Managed Futures Education Center

Account Segregation Protections Critical To Futures Market Stability, SIPA Law Has Protections Covering BD/FCM Liquidation, Says Law Architect

While MF Global bankruptcy court trustee William Freeh has been arguing against MF Global segregated account holders receiving priority treatment in the liquidation proceedings, interesting voices are emerging to set the record straight.

On January 18, the Commodity Futures Trading Commission (CFTC) filed a legal brief essentially supporting the superiority of MF Global segregated account holders over creditors, citing specific bankruptcy code case law that afforded MF Global segregated account holders superiority over creditors.

In an statement to Opalesque on Friday, former CFTC Chairman Phillip McBride Johnson was clear: “The commodity bankruptcy process sets all customer funds apart from the debtor’s assets and returns them to customers on a pro rata basis ahead of all creditors’ claims, secured and unsecured.”

While legal opinions and interpretations vary on the topic, particularly with relation to the SIPA liquidation process, one of the architects of the commodity brokerage bankruptcy liquidation process, Andrea Corcoran, provides critical perspective on the intention behind the law.

Ms. Corcoran is the widely respected 32 year legal veteran of the CFTC, now president of Align International, a compliance consulting firm.  The key point in her background is that having helped conceive the Bankruptcy Code as it relates to a Broker Dealer / Futures Commission Merchant liquidation, her insight extends not only what the law says but its intent.  Ms. Corcoran re-affirmed the significance of account segregation protections as a core to providing integrity to the futures markets and discussed the expectation for segregated accounts being given priority treatment in a SIPA bankruptcy liquidation proceeding.

“The strength of account segregation protections is critical to the integrity of the futures markets,” noted Ms. Corcoran, who was a lead member of the team drafting Bankruptcy Code liquidation rules while Director of Trading and Markets at the CFTC.  “In 1978 the Bankruptcy Reform Act specifically addressed futures and securities firm bankruptcies.  A primary goal of the special liquidation provisions is to ensure that Subchapter IV of Chapter Seven of the Code is to prevent commodity broker bankruptcies from having a ‘ripple effect’ that could threaten the integrity of the futures markets.”

Citing specific language in paragraph 7(b) of the SIPA (15 U.S.C. 78ff-1(b)), Ms. Corcoran highlighted that “A trustee in a SIPA liquidation shall be subject to the same duties as a trustee in a commodity broker bankruptcy under Subchapter IV of Chapter 7 of the Code.”  Ms. Corcoran did, however, note a concern in a SIPA liquidation for potential for differing interpretations relative to the superiority rights given to segregated commodity account holders.  “There is potential for an interpretation giving only limited recognition to Subchapter IV under SIPA, which may well raise problems in implementing that Subchapter in a bankruptcy.”

This isn’t the first time the architect of the commodity bankruptcy liquidation process has considered the problems of a joint securities and futures broker liquidation.  Writing in the January 1993 issue of the Futures International Law Letter, Ms. Corcoran penned the article Bankruptcy Pitfalls for Dually-Licensed Brokerage Firms.  In it she prophetically noted significant concerns over the prospect of a conflict between securities and futures customers for assets treated under different customer protection regimes.  The Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA) regulate the securities accounts and operate under a separate set of customer protection guidelines than does the Commodity Futures Trading Commission (CFTC) and National Futures Association (NFA).  In other words, the SIPA code might be open for interpretation by the trustee and court, who, in the MF Global case, appear to be favoring providing creditors equal protections to segregated account holders.

The question of if a SIPA liquidation is a more effective method of liquidating MF Global remains open.  In MF Global’s case there were 318 securities accounts handled under the firm’s Broker-Dealer arm and over 50,000 affected accounts under the commodities Futures Commission Merchant arm.  Ms Corcoran expressed her emphatic view that whatever process is chosen futures customers should go first ahead of general creditors. That is a powerful statement coming from the woman who not only was instrumental in crafting the legislation, but also clearly understands the intent of the bankruptcy code as it was written to impact a Broker-Dealer / Futures Commission Merchant liquidation.

Does a SIPA liquidation process provide MF Global account holders the same protections as a Chapter 7 liquidation, which is said to provide iron clad superiority to the segregated account?   That is a question ultimately answered by the judge.  However, for such arguments to succeed in court, they must first establish the proper foundation in the SIPA law, which Ms. Corcoran and the CFTC have specifically cited and has not appeared in legal briefs to date.  “The CFTC can only carry the legal ball to a certain degree,” one legal source said.  “A foundation of basic facts needs to be established first, and in a SIPA liquidation process that foundation should cite specific law that re-affirms the Chapter 7 rights of commodity customers.”  In short, the court needs to hear the message being sent by both the CFTC brief of January 18 and Ms. Corcoran’s views expressed in this interview.

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