you each to take a good look at this and let me
know what you think about this article and why you think I
shouldn't be concerned. And I would specifically ask that those
of you who are on the FSOC bring this article back to the FSOC
and ask them, because again, the FSOC, in my estimation, was
created very clearly, unequivocally, to make sure that there
was no systemic risk. This article raises concerns it may be
there, and nobody is watching. So I look forward to your
responses.
Chairman Neugebauer. I thank the gentleman.
Mr. Ketchum, I wanted to go back to something. In late
September of 2010, I think you all did a call-around asking
firms if they had sovereign debt exposure in Europe. And can
you tell me what the response from MF Global was in that
September 30th call-around?
Mr. Ketchum. Mr. Chairman, I don't recall whether it was in
the September 30th call-around or sometime shortly thereafter,
but the response was they had no positions in European
sovereign debt.
Chairman Neugebauer. And it subsequently turned out they
did have exposure.
Mr. Ketchum. To be most generous to them, it could be that
they interpreted the fact that it was a repo-to-maturity and
not required to be reported as an asset for accounting purposes
that they didn't view it as a position. But that certainly
wouldn't have been what we expected. They had credit and market
risk, and they should have responded and explained it to us.
Chairman Neugebauer. Did you ever have any--once you
discovered later on, and I think you discovered in March or--
Mr. Ketchum. We discovered it at the end of May.
Chairman Neugebauer. End of May. Did you bring that to
their attention that you were concerned that they had not
previously disclosed that?
Mr. Ketchum. I believe my staff did raise it with them. I
don't know the details. I would be glad to get back to you on
it. But we are concerned with it. They should have been far
more forthright than they were.
Chairman Neugebauer. And so is there--one of the things we
want to do is when we get through with all of this, we want to
do something productive with it. We want to make sure that we
make the system better, but at the same time, we don't make the
system more onerous. So we want to be careful here. But I think
it appears to me down the road that disclosure of these kinds
of transactions, that would need to be a little bit clearer,
and some guidelines of reporting those, because obviously what
Mr. Corzine thought was a risk-free transaction turned out to
be an extremely risky transaction.
Mr. Ketchum. I absolutely agree with you, Mr. Chairman. I
think it should be looked at both, frankly, from a GAAP
accounting standpoint, and indeed that is one of the reasons
why we have a rule before the SEC that would give us the
authority to require much more extended disclosure than exists
in our present FOCUS--or the SEC's present FOCUS forms.
Chairman Neugebauer. I thank the gentleman.
The gentleman from Colorado.
Mr. Perlmutter. I appreciate everybody's testimony today.
This is going to be something we are all going to be looking at
for a while, to know exactly when you force a sale or merger,
demand more capital, close the institution, because you want to
allow companies to operate if they can. But here, we have other
people's money, and that is why we have this ability for the
SIPC to just come in and shut the doors and preserve what
exists.
So I just have a question for the SEC and for those of you
who look at this, because when we went through this type of
thing before, there was a lot of short selling going on, there
was a lot of rumor mongering going on, there was a lot of
driving a company that is sort of wounded into the ground. And
so I would--as part of all your investigation, I would really
like to know that was going on, and who benefited by it, if it
is possible to check something like that out, because we have
seen it in the past, and it really hurts the system. And I
would just ask you to do that.
And I have a million questions, so I am not going to ask
any more, and I am just going to wish you all happy holidays.
Chairman Neugebauer. I thank the gentleman.
The gentleman from Florida, Mr. Posey, is recognized for 2
minutes.
Mr. Posey. Thank you very much, Mr. Chairman.
Mr. Duffy, I believe in a Senate hearing you were asked to
basically butt out of any investigation. Could you elaborate on
that a little bit?
Mr. Duffy. Only to what I know, sir.
We were told that the CFTC had asked us not to get involved
in an investigation; that they were going to proceed with the
investigation, so we were no longer a part of the
investigation. So you would have to ask them why. I don't know.
Mr. Posey. Do any of you have any interest in pursuing an
investigation of your own? Other than just being observers
about what you read in the newspaper or what somebody tells
you, did anyone else beside Mr. Duffy attempt to pursue your
own investigation? Just anybody raise your hand if you did.
Good. I would like to hear about it. I would like to hear
from all of you.
Mr. Chairman, if I can have time.
Mr. Kobak?
Mr. Kobak. Part of our statutory duties, as I said in my
remarks, is to do a thorough and independent investigation. We
are doing that. We are trying to coordinate it with the other
investigations that are going on.
Mr. Posey. But you weren't asked to butt out?
Mr. Kobak. No.
Mr. Posey. Okay. Mr. Ketchum?
Mr. Ketchum. We weren't asked to butt out. We provided
support to the trustee, and we understood that the SEC and the
CFTC were both investigating this. It was not a matter of
butting out, but of allowing the agency to do their work.
Mr. Cook. Yes, sir. We are looking at many things related
to this.
Mr. Posey. You haven't been asked to butt out?
Mr. Cook. No, sir.
Mr. Posey. Mr. Berkovitz?
Mr. Berkovitz. We are investigating what happened to the
funds.
Mr. Posey. Everybody is investigating, and Mr. Duffy is the
only guy who was asked to butt out. Does anybody have any idea
why that could be? Nobody has any idea why Mr. Duffy's
organization is the only one that was asked not to do so?
Mr. Duffy. Just so it is clear, sir, all the information I
have testified on is information we have gathered in our own
internal interviews prior to us being asked not to investigate
further. So that is what I have testified.
Mr. Posey. Did they tell you why? I find that incredulous.
Mr. Duffy. I guess you would have to ask the CFTC why. I
don't know.
Mr. Posey. Why?
Mr. Berkovitz. I am not familiar with what has been
referred to, but even if I were, I couldn't talk about it.
Mr. Posey. With the Chair's permission, and I am sure
everyone left on this panel would be intensely interested in
knowing that at the earliest possible moment you are able to
tell us, why you would ask Mr. Duffy not to participate in an
internal investigation. And I hope you will write that down and
not forget it. At the earliest possible time that you feel
ethically, morally, or legally able to tell us why you would
tell him not to conduct an internal investigation, not to
discover any facts on his own that he possibly could, we
greatly would look forward to having your explanation on that.
Chairman Neugebauer. I thank the gentleman for his
questioning.
The gentleman from Texas, Mr. Canseco.
Mr. Canseco. Thank you, Mr. Chairman.
I just have a very brief question, because most of the
questions have already been asked.
So, Mr. Duffy, MF Global had a very spotty compliance
record and paid about $87 million in fines to regulators in
2007. Was there anything in MF Global's past that would give
CME concern about the segregation of customer funds at the
company?
Mr. Duffy. No. Again, we do random audits. We audit each
and every one of our firms every year, as we are required to
do. We do spot audits. We get daily segregation reports. We do
third-party tie-outs. They have had some disciplinary actions,
I think they were fairly de minimis, throughout the years. But
when they took over after Refco failed, we never took them off
daily reporting. Most firms don't have to report daily. It
comes a day or so later. And we have continued to keep a close
watch on all of our firms, including MF Global.
Mr. Canseco. Thank you very much. I yield back.
Chairman Neugebauer. I thank the gentleman.
And I apologize to the gentleman, Mr. Miller, for skipping
over him. So you are recognized.
Mr. Miller of North Carolina. That is fine, Mr. Chairman. I
will just accept double the time.
The only proposal that I can recall in Dodd-Frank that got
at the repo market, which was a huge part of the financial
crisis, was a proposal from the FDIC and Sheila Bair to limit
how much could be paid, or to give the FDIC discretion in
receivership to pay less than 100 percent of secured
transactions, which was obviously aimed at the repo market. But
all the debate in Congress was about mortgages on office
buildings, which made me think that Congress does not really
understand the shadow banking system and the repo market. And
someone really needs to, because this is very important.
And it is also very much the case that the industry does
not want us to understand it, because if we did understand it,
we might start to pay attention and figure out how much of a
risk it really posed to us.
I have a couple of questions about proposals that have been
made to limit repo transactions. One is, and I mentioned it
earlier, to limit the number of times a given collateral--Mr.
Capuano used the term ``rehypothecation,'' and then he admitted
he wasn't exactly sure what that meant, but it is the same
collateral being used as--the same instrument, the same asset
being used for collateral for multiple transactions. Should
that be used ad infinitum like double mirrors, where you just
see forever, or should there be some limit on the number of
times a given asset can be hypothecated?
Mr. Duffy?
Mr. Duffy. As I said earlier, sir, I do believe that there
needs to be a limit on how much any particular security can be
leveraged out. So, if it is 20 times over, and we are all
looking to get the same security back at the same time, and
there are 20 of us looking for one thing, 19 of us are going to
have a problem. So I do believe that there needs to be some
kind of limit to that type of behavior.
Mr. Miller of North Carolina. Anyone else? Okay.
Mr. Cook. Sir, I would just add I think there are a lot of
complicated issues there. Repos are a very valuable financing
tool in the markets. And I think, frankly, repos-to-maturity
may have their purpose. I am not here to defend them, but they
do cut down certain risks. They potentially create others.
I think you are raising an important question. I know the
ranking member has asked us to look at this article. I have
looked at it, and I look forward to discussing it further. But
I think it is hard to say--there is a difference between
leverage and allowing rehypothecation.
Mr. Miller of North Carolina. Then let us go to leverage.
It is pretty stunning that MF Global was able to have 100
percent financing of their purchase of sovereign debt, more
than $7 billion in sovereign debt, through the repo market.
Should there be essentially a margin requirement? Should there
be some requirement of a haircut to limit the vulnerability to
the repo system?
And I understand the immediate need right now for
liquidity, and imposing anything immediately would have a
problem in the world economy given where things are. But if we
ever pull out of where we are, should there be a limit on--
should there be a required haircut or essentially a margin
requirement? Mr. Cook?
Mr. Cook. I believe that was, in fact, the effect of
requiring them to take a capital charge--through the
discussions with FINRA and the SEC, take the capital charge for
these positions. I think the question, the broader question of
leverage is a very important one. I think there are a number of
policy issues we need to think through there. There are
different types of leverage. And so, you can have two firms
that have the same degree of leverage, but very different
risks. And I think the question of how we approach that is an
important one to think about further. I don't want to use up
your time answering that question.
Mr. Miller of North Carolina. Anyone else? I am now past my
time.
Mr. Ketchum. I would just underline what Mr. Cook said. I
think you raise a very important issue from the standpoint of
viewing leverage, particularly with respect to assumptions in
most of the financial oversight, from banking to securities
firms, with regard to matched book leverage that is built in.
But the exposure to that leverage varies dramatically by asset
quality and dramatically by the nature and the maturities of
that matched book.
So I think you raise an important issue that all of us
should go back and review, but I think Mr. Cook is right, there
is also a great deal of an exceptionally critical part of
financing that is built into the repo market.
Mr. Miller of North Carolina. One last question, at the
chairman's indulgence. Sheila Bair's argument for her haircut
on the repo market is that there needs to be some market
discipline. There was none; that lenders in the repo market
were making their decisions based entirely upon the collateral.
When Bear Stearns was obviously listing in the water, Lehman
was listing in the water, everyone knew they were in deep
trouble, and the result of the favored position of repo
transactions was that when the FDIC finally arrived, there was
just this smoking crater in the ground instead of an
institution that actually may have had some franchise value and
had some assets.
Do you think there is any discipline in the repo market?
And what can be done to create some discipline in the repo
market?
Mr. Cook. I will take a stab, sir. It is, again, a
complicated question.
I think in some respects, Lehman and Bear are examples
where counterparties looked beyond the collateral, because
those entities, as I understand it, were not able to finance
themselves even using Treasuries. So there is a discipline in
that sense. But that is also part of the challenge is if you
become highly dependent on financing yourself, including using
very high-quality collateral, and there is some reputational
issue that is out there, then you have a significant liquidity
problem.
I think one way to come at your question--I am sure there
are many--is to think about the appropriate capital treatment
of these transactions, whether they are being properly
addressed through capital charges.
Chairman Neugebauer. I thank the gentleman. Good questions.
The Chair notes that some Members may have additional
questions for the panel which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 30 days for Members to submit written questions to these
witnesses and to place their responses in the record.
We thank this panel. I would remind members of the
committee that we believe that additional hearings on this
issue are warranted, and we are going to look at credit rating
agencies, and some of the accounting practices that have been
discussed today, risk management, internal controls. Some of
those issues we think are important. And I think the ultimate
product that we want to deliver when we get all of the
information back that we requested, and get reports back from
the various people who are looking at that, is for this
committee to publish a finding and let that finding then be a
part of the record. And we can then ascertain if there are
additional things we can do, in working with the industry, to
make sure that we make whatever fine-tuning adjustments that
need to be made to make sure that we do not have to have
another hearing like this in the future.
We thank the panel. You have been very patient. I know it
has been a long day. And so, go ahead and take the rest of the
day off.
With that, this committee is adjourned.
[Whereupon, at 6:25 p.m., the hearing was adjourned.
A P P E N D I X
December 15, 2011
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