Last updated: July 1, 2013 12:31 pm
Banks charged with blocking CDS market
Investment banks’ 20-year grip over credit insurance markets has come under regulatory assault as Brussels served charges against 13 banks for allegedly conspiring to block exchanges from challenging their business model.
The formal European Commission charge-sheet, running to almost 400 pages, alleges collusion to ensure the insurance-like contracts remained an “over-the-counter” (OTC) product – preserving the banks’ lucrative role as middlemen.
Investigators claim the banks from 2006-2009 protected their indispensable position in the $25tn global market through “control” of a trade body and information provider, which vetted whether new exchanges should be licensed.
Credit Default Swaps provide insurance against a default on bond payments and are used by investors to manage risk and bet on creditworthiness. During the eurozone crisis some European politicians railed against the contracts as symbols of reckless speculation.
If the commission acts on the charges, the 13 banks, the International Swaps and Derivatives Association (Isda), a derivatives trade body, and Markit, the main data handler for CDS, could face fines of up to 10 per cent of global turnover.
Brussels alleges that the harm from blocking exchanges, such as Deutsche Börse and CME Group of the US, went beyond trapping investors in the relatively more costly OTC market.
Joaquín Almunia, the EU’s competition chief, said keeping CDS in the opaque OTC market weakened the financial system, increasing counterparty risks that were brutally exposed after the collapse of Lehman Brothers.
“Over-the-counter trading is not only more expensive for investors than exchange trading, it is also prone to systemic risks,” he said.
New global rules coming into effect will require most swaps deals to be processed through clearing houses, which stand between trading parties and guarantee deals. Many OTC swaps, such as interest rate swaps, have already made the switch but the CDS market has been relatively untouched.
According to Isda only about 10 per cent of a market with an average outstanding notional value of $25tn was cleared last year. Many trades in Europe are cleared via IntercontinentalExchange, a US exchanges operator. Mr Almunia said several banks “also sought to shut out exchanges in other ways, for example by coordinating the choice of their preferred clearing house”.
US antitrust authorities are also investigating the CDS market and the relationship between Markit and the banks that part-own it. Banks and data providers are already facing private suits in the wake of the regulatory scrutiny. A pension fund for Ohio-based sheet metal workers argued that banks’ “collective dominance” inflated CDS prices by about 17 to 34 times compared to more transparent exchanges.
The EU statement of objections is addressed to Bank of America Merrill Lynch, Barclays, Bear Stearns, BNP Paribas, Citigroup, Credit Suisse, Deutsche Bank, Goldman Sachs, HSBC, JPMorgan, Morgan Stanley, Royal Bank of Scotland, UBS, Markit and Isda.
The banks involved and Markit declined to comment. ISDA said it was confident it had acted properly at all times and had not infringed EU competition rules.
Additional reporting by Tracy Alloway in New York
The formal European Commission charge-sheet, running to almost 400 pages, alleges collusion to ensure the insurance-like contracts remained an “over-the-counter” (OTC) product – preserving the banks’ lucrative role as middlemen.
Investigators claim the banks from 2006-2009 protected their indispensable position in the $25tn global market through “control” of a trade body and information provider, which vetted whether new exchanges should be licensed.
Credit Default Swaps provide insurance against a default on bond payments and are used by investors to manage risk and bet on creditworthiness. During the eurozone crisis some European politicians railed against the contracts as symbols of reckless speculation.
If the commission acts on the charges, the 13 banks, the International Swaps and Derivatives Association (Isda), a derivatives trade body, and Markit, the main data handler for CDS, could face fines of up to 10 per cent of global turnover.
Brussels alleges that the harm from blocking exchanges, such as Deutsche Börse and CME Group of the US, went beyond trapping investors in the relatively more costly OTC market.
Joaquín Almunia, the EU’s competition chief, said keeping CDS in the opaque OTC market weakened the financial system, increasing counterparty risks that were brutally exposed after the collapse of Lehman Brothers.
“Over-the-counter trading is not only more expensive for investors than exchange trading, it is also prone to systemic risks,” he said.
New global rules coming into effect will require most swaps deals to be processed through clearing houses, which stand between trading parties and guarantee deals. Many OTC swaps, such as interest rate swaps, have already made the switch but the CDS market has been relatively untouched.
According to Isda only about 10 per cent of a market with an average outstanding notional value of $25tn was cleared last year. Many trades in Europe are cleared via IntercontinentalExchange, a US exchanges operator. Mr Almunia said several banks “also sought to shut out exchanges in other ways, for example by coordinating the choice of their preferred clearing house”.
US antitrust authorities are also investigating the CDS market and the relationship between Markit and the banks that part-own it. Banks and data providers are already facing private suits in the wake of the regulatory scrutiny. A pension fund for Ohio-based sheet metal workers argued that banks’ “collective dominance” inflated CDS prices by about 17 to 34 times compared to more transparent exchanges.
The EU statement of objections is addressed to Bank of America Merrill Lynch, Barclays, Bear Stearns, BNP Paribas, Citigroup, Credit Suisse, Deutsche Bank, Goldman Sachs, HSBC, JPMorgan, Morgan Stanley, Royal Bank of Scotland, UBS, Markit and Isda.
The banks involved and Markit declined to comment. ISDA said it was confident it had acted properly at all times and had not infringed EU competition rules.
Additional reporting by Tracy Alloway in New York
Copyright The Financial Times Limited 2013.
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