In what is sure to be viewed as a regulatory effort far overdue, the Securities & Exchange Commission (SEC) announced today that they were (finally) launching an investigation into insider trading abuses in the burgeoning (and totally unregulated) Credit Default Swap (CDS) market. CDS are financial instruments based on bonds and loans that are used to speculate on a company’s ability to repay its debt. The contracts pay if a borrower fails to meet its debt obligations on time. Hedge funds and other investors have increasingly turned to the CDS market to make bets (investments) because they’re cheaper and easier to trade, plus the market is completely unregulated. Both the SEC and the Commodity Futures Trading Commission (CFTC) have argued over which regulator has authority over the market. Absent a clear regulator, little to no regulatory action has been initiated to date.
Hardly a buyout over the past year or so, either by private equity or public companies has not been reported as experiencing surging trading in the takeover target’s CDS contracts. This has led to what appears to be significant, unrestrained and illegal use of insider information to profit from these swings. While government regulation is never a good thing, allowing some “investors” an unfair advantage over others and compromising the nation’s financial markets is even worse.
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