EU hits banks with CDS anti-trust probe

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The European Union is probing investment banks including Goldman Sachs and JP Morgan over possible collusion in credit default swaps, which many politicians blame for exacerbating the eurozone debt crisis.

Friday's move by the European Commission marks a step up in efforts to tackle the financial contracts at the heart of the crisis that has engulfed weaker European countries.

It follows frustration among some countries at Europe's slow pace of reform of finance and the largely uncharted $600 trillion derivatives market, including credit default swaps (CDS), which ballooned before the global financial crisis.

"CDSs play a useful role for financial markets and for the economy," the commissioner in charge of anti-trust cases, Joaquin Almunia, said in a statement.

"Recent developments have shown, however, that the trading of this asset class suffers a number of inefficiencies that cannot be solved through regulation alone."

Lack of transparency can lead to abusive behaviour, he said, adding: "I hope our investigation will contribute to a better functioning of financial markets and, therefore, to a more sustainable recovery."

The Commission, which acts as competition regulator for the 27-member EU, said it would investigate whether 16 investment banks and CDS market information provider Markit had colluded or abused a dominant market position.

At the same time, the Commission said it had opened proceedings against nine of the 16 banks and ICE Clear Europe, a CDS clearing house owned by exchange operator InterContinental Exchange, to examine whether preferential tariffs granted by ICE to the banks had hurt competitors.

The 16 banks being examined are: JP Morgan, Bank of America Merrill Lynch, Barclays, BNP Paribas, Citigroup, Commerzbank, Credit Suisse, Deutsche Bank, Goldman Sachs, HSBC, Morgan Stanley, Royal Bank of Scotland, UBS, Wells Fargo Bank/Wachovia, Credit Agricole and Société Generale.

Two-pronged investigation

The Commission said the first investigation would focus on the financial information needed for trading CDS, which are like insurance contracts and usually pay out when a debtor defaults, allowing a creditor to hedge risk, or, if they expect a default, to take a speculative position in the market.

The Commission said it had information that the 16 banks that act as dealers in the CDS market give most of the pricing, index information and other data only to Markit, which is the leading financial information firm in the market.

"This could be the consequence of collusion between them or an abuse of a possible collective dominance and may have the effect of foreclosing the access to the valuable raw data by other information service providers," the Commission said.

"If proven, such behaviour would be in violation of EU anti-trust rules."

Under EU rules, those found in violation of antitrust regulations can be fined up to 10% of their revenues.

In the second investigation, the Commission said it was investigating a number of agreements between nine of the 16 dealer banks and ICE Clear Europe, a clearing house for CDSs.

It said the agreements include a number of clauses, such as preferential fees and profit sharing agreements, that might create an incentive for the banks to use only ICE as their clearing house.

"The effects of these agreements could be that other clearing houses have difficulties successfully entering the market and that other CDS players have no real choice where to clear their transactions," the Commission said.

Deutsche Bank, Commerzbank, Goldman Sachs, Morgan Stanley and BNP Paribas declined to comment. The other banks, Markit and ICE Clear Europe were not immediately available to comment. 

(EURACTIV with Reuters.)

The European Commission said on 9 March 2010 that it would consider banning 'naked' selling of derivatives contracts and Greece said curbs on speculators would be examined by the G20 powers (EURACTIV 10/03/10).

The measure was prompted by the dire economic situation of EU member Greece. European Commission President José Manuel Barroso said the EU executive would like the G20 to discuss speculation in credit default swaps (CDS), a form of insurance against default. Some EU politicians accuse speculators of using these complex financial instruments to bet on a Greek bond default.

So-called 'naked' selling involves selling a CDS to a buyer who does not hold the underlying sovereign bond. A naked CDS contract is typically a bet taken by investment firms like hedge funds that the bond's issuer will end up in trouble.

Short-selling happens when assets are borrowed, sold and then bought back in order to profit from the difference between the original price and the price when the assets are repurchased.

On 19 May 2010, Germany became the first European country to ban naked short-selling in shares of the country's 10 most important financial institutions (EURACTIV 19/05/10).

In June 2010, Nicolas Sarkozy and Angela Merkel, leaders of France and Germany respectively, asked Commission President Barroso to consider an outright ban on naked short selling and credit default swaps (EURACTIV 09/06/10).

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