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EU curbs CDS trades, shakes up ratings industry

EU curbs CDS trades, shakes up ratings industry
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First Published: Wed, Nov 16 2011. 12 25 AM IST

Updated: Wed, Nov 16 2011. 12 25 AM IST
Strasbourg: The European Union pushed ahead with its regulatory crackdown on Tuesday, giving the green light to curbs on trading of the sovereign-debt related derivatives that sit at the heart of the euro zone crisis.
The bloc’s financial services chief Michel Barnier also unveiled a measure to inject competition into the credit ratings sector, a move that was met by stiff criticism from one key sector player.
After opposition from countries like Britain, however, Barnier withdrew a provision from the draft law that would have introduced temporary “blackouts” on ratings of countries when bailouts are being organised for them.
Many EU policymakers are keen for tougher rules for the sector, saying a ratings downgrade of Greek sovereign debt last year made it more expensive and harder to mount the country’s first bailout package.
“I proposed a postponement on this to go further into the technical detail. We have some time to look at possible arrangements as to which the European Securities and Markets Authority could intervene in this way,” Barnier told a news conference.
The sector is dominated by three players; Standard & Poor’s , Moody’s and Fitch Ratings, and Barnier wants more competition.
The accidental downgrade last week by S&P of France’s banking industry will also reinforce the EU’s determination to regulate agencies more closely.
S&P said on Tuesday the new rules are out of step with other regulatory regimes and will damage ratings as a globally consistent benchmark of creditworthiness.
“It will leave investors worldwide with fewer, lower quality and less independent ratings on European debt,” S&P said.
EU states and the European Parliament, which is meeting in Strasbourg this week, will have the final say on the measure, with some changes likely.
Short-selling
The parliament on Tuesday voted by 507 to 25 in favour of an EU law that restricted “naked” or uncovered short selling of shares and sovereign debt -- where the short seller has made no prior arrangements to borrow the security.
EU states have already given the nod to the law, which was jointly agreed with parliament and is due to take effect within a year.
It also bans naked sovereign credit default swaps (CDS), where the swapper does not have ownership of the underlying government debt the CDS contract “insures” against default.
The new rules do allow purchases of naked sovereign CDS where the buyer owns a “proxy”, such as a stake in an Italian bank. An EU state can lift the ban for up to 18 months if its government debt market is not working properly because of it.
Policymakers want to crack down on what they see as speculation by hedge funds and others betting on falls in euro zone bond prices.
“This rule will make it impossible to buy CDS for the sole purpose of speculating on a country’s default,” French Green Party member Pascal Canfin said.
Hedge funds are accused of using sovereign CDS to bet on falling euro zone debt prices, but they say the market is too small to influence the much larger debt market and that the main problem is euro zone debt piles frightening investors.
The draft law on ratings agencies is the EU’s third measure to regulate the industry since the financial crisis began in 2007.
It will seek to inject more competition by requiring users of ratings, such as companies and banks, to “rotate” or switch agencies on a regular basis so that some of the 10 or so smaller agencies registered in Europe, such as Euler Hermes, can pick up more business.
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First Published: Wed, Nov 16 2011. 12 25 AM IST