Nasdaq Working Quietly to Curb Bank Control of Clearinghouses

Nasdaq Working Quietly to Curb Bank Control of Clearinghouse
Stock prices are displayed in the studio at the Nasdaq Marketsite in New York. Photographer: Daniel Acker/Bloomberg

The revelation that regulators received forged letters denouncing banks’ “cartel-like control” of derivatives trading has exposed the latest front in a yearlong battle over which companies gain entrée into the $583 trillion swaps market.

The letter campaign, orchestrated by a public relations firm, contained the same message that Nasdaq OMX Group Inc. has been pushing in Washington as it tries to muscle its way into the derivatives business. The company’s plan: get Congress or the Commodity Futures Trading Commission to limit bank ownership of swaps clearinghouses, helping Nasdaq get a bigger piece of the pie.

Nasdaq’s efforts have included hiring the ex-chairman of the House Financial Services Committee to lobby former colleagues, sending the company’s chief executive officer to private meetings with lawmakers and even circulating an anonymous flier on Capitol Hill. The flier, which Nasdaq eventually acknowledged drafting, also denounced Wall Street firms as an “abusive cartel.”

Nasdaq has done much of its lobbying in secret, letting organizations such as the AFL-CIO labor federation step out in public. The New York-based company declined to say whether it hired the firm responsible for the faked comment letters.

The secrecy may be necessary; In the inter-connected ways of Wall Street, if Nasdaq’s clearinghouse wants to be successful, it needs to keep the banks as customers.


“It is dangerous to state openly what they feel, because those banks can decide to take their business elsewhere,” said Michael Greenberger, a former CFTC official who is now a University of Maryland law professor.

The skirmish is a vivid illustration of how companies turn to Washington to gain an advantage via the law that they can’t get in the marketplace.

Nasdaq and large derivatives dealers -- including JPMorgan Chase & Co., Goldman Sachs Group Inc. and Deutsche Bank AG -- are still making their case at the CFTC, which will consider the ownership caps in mid-January.

The regulatory melee was set off by the Obama administration’s decision to overhaul financial regulation in the wake of the 2008 financial crisis. The Dodd-Frank law, enacted in July, aims to have most derivatives processed through clearinghouses and traded on exchanges for the first time.

Nasdaq and its competitors are positioning themselves to take advantage of that move. The banks say clearinghouses need owners with enough capital and expertise to weather market disruptions. Allowing companies with fewer resources to have large ownership stakes in clearinghouses could increase the risk to the system, they say.

Higher Prices

Unions and investor advocates say that banks’ near-monopoly has driven the prices of derivatives higher for everybody. More transparency in those markets will lower the costs for all companies buying derivatives, which in turn will bring down the costs not only of financial products but consumer goods based on agricultural or energy commodities -- everything from loaves of bread to gallons of heating oil or gasoline.

“What the progressives are concerned about here is the ongoing control of clearinghouses by institutions that are making money by keeping things opaque,” said Heather Slavkin, a lobbyist for the AFL-CIO.

Nasdaq lost the first round of the regulatory battle this year when Congress decided not to set caps on clearinghouse ownership, passing the decision on to regulators -- the CFTC as well as the Securities and Exchange Commission.

Arkansas Letters

Nasdaq didn’t submit a public written response last month when the CFTC proposed the ownership rule. At the same time, the agency did receive letters supporting Nasdaq’s position that were purportedly from Arkansas residents, including a rural county sheriff and a Burger King franchise owner.

Bloomberg News reported last month that those letters were forgeries generated as part of a campaign by the Dewey Square Group, a Boston-based political consulting firm. The U.S. Justice Department is investigating.

Nasdaq’s chief spokesman, Frank De Maria, issued a “no comment” when asked whether the company hired the consultants to create the impression that citizens throughout the country were concerned about bank ownership of clearinghouses. De Maria also declined repeated requests to comment for this story.

Interest-rate swaps are the largest share of the swaps market, totaling around $348 trillion a year. It’s that part of the derivatives market that Nasdaq is angling toward. Analysts at Keefe, Bruyette & Woods Inc. estimated last week that Dodd-Frank requirements would double revenue from interest-rate swaps clearing to $610 million in 2012.

Main Competitors

Nasdaq’s main competitors are London-based LCH.Clearnet Group Ltd., which is majority-owned by banks, and Chicago-based CME Group Inc., the world’s largest futures exchange.

Five commercial banks hold 97 percent of all over-the-counter derivatives, according to the Office of the Comptroller of the Currency. To date, the share of the business controlled by Nasdaq’s two-year-old clearinghouse for interest-rate swaps, the International Derivatives Clearing Group LLC, has been small: about $400 million in open-interest trades as of Dec. 13. CME Group, which started clearing interest-rate swaps on Oct. 18, had a total of $926 million in open-interest trades in its interest rate swaps clearinghouse as of Dec. 16.

Nasdaq hasn’t been able to keep its interest in derivatives clearinghouses entirely under wraps. Company CEO Robert Greifeld came to Washington and met in person with members of the House and Senate, according to two congressional aides who were present.

Michael Oxley, a former Ohio representative who is an adviser to Nasdaq’s board, stood near the House floor during a vote on the ownership amendment where reporters saw him buttonholing fellow Republicans. Though banks lobbied against the amendment, 18 Republicans broke ranks to vote for it.

Lynch Amendment

Passage was touch-and-go. At first the ownership restrictions were excluded from the text of the bill that reached the House floor in December 2009. Then Representative Stephen Lynch, a Massachusetts Democrat, offered an amendment restricting banks from owning more than 20 percent of a clearinghouse; that’s when the anonymous flier -- titled “Myths That the TARP Banks Are Spreading About the Lynch Amendment” -- began to circulate.

After a Nasdaq lawyer was revealed through computer coding to have drafted the flier’s text, the company admitted responsibility to Dow Jones Newswires. The company’s general counsel, Ed Knight described Lynch’s proposal as “a modest amendment” that “we find ourselves in agreement with,” according to the trade publication Clearing Quarterly Directory.

In an interview, Lynch said Nasdaq didn’t originate the idea for the amendment. After he introduced it, Nasdaq officials did visit him, however, and debated the details with him.

Left to Regulators

Though the language eventually passed the House, the final version of the Dodd-Frank law left it up to regulators to decide whether to set ownership limits. In October, the CFTC proposed that clearinghouses should be required to choose between two types of ownership restrictions.

Under the first, there would be a 20 percent cap on a clearinghouse member’s equity stake or voting control and a 40 percent cap on the collective stake that members and restricted non-member companies -- including banks -- could hold in one clearinghouse.

The second option would impose a 5 percent cap on the ownership stake and control any clearinghouse member or non-member could have. The second option wouldn’t include an aggregate cap. The 5 percent limit would likely enable LCH.Clearnet to maintain its current ownership structure.

In recent months, representatives of Nasdaq have visited the CFTC and the SEC to discuss clearinghouse ownership, according to disclosures posted on the agencies’ web sites.

Banks’ Comments

In comments posted on the CFTC site, Goldman Sachs, JPMorgan and other banks oppose setting strict limits on ownership. A letter from the Securities Industry and Financial Markets Association suggests that banks view the lobbying as an attempt by the losing side to reopen the battle.

“We do not believe there is a sufficient basis for the Commissions to conclude it is necessary to adopt rules that would impose aggregate ownership limits that are substantially similar to those that were proposed by Rep. Lynch -- and which he now urges upon the Commissions -- but rejected by Congress,” wrote Kenneth Bentsen Jr., Sifma’s executive vice president for public policy.

Bloomberg LP, parent of Bloomberg News, intends to register as a swap-execution facility, Ben Macdonald, the company’s global head of fixed income, said in a Nov. 17 comment letter to the CFTC. The letter doesn’t comment specifically about the proposed ownership limits.

The Swaps and Derivatives Markets Association, a group of smaller players that wants access to clearinghouses, supports Nasdaq’s position that clearinghouse ownership shouldn’t be dominated by swaps dealers.

“It’s not about the big guys and the little guys,” said Jamie Cawley, a founder of the organization. “It’s about making sure that we strike the right balance so that governance structures are truly representative of the marketplace they’re going to be serving.”

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