This, coupled with the lack of transparency of the derivatives market and the sheer size of such a market, does create a real risk of cascading problems. We're experiencing greater market volatility, and that means that the folks who run hedge funds had best be right or they will lose a lot of money very quickly.
Also, from Bloomberg:
``It's a market liquidity issue,'' Brown-Hruska said. ``Firms are somewhat linked together.''
Refco is the largest provider of customer-transaction volume to the Chicago Mercantile Exchange, itself the biggest U.S. derivatives exchange. The New York-based company processed 654 million derivative contracts for the fiscal year ended February 28, 2005, more than the numbers traded on the Chicago Board of Trade, the Chicago Board Options Exchange, or the New York Mercantile Exchange during the same period.
Trading in at global futures markets rose 31 percent in 2004 to $1,144 trillion, according to the Bank for International Settlements.
`Cascade Effect'
The nature of Refco's business puts other brokers and investors at risk of getting hurt should the company become insolvent. As counterparty, Refco is either on the buying or selling side of a trade. If Refco runs out of cash to honor its side of the bargain, the other party doesn't get paid.
Refco also maintains accounts for trading clients and lends them money to make leveraged bets. If Refco runs short of cash as its business deteriorates, it may not be able to make requests to withdraw from those accounts.
Market regulators are getting involved ``to stop some fears of a cascade effect a bankruptcy will trigger,'' Michael Greenberger, a former director of trading and markets for the CFTC who's now a law professor at the University of Maryland. ``There is every sign here that this is a systemic problem and Refco is one of the dots that needs to be connected.''
Now you know why gold gone up 25$ in the last two weeks. Others had advance knowledge of this Refco crisis that could infect all hedge funds and derivative gamblers.