Morgan Stanley takes on troubled energy account. Morgan Stanley’s deal to assume a large and troubled book of business from commodity risk management firm FCStone Group, helped to maintain market stability at a time when liquidity was already in the doldrums. In early 2009, Morgan Stanley was contacted by a consultant working for an undisclosed futures commission merchant (FCM) that was experiencing continued liability from a large customer account. The book in question was comprised of more than 450,000 open positions spread over hundreds of different contract-month and strike combinations. It included trades of more than 700,000 Nymex options contracts and 50,000 ICE contracts. The FCM, later disclosed to Morgan Stanley as Kansas City-based commodity risk management firm FCStone Group, wanted to unwind this large position quickly and effectively. In addition to the sheer size of the book, the transaction was made all the more difficult by the fact that FCStone had to continue to manage the position in real-time while discussing a potential transfer with Morgan Stanley. “So we were negotiating back and forth but we had to keep updating the position as FCStone modified it,” explains Peter Sherk, head of power and gas in the Americas at Morgan Stanley. Among the important considerations for Morgan Stanley in assessing the transaction were accuracy and the correct evaluation of the risk. “You have to make sure you’re both talking about the same deal, in terms of the numbers – that’s the first step.” Correctly assessing the position and associated risk was made all the more difficult by the fact that the book remained unstable – FCStone was still experiencing significant issues with it as the deal was being negotiated. Once Morgan Stanley agreed to take the position, the actual transfer was accomplished in two days. This part of the process involved input from teams across the company, including the IT, legal, operations and accounts departments. Sara Menker, Nymex gas options trader at Morgan Stanley, adds: “Once we agreed on a valuation with FCStone, we had to process these trades and input them, ensuring they were represented correctly within our risk systems.” After a value was agreed between the two companies, the positions were transferred overnight, with Nymex ensuring the mechanics of the handover, such as transferring the ownership of a position and the associated margins, ran smoothly. “Nymex was very heavily involved at this point,” Menker says. “It had a team working extra hours throughout the night to make sure all trades were transferred correctly.” The team at Morgan Stanley then spent the second day checking the figures and correcting any errors. While the book’s value remains undisclosed, FCStone has since estimated an associated bad-debt provision of $110 million and realised losses are expected to total $54.4 million in 2009. FCStone’s own attempts to liquidate the position before involving Morgan Stanley were hindered by liquidity issues. “Certainly, I think liquidity in all markets globally was at or near a low point earlier this year,” says Sherk. “But this was a decent sized position under any market circumstances.” In addition to the risk premium charged by Morgan Stanley, Sherk highlights other benefits to completing the deal, including the reputational rewards of being able to conclude such a transaction in a timely and efficient manner. He points out that, while such situations do not happen very frequently, a company with a book of business that’s either distressed or in an area they no longer wish to be involved in may find it will take months or even years to unwind the position. “We viewed this as a marquee deal. FCStone had to place a lot of trust in us before the deal was completed, especially in providing us with information on its position. The company had to be comfortable that we would treat that information appropriately and that its position wouldn’t be compromised.” Sherk also highlights the benefits for the wider market. “There was a market-stability issue and as a long-standing market player we felt it was important to step in, transfer this risk and contain what had become a problem for FCStone and was on the verge of becoming a problem for Nymex,” he says. The end result was a continuation of a stable, functioning market, according to Sherk, something that benefits all participants....
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