By Sarah Morgan
Hedge funds are scooping up shares of the bankrupt brokerage MF Global Holdings Ltd. in hopes of profiting if the company’s assets are worth more than expected. Investment pros say individuals can do the same — but should they?
Since declaring bankruptcy last month, following reports the brokerage couldn’t locate more than $600 million in customer funds, MF Global’s fortunes have plummeted. But that hasn’t stopped hedge funds such as Centerbridge Partners and Apaloosa Management from snatching up tens of millions of dollars in stock, the Wall Street Journal reports. The company is now a penny stock, meaning it’s no longer eligible for the major exchanges. Shares currently trade at about 14 cents on the over-the-counter bulletin board exchange.
Individual investors can buy penny stocks through standard online brokerage accounts, but may have to pay additional fees. For example, at TradeKing, clients can trade most penny stocks online, but will pay an additional 1 cent per share in fees, for a total commission that could be as high as 5% of the value of the trade (but no higher). Over-the-counter trades require a minimum investment of $100. In addition, some penny stock trades can’t be settled electronically through the usual channels, and TradeKing may not always accept such trades. It’s possible an investor could buy a penny stock that’s currently eligible for electronic settling and it could later become ineligible, making the shares practically worthless, says Dave Dusseault, a vice president of customer service at TradeKing.
But analysts say following the hedge funds in this case may be ill-advised. Common-stock shareholders are last in line when a company is liquidated, behind bondholders and banks that have loaned the company money. That means that there’s a chance the shares will ultimately be worthless, says Jamie Cox, a managing partner at Harris Financial Group. “Individual investors should not make investment decisions with regard to a bankrupt company,” Cox says. “It’s not the purview of an individual investor to try to play in those shark-infested waters.”
The fate of Lehman Brothers shareholders offers a fairly recent example of the most likely end to this story, Cox says. He says he personally bought a very small number of the firm’s shares a few days before it declared bankruptcy, taking the chance that it would be bought like Bear Stearns. It wasn’t, and the company’s shares became penny stocks. Three years later, the shares are still trading over the counter, but will almost certainly be worthless when the bankruptcy process is finally complete, Cox says. “It’s dead money,” he says.