Peregrine Financial’s fraud-laden demise—the latest in a string of collapses of other brokerage firms in recent months—has brought into focus some of the risks investors may face when they put their dollars in the hands of smaller, independent futures brokers. Investors’ confidence in markets, in would appear, has taken another hit.

Sal Gilbertie, head of Teucrium Funds—an ETF provider offering futures-based commodities ETFs—told IndexUniverse’s Correspondent Cinthia Murphy that futures-based ETFs might be the answer to retail investors’ futures-related concerns. Gilbertie, whose firm sponsors the red-hot, $100 million Teucrium Corn Fund (CORN), argued that the transparency of the ETF structure ensures that investors’ interests are guarded closely.

Murphy : Peregrine Financial’s demise comes less than a year after MF Global suffered the same fate. Refco preceded that. It’s a trail of scandal involving futures brokers that doesn’t reflect well on futures markets, or futures-based investments. What’s your view?

Gilbertie :The futures markets themselves are not broken. They are functioning as they should be. It would appear that the futures industry is having some problems— particularly, perhaps, some of the smaller futures commission merchants (FCMs). In my opinion some entities are going to have a tough time ahead.

Murphy:What makes fund providers like Teucrium immune to contagion from the negative publicity, or more importantly, from the apparent risks in the system? Where does the risk lie for an investor?

Gilbertie :I can only speak for Teucrium and what we do. There’s a lot of transparency in the publicly traded ETP system, something you don’t always see at the FCM level, as many of them are not publicly traded. As a NYSE listed security, any Teucrium ETP is subject to the SEC reporting requirements of a public company, including regular independent audits.

In the futures market, investors are protected by the clearing mechanism that backs-up their margin. Investors that leave excess margin in the hands of their FCM subject this excess capital to risk. Non-public FCMs are not subject to the same level of SEC required scrutiny and regulation that applies to publicly traded ETPs. The Teucrium family of NYSE funds sweeps its excess capital from our FCM on a daily basis.

Murphy:Should we assume, then, that in light of all that has gone down with Refco and Peregrine, investors will be less willing to leave excess capital sitting around? How would that affect the system?

Gilbertie :Professionals sweep their excess margin daily. Smaller investors may find it expensive and difficult to regularly sweep excess capital. As such, these investors may turn to professionally managed futures accounts or to publicly listed commodity-based ETPs that meet their investment objectives.

Murphy:I can’t imagine these FCM scandals wouldn’t erode investor confidence in the system. Should we expect to see smaller demand for futures or futures-based investments?

Gilbertie :People who need the delivery mechanism of a futures market will continue to trade futures no matter what. But the change in behavior could come from the smaller investor who doesn’t need that delivery. Small investors might not be able to afford the minimum account requirements of a larger FCM, one that has more rigorous controls and reporting, but they might not want to take on the risk of doing business with a smaller FCM anymore, especially not now.

Murphy:And they are going to turn to ETFs for their commodities exposure? Are they safer there?

Gilbertie :I think, logically, that’s where they could turn for access to futures. However, the design and benchmark of an ETP needs to match the investment objective of the investor for the ETP to be truly suitable as an investment or futures replacement. A publicly traded futures-based ETF is subject to SEC reporting requirements to which non-public FCMs are not.

Murphy:If part of the problem small speculators face relates to their inability to pay minimum account requirements of a top-tier broker as they look to mitigate risk, how does accessing futures via ETFs compare in terms of cost?

Gilbertie :Unless an investor is looking to partake in the futures-based delivery mechanism, a properly chosen futures-based ETP may be the way to go to get exposure and participate in one's chosen commodity. Costs can vary from commissions to minimum account balances, but the real key to determining what may be most cost effective for an investor is the design and benchmark exposure of the ETP.

Murphy:Is it fair to say, at the end of the day, that these futures broker scandals are good for futures-based ETFs rather than bad? Futures-based ETFs already represent about 9 percent, or more than $106 billion, of total U.S. ETF assets and they have been growing. These events should not sidetrack that growth trend?

Gilbertie :In my opinion, more and more investors seem to be seeking direct exposure to commodities. It is our mission at Teucrium to provide publicly traded, transparent, understandable, and cost effective commodity based ETPs as an alternative to futures investing.

Contact Cinthia Murphy at cmurphy@indexuniverse.com.

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