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Financial industries to overhaul derivatives market

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The Financial Times reports that the financial industry plans to overhaul current standards of derivative valuation and trading:

The financial industry will on Wednesday overhaul how it writes contracts in the credit derivatives world – an effort to rebuff criticism that the vast sector could pose a systemic threat.

More than 1,400 banks and asset managers will adopt a new “big bang” protocol, which will make it easier for investors to know what will happen to credit derivatives contracts if debt defaults occur.

The US market will also introduce a standardised pricing system for CDS contracts, which have hitherto been run on an unregulated, freewheeling basis.

Indeed it can’t be overemphasised how much of an impact derivatives had on the financial industry. These instruments were behind the near-collapse of AIG, and possesses the potential to re-ignite the other problem of the banks.   Yet the FT has no details as to the planned reforms.  While the world watches and waits, Wall St. fiddles and burns.  And as usual the taxpayer is expected to bail them out if necessary while getting nothing in return.  But there is some sign of progress:

Bankers, however, stress that the “big bang” protocol is now occurring alongside other reform measures, such as a move to adopt centralised clearing for the first time. The InterContinental Exchange said this week that ICE Trust – the clearing house for credit derivatives it formed in collaboration with some of Wall Street’s biggest names – cleared 613 CDS transactions with a notional value of $71bn in its first four weeks of operation.

Separately, TriOptima, a trade processing group, said it had removed $5,500bn of redundant contracts from the market in the first three months of the year because banks had cancelled deals that offset each other. This process of “tearing up” – or offsetting contracts – has already cut the estimated size of the sector to below $30,000bn, less than half its level 18 months ago.

But if history is any guide, Wall Street is unlikely to take action which will curtail their power by too much.  Indeed how far can we expect them to go?

Written by defennder

April 8, 2009 at 3:18 PM

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