(what the professor posted)
Research Projects
Every student will do a directed research project involving derivatives. There are two goals for these projects. The first objective is to tailor course coverage to match student needs. The second is to develop student skills in conducting research in financial topics.
These projects will be directed. students will turn in a research proposal that
(1) states the question to be researched,
(2) explains why the question is a compelling one,
(3) outlines the steps that will be undertaken to complete the research.
________________________________________________________
(This is (me the student))
My Research topic
The Re-Hypothecation between United States and United Kingdom 2011
– You can reword the topic to related to derivatives this is what I come up with
– Answer those following questions
(1) states the question to be researched
(I want to focus on Re-Hypothecation between United States and United Kingdom and relate it to derivatives)
(2) explains why the question is a compelling one,
(One of the things you need to talk about as answering this question you can include why you think this topic is important)
(3) outlines the steps that will be undertaken to complete the research.
(also here list the best way you think, to write this research paper and the steps that will be undertaken to complete the research) also list what you think could be done to solve this issue.
Below I have listed the articles that I have read so far and I listed my notes on them as well, you also can use as more articles or any recourse as you want as long as you show the recourse.
Article 1)
.thomsonreuters.com/Securities/Insight/2011/12_-_December/MF_Global_and_the_great_Wall_St_re-hypothecation_scandal/”>http://newsandinsight.thomsonreuters.com/Securities/Insight/2011/12_-_December/MF_Global_and_the_great_Wall_St_re-hypothecation_scandal/
Article 2)
.calculatedriskblog.com/2011/12/mf-global-and-rehypothecation.html#BIzORLFAM2tT1Gx4.99″>http://www.calculatedriskblog.com/2011/12/mf-global-and-rehypothecation.html#BIzORLFAM2tT1Gx4.99
Article 3)
Rehypothecation Is An Old Story: MF Global’s Story Is a Different Story of Filched Funds
.huffingtonpost.com/janet-tavakoli/rehypothecation-is-an-old_b_1153378.html”>http://www.huffingtonpost.com/janet-tavakoli/rehypothecation-is-an-old_b_1153378.html
Deliberate mt3md
Hypothecation alrhin
Pledges t3hodat
MF GlobalMF Globals Customer Agreement for trading in cash commodities, commodity futures, security futures, options, and forward contracts, securities, foreign futures and options and currencies includes the following clause:
Article 1) note
Loophole
A technicality in some legislation or.thefreedictionary.com/Regulations”>regulation that makes it possible to avoid certain consequences or circumvent a rule without breaking the law, such as in the use of a.thefreedictionary.com/Tax+shelter”>tax shelter.
Most loopholes are deliberate and are placed there to ensure that the law is not draconian, to please a lobbyist, or for some other reason. For example, a country may pass a law requiring most companies to register with the government. However, it may contain a loophole allowing the exemption of companies that find registration too difficult or expensive. Occasionally, the government may close a loophole, which means that it takes away the exemption.
Hypothecation
is when a borrower pledges collateral to secure a debt.
Article 2)Re-hypothecation occurs when a bank or broker re-uses collateral posted by clients, such as hedge funds, to back the brokers own trades and borrowings. The practice of re-hypothecation runs into the trillions of dollars and is perfectly legal.
In the U.S.,
this legal right takes the form of a lien
Article 2)Rule 15c33 limits a broker-dealer from using its customers securities to finance its proprietary activities.
in the UK
generally in the form of a legal charge.
A simple example
of a hypothecation is a mortgage, in which a borrower legally owns the home, but the bank holds a right to take possession of the property if the borrower should default.
RULES
U.S.
Under the U.S. Federal Reserve Board’s Regulation T and SEC Rule 15c3-3, a prime broker may re-hypothecate assets to the value of 140% of the client’s liability to the prime broker.
For example, assume a customer has deposited $500 in securities and has a debt deficit of $200, resulting in net equity of $300. The broker-dealer can re-hypothecate up to $280 (140 per cent. x $200) of these assets.
A prime broker need not even require that an investor (eg hedge fund) sign all agreements with a European subsidiary to take advantage of the loophole
UK
there is absolutely no statutory limiton the amount that can be re-hypothecated.
Instead it is up to clients to negotiate a limit or prohibition on re-hypothecation.
On the above example a UK broker could, and frequently would, re-hypothecate 100% of the pledged securities ($500).
The Problem
The difference in the rules makes the UK regime incredibly attractive to international brokerage firms such as MF Global or Lehman Brothers which can use European subsidiaries to create pools of funding for their U.S. operations, without the bother of complying with U.S. restrictions.
Shadow Banking SystemThe financial intermediaries involved in facilitating the creation of credit across the global financial.0/msohtmlclip1/01/clip_image002.png”> system, but whose members are not subject to regulatory oversight
ChurnTo make both.thefreedictionary.com/Buy”>buy and.thefreedictionary.com/Sell”>sell.thefreedictionary.com/Orders”>orders through different.thefreedictionary.com/Brokers”>brokers, usually in large quantities, to create the impression of increased interest in a.thefreedictionary.com/Security”>security and thereby raise its price. An.thefreedictionary.com/Investor”>investor churns if he/she has a.thefreedictionary.com/Long+Position”>long position on the security and wishes to sell it at an artificially high price
Dates and numbers
In fact, by 2007
, Re-hypothecation had grown so large that it accounted for half of the activity of the shadow banking system.
Prior to Lehman Brothers collapse, the.westlawbusiness.com/Redirect.aspx?cid=&src=&sp=&RS=ZDNB0210&url=http://www.imf.org/external/index.htm”>International Monetary Fund (IMF) calculated that
U.S. banks were receiving $4 trillion worth of funding by re-hypothecation, much of which was sourced from the UK. With assets being re-hypothecated many times over (known as churn)
MF Global IN 2011
In its quarterly report, MF Global disclosed that by June 2011 it had repledged (re-hypothecated) $70 million, including securities received under resale agreements.
According to a letter from KPMG to MF Global clients, when MF Global collapsed, its UK subsidiary MF Global UK Limited had over 10,000 accounts. MF Global disclosed in March 2011 that it had significant credit risk from its European subsidiary from counterparties with whom we place both our own funds or securities and those of our clients.
With collateral being re-hypothecated to a factor of four
(According to IMF estimates), the actual capital backing banks re-hypothecation transactions may be as little as 25%. This churning of collateral means that re-hypothecation transactions have been creating enormous amounts of liquidity, much of which has no real asset backing.
According to jefferies the global investment bank 2011
Most recent Annual Report it had re-hypothecated $22.3 billion (in fair value) of assets in 2011 including government debt, asset backed securities, derivatives and corporate equity- thats just $15 billion shy of Jefferies total on balance sheet assets of $37 billion.
Prime broker A.investorguide.com/definition/broker.html”>broker which.investorguide.com/definition/act.html”>acts as.investorwords.com/7709/settlement_agent.html”>settlement agent,.investorguide.com/definition/provide.html”>provides.investorwords.com/1265/custody.html”>custody for.investorwords.com/273/asset.html”>assets, provides.investorwords.com/1960/financing.html”>financing for.investorwords.com/2786/leverage.html”>leverage, and prepares daily.investorwords.com/56/account_statement.html”>account statements for its.investorguide.com/definition/client.html”>clients, who are.investorwords.com/3105/money_manager.html”>money managers,.investorguide.com/definition/hedge-fund.html”>hedge funds,.investorguide.com/definition/market-maker.html”>market makers,.investorguide.com/definition/arbitrageur.html”>arbitrageurs,.investorwords.com/4634/specialist.html”>specialists and other.investorguide.com/definition/professional.html”>professional.investorguide.com/definition/investor.html”>investors.
Actions by the companies
A)
Lehman Brothers did through Lehman Brothers International (Europe) (LBIE)
, an English subsidiary to which most U.S. hedge fund assets were transferred.
Once transferred to the UK based company, assets were re-hypothecated many times over, meaning that when the debt carousel stopped,and Lehman Brothers collapsed, many U.S. funds found that theirassets had simply vanished.
In Lehmans case many funds signed a prime brokerage agreement with Lehman Brothers Inc (a U.S. company) but margin-lending agreements and securities-lending agreements with LBIE in the UK (normally conducted under a Global Master Securities Lending Agreement).
These agreements permitted Lehman to transfer client assets between variousaffiliates without the funds express consent, despite the fact that the main agreement had been under U.S. law. As a result of these peripheral agreements, all or most of its clients assets found their way down to LBIE.
B)
MF Globals
A similar re-hypothecation provision can be seen in MF Globals U.S. client agreements.
The company rules following clause:
7. Consent To Loan Or PledgeYou hereby grant us the right, in accordance with Applicable Law, to borrow, pledge, repledge, transfer, hypothecate, rehypothecate,loan, or invest any of the Collateral, including, without limitation, utilizing the Collateral to purchase or sell securities pursuant to repurchase agreements [repos] or reverse repurchase agreements with any party, in each case without notice to you, and we shall have no obligation to retain a like amount of similar Collateral in our possession and control.
C)
According to jefferies the global investment bank
Most recent Annual Report it had re-hypothecated $22.3 billion (in fair value) of assets in 2011 including government debt, asset backed securities, derivatives and corporate equity- thats just $15 billion shy of Jefferies total on balance sheet assets of $37 billion.
D) article 2
The Canadian customers of MFG got their money back within 10 days of the MFG bankruptcy. The accounts.0/msohtmlclip1/01/clip_image002.png”> that have lost money are either USA or UK based. In Canada,
Read more at.calculatedriskblog.com/2011/12/mf-global-and-rehypothecation.html#BIzORLFAM2tT1Gx4.99″>http://www.calculatedriskblog.com/2011/12/mf-global-and-rehypothecation.html#BIzORLFAM2tT1Gx4.99
Collateral under re-hypothecation rules.
Customer money could be used to enter into repurchase agreements (repos), buy foreign bonds, money market funds and other assorted securities.
Why this topic is important
As well ascollateral risk, re-hypothecation creates significant counterparty risk and itsoff-balance sheet treatment contains many hidden nasties.
Re-hypothecation transactions are off-balance sheet and are therefore unrestricted by balance sheet controls.
