Here comes the ticker tape
Today's Financial News - Posted May 14, 2009
Washington needs to do something. Unfortunately, all it can do is create new regulations. But don’t worry, the market is always one step ahead.
By Andrew Snyder, TodaysFinancialNews.com
Baltimore – (TFN): Washington is like a hyper-active “tween” these days, starting all sorts of projects and programs, but never really finishing any of them. Our leaders do just enough to make headlines and grab a few votes, but after that, the momentum wanes and it is on to the next big idea.
Just one of several newsmakers coming out of the nation’s capital this week is the notion of enacting strict regulations on the derivatives market. Even though it was bi-partisan support – including approval from Larry Summers, Obama’s top economist – that created the Commodity Futures Modernization Act of 2000, most lawmakers appear to be in favor of ripping back much of the law’s, well, lawless regulations.
Under current rules, derivatives like interest-rate swaps and credit-default swaps are considered backroom trades that can be jumbled on the books and basically hidden from regulators and shareholders.
There is no central clearinghouse or exchange for these derivatives. Most simply trade with the stroke of a pen and a new slot in a filing cabinet. They are so customized and unique, a price discovery process would do little good.
Change is on the way
If Washington gets its way, which it most likely will, the derivatives industry, worth about $680 trillion in global face value at the end of last year, that helped get this country into the current fiscal fiasco will look much more like the equity or the bond markets, with transparent prices and enough ticker tape to make following the trades as simple as checking your email.
At face value, increased regulation sounds like a great idea. As a politician, there is no other route to take. But as investors, economists and finance insiders, we may have a different opinion.
Derivatives were so popular because they were unregulated and hard to price. A lopsided market creates a powerful profit opportunity. But now that Capitol Hill will likely force Wall Street banks to run all trades through an exchange or clearinghouse and fill box after box with red tape, their prices will certainly rise and their profitability will suffer.
Prices will rise so much, the derivatives will no longer be attractive. At the very least there effectiveness as a hedging mechanism will erode. And at worst, their use could all but vanish as innovative bankers find other uncharted solutions.
Remember, where there is a will there is a way.
So many folks (mostly the folks that read just the headlines) believe the market failed to correct itself, creating the current financial mess. But I beg to differ. For proof, just as any derivative trader if he will ever price default swaps the same way again.
You know the answer.
Washington can regulate all it wants, but the markets are always one step ahead.
Next Article: Today’s winners: Satellites, t-shirts and good lawyers
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