European Enforcers Eye Credit Default Swaps

The European Commission (“EC”) is commencing two antitrust investigations of the market for credit default swaps (“CDS”).

The EC investigations follow a similar investigation by the United States two years ago.  CDS, often vilified as a prime catalyst of the global financial crisis, are financial instruments that provide investors with protection in the event the subject entity defaults on payments.  For this reason, CDS are often seen as insurance against default – buyers pay money in exchange for a payoff if the reference entity (a third party) defaults on an independent credit instrument.  The CDS market is a multi-trillion-dollar industry.

The two EC investigations are described by the Commission in a press release as follows: (1) “whether 16 investment banks and Markit, the leading provider of financial information in the CDS market, have colluded and/or may hold and abuse a dominant position in order to control the financial information on CDS”; and (2) “whether preferential tariffs granted by ICE [Clear Europe, the leading clearing house for CDS,] to [nine] banks have the effect of locking them in the ICE system to the detriment of competitors.”

At its core, the EC’s first investigation concerns the fact that Markit maintains exclusive possession of invaluable daily market information, including information on prices and indices.  An emphasis is placed on probing Markit’s agreements with the entities that provide the market information and possible concerted conduct to determine whether competition in the financial information market is stifled.

The second investigation centers on certain preferential-treatment provisions in contracts between nine CDS dealers and ICE Clear Europe.  The principal concerns are (1) whether these preferential provisions make entry into the clearing-house market unreasonably challenging, thereby limiting competition and choice; and (2) whether the agreements contain fee arrangements that unfairly advantage these nine CDS dealers to the detriment of other CDS dealers.

Although some critics find this move unnecessarily duplicative given the recent regulatory efforts to improve transparency in the CDS market, the EC appears steadfast in its investigation.  As stated in its press release, “[t]he Commission’s antitrust tools are complementary to these regulatory measures . . . .”  The common purpose of both efforts is to improve fairness in this particularly opaque market setting.