) -- Dave Kavanagh, a 30-year veteran in the futures and fixed income markets, thought he had learned his lesson about due diligence, having already witnessed fraud firsthand at


in October 2005.

While the funds were safely transferred through the bankruptcy process, Kavanagh, who now runs the

Grant Park Managed Futures Strategy Fund


, decided it was best to move money to a diverse number of Futures Commission Merchants (FCMs) and commodity brokers to avoid being trapped in the event of another bankruptcy.

Ironically, one of the dealers he chose was

MF Global



When MF Global revealed its huge loss in the third quarter and the size of its European exposure, Kavanagh automatically grew concerned and began the process of shifting money, opening accounts with three other commodity brokers. But he didn't have time to get all his money out before the firm filed for bankruptcy.

Now his fund has $14 million in assets still stuck at MF Global and is struggling to recover the money from a bankruptcy process that has been further complicated by an investigation into missing client money.

"I thought as long as your money was in segregated funds everything was good and safe," he said. "Now we know it was not safe."

More than 150,000 customer accounts worth about $5.45 billion were frozen on Oct.31, when MF Global filed for bankruptcy and a "shortfall" of $633 million in customer funds was discovered. That estimate has now been doubled to $1.2 billion.

Accounts with open trade positions were moved with 60% of the collateral. Not all of the money could be transferred because of the ongoing investigation into the missing money. Clients have been subject to margin calls, even as their money is still frozen.

And it is not just renegade speculators who have been affected. Legitimate hedgers in the agri-business from farmers to grain elevators have been hurt too.

"We are caught in between twilight zone and a nightmare," says Kavanagh. "You can't get out your assets. For three weeks we were told that 11% of the customer accounts are missing. Then magically that number doubles."

Customers like Kavanagh who trade in commodity futures have been particularly aggrieved by the bankruptcy process. MF Global was registered both as a broker-dealer with the SEC and a commodity broker with the Commodities Futures Trading Commission. Broker-dealers and commodity brokers are governed by two separate bankruptcy processes that protect customers differently. There isn't any rule that harmonizes both procedures for those firms that are dually registered.

MF Global is being liquidated by a Securities Investor Protection Corporation (SIPC)-appointed trustee, James Giddens, because it is registered as a broker-dealer. That has futures customers, who are not insured by the SIPC, concerned that they may not be protected in the bankruptcy process.

Kavanagh says he is now wary of dealing with dually-registered entities as he never wants to go down that road with SIPC. His overall confidence that he won't be cheated has also been broken.

"Is the whole system broken or is it one guy who corrupted the system," says Kavanagh. "JPMorgan comes here with 6 people and says we want your business. I ask them 'how big is your CDS exposure? What are your loan loss reserves like? Are you dually registered as a FCM/broker-dealer?'"

Kavanagh believes customers who have played by the rules have been punished. Offshore customers who were over-collateralized have an enormous amount of collateral still stuck at MF Global. They might now consider only posting the bare minimum collateral.

For now, Grant Park has about 2.3% of its fund locked in MF Global and has agreed to backstop the losses. It hopes to recover more of its money as money stuck in foreign subsidiaries of MF Global has to flow back into the U.S.

But he is beginning to seriously consider moving business to old pure-play commodity brokers like Rosenthal Collins, who aren't as big but do one thing and do it well. "You take enough risk. You don't want to have to hire an analyst to do your due diligence," he said.

--Written by Shanthi Bharatwaj in New York

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