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More Price Fixing on Wall Street?

Posted by Larry Doyle on March 27, 2013 6:17 AM |

Here we go again.

With the investigation of the greatest financial fraud ever perpetrated on Wall Street — that being the manipulation of Libor — still in the early stages, news emanating from Europe this morning redirects the shadow from that organized activity into the dark and dank world of credit derivatives, aka CDS.

Recall that cornerstone principles of an industry that operates as an oligopoly are: 
1. price controls and periodic bouts of outright collusion
2. a sharing of information among partners within the oligopoly
3. imperfect information for those operating outside the oligopoly
4. enormous barriers to entry for others looking to operate within the sphere of business transacted
5. outsized profits for those within the oligopoly

Well, in what reads as a classic textbook example of just such a situation, let’s navigate as the WSJ reports, European Regulators to Charge Big Banks,

European antitrust authorities are moving soon to bring a case against some of the world’s largest banks alleging collusion in the $27 trillion dollar market for credit derivatives, people familiar with the investigation said.

The probe by the European Commission involves 16 financial groups. It focuses on whether they sought to stifle competition from exchanges in the market for credit-default swaps, which pay out when a country or a company defaults on its debts.

If the European regulators press ahead with their administrative case and win, some or all of the banks could face fines.

There we go again. With no meaningful penalties but merely the assessment of “cost of doing business” fines, collusive behaviors will never end.

The European Commission, the European Union’s executive arm, said in 2011 it was investigating whether there was a coordinated effort among banks to prevent exchanges from getting a piece of the CDS market.

Unlike other financial instruments, these are traded privately between two investment banks, away from regulated exchanges where prices are displayed—meaning that customers aren’t able to see whether they are getting the best prices.

Can you say, “enormous barriers to entry”, “imperfect information”, and “outsized profits?”

The U.S. Dodd-Frank law and new EU legislation both called for derivatives, with some exceptions, to be traded on exchanges.

This component of Dodd-Frank is a long way from being enacted and aggressively being attacked by Wall Street with support from friends in Washington.

A reshaping of credit-derivatives markets, and a move to open futures exchanges, poses a threat to profits dealers have long made in that market by dominating it. Profits for financial institutions that act as the intermediaries could shrink because of a smaller spread between bid and ask prices.

European regulators in April 2011 began looking into whether a number of investment banks had used Markit Group, the leading provider of financial information in the CDS market, to block the development of certain CDS trading platforms.

Certainly plenty of smoke around this campfire.

The real question that needs to be addressed is whether there was a web of collusion and manipulating of markets by the derivatives dealers within the CDS space in the same fashion as occurred with Libor.

What do you think the chances are of that?

Navigate accordingly.

Related Commentary
Can We ‘TRACE’ JP Morgan’s Business?; July 2009

Larry Doyle

Isn’t  it time or overtime to subscribe to all my work via e-mail, an RSS feed, on Twitter or Facebook.

I have no business interest with any entity referenced in this commentary. The opinions expressed are my own. I am a proponent of real transparency within our markets so that investor confidence and investor protection can be achieved.

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