My old firm, MF Global, is the latest to be hit by a large loss ($141m) as a result of unauthorised trading by a wheat trader in its’ Memphis office. The news caused the shares to fall by over 25%.
Apparently the trader had shorted the market and was hit when unprecedented volatility in US wheat markets, with prices falling 11 per cent but then jumping almost 20 per cent to a record $13.34½ a bushel in just three minutes. This against a backdrop of prices rising by 25% on Monday.
The CEO commented that MF Global had relaxed system trading control limits because they made trading desks less efficient when many customers were placing orders – these have now been restored.
Whilst I don’t have any insider information as yet on the specifics of how this happened, one can imagine a number of possible situations, including ones in which a trading desks feels its’ profitability is being impeded by “unreasonable” controls. For instance,
- Limit restrictions may mean a desk can’t accept all the customer orders coming in when the flow of orders are all in a particularly direction eg all buy orders. The desk may contend it can easily lay these off but the sequencing of order means they “temporarily” breach limits.
- In a phone broking environment, sales traders have to record orders manually. Whilst these should be immediately entered into systems during the call, sometimes when the phones are going crazy sales traders can revert to using their own paper blotters to jot down orders and resultant positions, thereby circumventing limit controls .
- Often orders can be processed without allocating them to an account pending client allocation instructions e.g. a client has 10 accounts and hasn’t specified which account(s) to allocate the trades to. Time limits may operate on how long orders may be unallocated and likewise the number/size of unallocated orders may be limited. However, at busy times, it can be perceived as more important to get the order into the market and worry about the details later. In this situation a trader could enter orders for their own account but conceal them under the guise of unallocated client orders
This episode will be especially embarrassing to the COO of MF Global who has always been fanatical about operating rigorous internal controls, albeit tinged by commercial considerations. Whilst the fallout from this episode will not go as high as the COO, he will take this very personally.
UPDATE : MF Global shares continued to take a battering when the US market opened and at one point they were 50% lower than prior to the news at $14.22, before staging a rally. This will have financially hit many of the staff and Directors, many of whom hold shares and options, albeit many will probably see it as a buying opportunity.