It doesn't matter what marketing experts advise. In the real world's uncharted sea of money, financial icebergs lie beneath the surface. In October 2008, VeraSun Energy, one of the largest ethanol makers, filed for bankruptcy, reneging on forward contracts with farmers. Three years later, MF Global Holdings, Ltd., was bankrupt after raiding $1.6 billion from customer accounts, as its own bets in shaky European bonds soured.
All this leaves farmers like Clinton J. Blew of Pretty Prairie, Kansas, more cautious and skeptical than ever. In the early days of the MF Global collapse, as chairman of his Mid Kansas Cooperative Association in Moundridge, he was getting phone calls from neighbors worried that the co-op would be taken down by its initial loss of $1.2 million from a hedge account cleared through MF Global.
Today, the co-op has recovered the majority – but not all – of its funds. Blew is glad he didn't hedge with futures on his own. And he's uncertain of help from Washington to prevent future theft from segregated accounts – something already illegal and supposedly regulated.
“It's kind of like the farm bill. Everything just moves really sluggishly,” says Blew, who was asked to testify before the Senate Agriculture Committee when it held a hearing on MF Global's collapse in December 2011.
“I'm not a Washington guy. I haven't been up there a whole lot,” he says. After several recent trips there, he says, “I have a new appreciation of how everything works. I don't know that I have any more respect for those guys.”
So far, trustees have restored about 72% to 80% of losses to farmers, co-ops, and other hedgers, with speculators offering to buy out over 90% of claims. The futures industry was embarrassed by yet another theft from hedgers, the collapse of Cedar Falls, Iowa, brokerage Peregrine Financial Group (PFG). In September, its former owner, Russell Wasendorf, pleaded guilty to mail fraud, embezzlement of customer funds, and lying to regulators. He detailed his crimes in a note in a suicide attempt last summer. Up to $200 million was misappropriated. Clients expect to recover less than 50%.
The Chicago Mercantile Exchange has set up a fund to protect small hedgers from future thefts; some say it's too modest. Congress is considering a larger fund modeled after the Securities Investor Protection Corporation (SIPC). Senator Charles Grassley, an Iowa farmer on the Senate's Agriculture and Finance Committees, says he doesn't expect that to come up this year.
Meanwhile, farmers wonder if industry-financed funds or more regulation will just make their own grain sales more expensive. Some aren't using futures contracts, a small factor perhaps in a recent decline in commodity futures trading volume. Others, even some who lost money from the hedge accounts to MF Global, see little choice but to continue using futures in a volatile marketplace.
No Simple, Easy Answers
The main lesson for Blew is to really know those who buy or trade his crops. The chance that they won't honor their contractual obligation is called counterparty risk.