2010-05-18

More CDS news from Europe

Q+A-How the EU is waging war on speculators
BRUSSELS, May 18 (Reuters) - European Union finance ministers backed tough new rules for hedge funds and private equity groups on Tuesday, marking a political defeat for Britain and paving the way for other financial reforms.

WHO ARE THE SPECULATORS EUROPE WANTS TO STOP?

Political leaders single out hedge funds as the culprits for snapping up default insurance on Greek debt, exacerbating borrowing problems and forcing European neighbours to agree a $1 trillion rescue package for weaker states.

They believe such buying exaggerated a price spiral of this insurance -- credit default swaps -- which was already rising in cost amid fears Greece could go bankrupt.

This in turn aggravating Athens' attempts to borrow money on the open market, forcing them to turn to their European neighbours for help and triggering fears problems could spread elsewhere.

In particular, politicians denounced the buying of CDS by speculators who do not own the bond it insures.

HOW WILL NEW EUROPEAN RULES CHANGE HEDGE FUNDS?

The new law, which first needs the blessing of parliament and European countries, will open a new chapter for hedge funds by forcing them to reveal closely-guarded information about their investments and borrowings to supervisors.

It also gives the authorities -- under the eye of a new pan-European super watchdog -- the power to intervene by imposing borrowing limits on a hedge fund that it fears is taking risky gambles.

The new regime also imposes loose rules on how managers should be paid, demanding that pay is staggered over a number of years to prevent risk-taking for a big bonus.

The most controversial part of the draft law is that it would not give foreign funds a licence to do business across all 27 countries in the European Union.

Private equity groups too, many of whom borrowed heavily in the run up the crash to pay for multi-billion-euro company takeovers, will also be subject to stricter monitoring.

HOW WILL THE EU CURB THOSE WHO BET AGAINST STRUGGLING STATES LIKE GREECE?

Michel Barnier, the European commissioner in charge of an overhaul of financial services, will outline in June proposals to regulate trading of the derivatives that are often blamed for market price swings.

It would be the first rules for trading in instruments whose value is linked to an asset such as currency, a market which ballooned to roughly $600 trillion.

Barnier may propose capping the size of individual trades, giving watchdogs the power to police big deals in derivatives such as Greek debt default insurance.

Under a model which would resemble the approach in Washington, traders could be stopped from building up a large position that could let them swing prices in anything from oil to currency in their favour.

The new regime is also likely to demand the recording of derivative trades and gradually push the market onto exchanges or central warehouses and under the close watch of supervisors.

Greek Prime Minister George Papandreou has raised the prospect of banning this type of trading but Barnier is unlikely to do this.

WILL NEW EUROPEAN WATCHDOGS HAVE ENOUGH CLOUT?

Many experts believe the success of the EU's financial reform hinges on the strength of the new watchdogs being set up to police banks, insurers and markets.

As with hedge funds, Britain has fought hard to water down the watchdog's influence, and won a veto that could be used to overrule them. But parliament is fighting back, demanding the watchdogs get more clout.

They propose giving more direct powers to the supervisors which means they could overrule national watchdogs like Britain's Financial Services Authority in telling international banks in London such as HSBC what to do.

WHAT OTHER RULES COULD PUT A BRAKE ON RUNAWAY MARKETS?

Alongside a host of rules that span placing limits on banker pay to demand that lenders set aside more capital to cover the risk of recession, the European Commission is also examining curbs on credit rating agencies.

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