The owners of Highland Smoked Salmon were coming to terms with the news that nearly £500,000 in cash that they had with a City of London brokerage firm was no longer available to them. Its account had been frozen.
The broker, MF Global UK, the UK arm of the much larger MF Global Holdings, had gone bust. Its parent company had entered administration in the US following two weeks of frantic activity to cover losses from a $6 billion (£3.8bn) bad bet on the future price of European bonds.
The former chief executive of MF Global is Jon Corzine, also former head of Goldman Sachs, who is listed as one of President Barack Obama's top fundraisers (see panel below).
Highland Smoked Salmon had £452,630.10 on account with MF Global UK, according to the Statement of Affairs published by administrators, KPMG. The company is just one of several Scottish investors caught in the whirlwind.
Other notable victims include Tullis Russell Group of Fife, which is listed as having £212,107.57 on account; and the Royal Bank of Scotland, which is said to have had £1.32 million.
While these firms wait to see what, if anything, they will get back, none wants to discuss the experience. Alongside them are other "real world" UK businesses such as farmers, energy utilities and oil companies. Most held trading accounts with MF Global to buy products which hedge against price fluctuations. Essentially, they were buying insurance, the failure of which might bring them down.
Others nursing losses in the UK include fund managers, institutional investors such as pension funds and high-net-worth individuals. The list of creditors published by KPMG details some 2500 creditors of MF Global UK owed a total of about £1.8bn.
MF Global clients in other jurisdictions have already had funds returned. In Canada, clients recouped 100%. In the US, the figure is around 70%. However, in the UK, an estimated 20% has been returned to some customers.
This is said to be eroding trust in an already fragile UK regulatory system. Clients of Lehman Brothers are still waiting for the return of funds four years after the demise of the Wall Street firm sparked the global financial crisis.
City watchers are saying that the MF Global collapse has been a wake-up call for UK investors, many of whom are now wondering whether it is safe to invest money here.
"The UK relies heavily on the financial sector," says Erico Tavares, director of New York-based investment firm Sinclair Advisors and founder of a very vocal group of investors caught up in MF Global's collapse.
"If trust in the UK system goes, all brokers will move their money," he says.
The reason why investors with broker accounts are vulnerable is because a broker account is not like an ordinary bank account. With the latter, you leave money in a savings or current account on the understanding that the bank can invest that money. Should a bank fail, there are regulatory schemes in place that reimburse money lost by customers up to certain limits.
With a broker account, the client places money with the firm specifically to be invested. The broker's role is to carry out trade on behalf of clients.
However, unless the client states otherwise, their account will be what is called unsegregated, meaning the broker is at liberty to use client monies as collateral for trades it makes itself. This mingling of funds is the source of confusion in the MF Global collapse.
"What has happened is symptomatic of regulatory failure on the part of the FSA [Financial Services Authority] on two counts," Tavares says. "First, the degree of protection granted to investors. In the UK, client funds do not have segregated status unless that is specifically requested."
He says that the second FSA failing concerns re-hypothecation. Where hypothecation is just financial jargon for putting up an asset such as a house as collateral for a loan, re-hypothecation is more counter-intuitive. It is when the same asset is used as collateral for multiple borrowings. If the debt goes bad not all the creditors can get their money back.
In everyday life such a practice would be deemed fraudulent. However, in the world of financial markets re-hypothecation is commonplace and perfectly legal for top-level brokers known as primary brokers. In the US, re-hypothecation is capped at 140%. However, in the UK there is no cap.
During the good times this attracted many finance giants and was hugely profitable, since it meant unlimited leverage, but the potential for financial disaster is amplified when markets collapse. This severely aggravated the fall of the likes of Lehman and AIG.
"It is why every international broker shifted money to the UK," says Tavares, who managed to get most of his money out of MF Global but still has hundreds of thousands of pounds to recover. "And it is why in the aftermath of MF Global's collapse, there is a spider's web to untangle to work out what assets belong to US clients and which assets are UK clients'.
"In the UK, out of $2.7bn in funds, $260m will be dispersed from the estate over the next few weeks. It is a cosmetic exercise designed so the authorities can claim they are doing better than they did with Lehman Brothers, which is still in the courts. I really believe we are going to hear some disturbing news quite soon. If losses are significant, there will be a huge scandal."
The IMF has expressed concerned over the practice and issued a working paper in July 2010, The (sizeable) Role of Re-hypothecation in the Shadow Banking System by Manmohan Singh and James Aitken.
The paper notes that the UK provides a platform for higher leveraging that is not available in the US and that "the UK FSA has not yet made any changes on the use (and re-use) of collateral since their Lehman Brothers experience".
Tavares says this lack of regulatory action is leading to investors taking their funds out of the UK following the MF Global collapse, since it has highlighted the lack of change to the UK system since Lehman. It is helping to change the general narrative that US subprime mortgages were the root cause of the world financial collapse.
More attention is now being paid to the role played by the multiple collateral raisings that were possible under the UK laws on re-hypothecation.
"In the US, what is being investigated is a potentially criminal act. However, what has happened in the UK is not illegal. The regulation is useless," Tavares says.
James Rossiter of London-based public affairs company Morgan Rossiter says none of his clients, who comprise hedge funds and institutional investors, want to go on record regarding the losses.
He says the situation is further complicated by a recent ruling from the UK Supreme Court presiding over the Lehman Brothers unwinding.
This states that $1bn of US claims now have the right to call on the UK pot of money.
"This is just going to slow the whole process of clients getting their monies back down further. Many of the firms I work with are now talking about shifting to Singapore and Toronto," Rossiter says.
Schadenfreude, however tempting for the city slickers being eaten by larger beasts, would be misplaced. The UK has been having a hard enough time coping with heavy debt and austerity already.
If fear of UK financial regulation were to take hold, the Government would have to act fast to prevent a mass exodus. Then there is the matter of the rest of the mega-leveraged market investments, which amount to trillions of pounds. Relatively small moves in markets now have more potential to cause disaster than before.
With choppy waters returning to bonds and stocks last week, many are saying it is only a matter of time before the next MF Global strikes.
