The European Union's competition watchdog is investigating the practices of some of the world's largest banks, as well as a clearing house and a financial data firm, in the market for credit default swaps.
The two probes home in on a market that has come under fire for lacking transparency and allegedly worsening market turmoil during the financial crisis.
While the investigations focus on competition issues, they accompany a wider regulatory crackdown in Europe and the United States on credit default swaps and other derivatives and could have implications for the broader functioning of the market. In that market, several companies control trillions of dollars of financial instruments.
The European Commission said it is investigating whether nine big investment banks, including Barclays PLC and Goldman Sachs Group Inc., received unfair preferential treatment _ such as lower fees and profit-sharing deals _ from ICE Clear Europe and were therefore channeling their transactions only to that clearing house, by far the biggest for CDS in the EU.
"The effects of these agreements could be that other clearing houses have difficulties successfully entering the market and that other CDS players have no real choice where to clear their transactions," the Commission said.
The banks targeted in the probe also include Bank of America Corp., Citigroup Inc., Credit Suisse Group, Deutsche Bank AG, JP Morgan Chase & Co., Morgan Stanley and UBS AG.
The probe comes as regulators on both sides of the Atlantic are pushing investors to settle transactions of CDS and other structured derivatives through clearing houses to improve market transparency in the aftermath of the crisis. That push has led not only to much bigger business for clearing houses by also to close relationships between banks and clearing platforms, as they scrambled to quickly set up a new system.
The nine banks scrutinized in the probe sold their clearing platform to IntercontinentalExchange Inc., the parent company of ICE Clear Europe in 2009, and are shareholders in the exchange's U.S. clearing arm.
However, Commission officials said Friday they had indications that business practices between the banks and ICE Clear Europe went beyond what is in the written contracts. The officials declined to be named in line with department policy.
In a separate case, the Commission said it is investigating whether those nine banks _ and the seven others that act as dealers in the CDS market _ give essential information on pricing and other daily activities only to Markit Group Ltd., the leading financial data provider for that market.
Such preferential treatment "could be the consequence of collusion between them or an abuse of a possible collective dominance" and could lock other data providers out of the CDS business, the Commission said.
The seven other firms targeted in this probe are BNP Paribas SA, Commerzbank AG, HSBC Holdings PLC, Royal Bank of Scotland Group PLC, Wells Fargo & Co., Credit Agricole SA and Societe Generale SA. All 16 banks are shareholders of Markit.
The 16 banks involved in the probes control some 90 percent to 95 percent of the CDS interdealer market _ where banks trade with each other _ and close to 100 percent of transactions between dealers and smaller investors and companies.
A near-monopoly on financial data, like the one held by Markit in the CDS market, could leave smaller players with worse information on pricing and ultimately a worse deal, a Commission official said. She also declined to be named.
Both clearing houses and data providers are set to play a more central role in the market for CDS, which is still relatively young and was mostly unregulated before the financial crisis.
Credit default swaps were invented to help investors insure themselves against the default of a company or a government whose bonds they hold. However, they have also been used for speculation, with banks and hedge funds trading in CDS to make money without actually owning the underlying bonds.
Such "naked" selling of CDS has come under scrutiny, since the price of CDS is often used to gauge the risk of the underlying bond. During the height of the financial crisis, there were concerns that speculation in CDS both for the bonds of some debt-stricken countries and mortgage securities was driving down prices and fueling market panic. Market players, however, insist that there is no conclusive proof of such a link.
"CDS play a useful role for financial markets and for the economy," Joaquin Almunia, the EU's competition commissioner, said in a statement. "Recent developments have shown, however, that the trading of this asset class suffers a number of inefficiencies that cannot be solved through regulation alone."
The Commission decided to launch formal antitrust probes after regulators discovered suspicious market structures during their regular examination of the CDS market, Commission officials said. They also declined to be identified.
The U.S. Department of Justice in July 2009 said it was investigating possible anticompetitive practices in the credit derivatives clearing, trading and information services industry, a day after Markit said it was being investigated in relation to the market for credit default swaps.
Markit said Friday it "does not believe it has engaged in any inappropriate conduct and looks forward to demonstrating that to the Commission." A spokeswoman for IntercontinentalExchange said the company would cooperate with the investigation.
Barclays, RBC, Morgan Stanley, Bank of America, Citigroup, JPMorgan, Wells Fargo, UBS, Societe Generale and Commerzbank declined to comment on the investigation. Deutsche Bank, Goldman Sachs, Credit Suisse, Credit Agricole, BNP Paribas and HSBC didn't immediately respond to requests for comment.
Pallavi Gogoi in New York, Frank Jordans in Geneva, Greg Keller in Paris and David McHugh in Frankfurt contributed to this story.