WASHINGTON (CN) – Entities willing to act as middlemen between buyer and seller in certain credit derivative purchases are exempt from Exchange Act requirements if they conform to specific conditions, according to a new Securities and Exchange Commission rule. Billions of dollars of credit default swap derivatives remain on the balance sheets of many Wall Street firms, and the SEC intends to make those derivatives easier to sell by encouraging entities to broker the deals.
The firms have not been able to get rid of these derivatives because the risk of default for loans on which they are based is so high. When the deal is brokered, the risk is borne by the broker.
Credit default swaps are essentially bets on whether a loan is going to default; a buyer makes payments to the seller, who pays off the buyer if the loan goes into default.
When trading lacks a broker, the risk of the deal versus the return is not necessarily matched up, and a party may contract to pay more than a high risk opportunity is worth. Then if the underlying loan or bond experiences default, it can take a party under. On the other hand, a broker deals with many trades and can better match up the risk so a buyer does not end up losing more than it can withstand financially. In addition, to get the exemptions from Exchange Act requirements, the broker, called a central counterparty, must disclose information on the derivatives, so the market can respond by leveling prices.
The anti-fraud provisions of Section 17(a) are not part of the exemption.
The rules are in effect until Sept. 25.
Click the document icon on the front page for details and links to the regulations. The document icon under the “Disclosures, Indian Gaming, Mail & More” heading leads to other new regulations.