"We risk becoming the best informed society that has ever died of ignorance"
- Rubén Blades

"You can't make up anything anymore. The world itself is a satire. All you're doing is recording it"
- Art Buchwald

"It's getting exciting now, two and one-half. Think of everything we've accomplished, man. Out these windows, we will view the collapse of financial history. One step closer to economic equilibrium"
- Tyler Durden

"It is your corrupt we claim. It is your evil that will be sought by us. With every breath, we shall hunt them down."
- Boondock Saints

Sunday, November 20, 2011

Picking The Carcass of MF Global

From WSJ:
Who would buy the bank debt, bonds and shares of MF Global Holdings Ltd., the bankrupt broker that can't seem to locate about $600 million of client funds and is beset by investigations?

Some of the world's largest hedge-fund and private-equity firms, that's who.

Centerbridge Partners, a $10 billion private-equity and hedge-fund firm, purchased as much as $15 million of MF Global's bank debt on the heels of the firm's collapse in late October, according to people familiar with the matter. David Tepper, who manages about $14 billion at hedge fund Appaloosa Management LP, bought nearly $50 million worth of MF Global investments, including shares, bonds and bank debt, according to securities filings and people close to the matter.

Big hedge fund Elliott Management Corp. is on MF Global's creditor's committee, and traders say the firm owns a significant amount of MF Global's debt, though it isn't clear when it was accumulated. Other hedge funds say they also bought MF Global's shares, which traded at about 13 cents on Friday, down from nearly $8 six months ago.

Betting on MF Global is highly risky. Federal prosecutors have issued subpoenas amid continuing questions about missing client money. It is unclear whether the company's estate will be on the hook for part or all of the $600 million being sought.

The dangers are why Centerbridge, Appaloosa and other veterans at the game of scavenging carcasses of dead trading firms are risking well under 1% of their portfolios. But these traders say the wagers could pay off big time if MF Global's balance sheet portrays an accurate view of the firm and if the $600 million is recovered.

In theory, the trades could pan out. Despite its $2.4 billion in bank debt and bond liabilities, MF Global had net equity, or assets minus liabilities, of $1.23 billion as of Sept. 30, according to information shared with investors.

Some traders calculate MF Global lost about $400 million as its holdings of European debt fell in value in recent weeks, based on trading of these securities. An additional $300 million or so could be lost as the firm is unwound, based on similar situations. That would leave MF Global shares with about $500 million of value.

In that best-case scenario, the stock likely would climb, because that $500 million is well above the stock's current $22 million market value.

Likewise, MF Global's bonds, now trading at about 36 cents on the dollar, and bank debt, at about 50 cents, could soar toward 100 cents because they would be paid off. Trading volume on the debt, bought through a broker like other investments, is strong; the shares trade on the over-the-counter market.

The moves by Centerbridge, Appaloosa and others are something of a wager that Jon S. Corzine—the former New Jersey governor and U.S. senator and ex-chairman of Goldman Sachs Group Inc.—didn't break the law but merely made a bad decision to buy debt of various European nations, leading to MF Global's dissolution. If that is the case, the missing money will be found, MF Global's assets will be divvied up, and debt holders—and maybe even shareholders—will be left with sizable assets, according to investors betting on MF Global.

Those buying the debt also might pressure MF Global's lenders by threatening lawsuits, arguing they didn't treat MF Global fairly or are sitting on cash, said a trader involved in the situation.

Even if some of that happens, the numbers are forbidding. MF Global had $41 billion of total assets at the time of its collapse, according to court filings, compared with more than $39 billion of total borrowings and other liabilities. But those assets include billions of dollars of investments purchased through so-called repo transactions. In these maneuvers, MF Global borrowed money from banks to make various trades, offering collateral, such as Treasurys and other investments, to back that borrowing, according to people familiar with MF Global's operations.

Now, lenders are selling this collateral to unwind the lending agreements. Often in these cases, the value of the collateral falls as the lenders sell. If MF Global's assets turn out to be worth just $2 billion less than expected after the collateral sales, it would mean the company's $1.23 billion of net equity would be wiped out, the shares would be worthless, and the bonds and bank loans would be severely impaired.

Other traders worry the bankruptcy process could drag on for years or contain other surprises. And every day the $600 million fails to turn up makes the bullish argument on MF Global look more doubtful, part of why prices on the firm's debt have been drifting lower.

Because of these risks, Centerbridge has been shorting, or betting against, MF Global's bonds, even as it accumulates the firm's bank debt, according to a person close to the matter. In the bankruptcy process, holders of the bank debt have a higher claim on any MF Global assets than do holders of the bonds. That arbitrage has been profitable in recent days, this person said.