Wall Street dealers, fearing further Federal Reserve scrutiny, last week were pressing hedge fund refuseniks to sign up to the International Swaps and Derivatives Association's novation protocol (DW, 9/30). As DW went to press Friday it was still unclear how much success the dealers were having in getting funds to sign up by today's deadline.
One lawyer representing hedge funds said some firms had resorted to extreme tactics, such as sending "strongly worded letters and emails" pressuring his clients to sign on to the protocol. He declined to name which firms had sent the letters. Officials at several firms said their firms had not sent letters. They have, however, been trying to persuade clients during meetings and conversations and have held mandatory meetings for employees to impress upon traders and sales officials the importance of adhering to the protocol. They are less forthcoming about what they've actually been saying and whether they have twisted client arms.
Dealers are at pains to prove to the Fed and other national regulatory bodies they are tackling concerns over issues such as novations and unconfirmed credit-default swap backlogs. At the same time they say they're being dogged by unregulated hedge funds which won't play ball. Although more than twice as many derivative counterparties, including hedge funds, signed on in the first three days of last week than in the month since the protocol was issued, many are still holding out. Out of potentially hundreds of affected counterparties only 174 firms, including all the major dealers, had signed on Thursday afternoon, and lawyers representing hedge funds said many are unlikely to give in.
"The protocol is a reasonable solution to what everyone agrees is a problem," said one official. "It's the right thing for the market." But Richard Frase, partner at City law firm Dechert which is advising hedge funds on the protocol, countered, "There's a sense of being strong-armed in to [the protocol] without being able to assess it properly."
It is unclear what will happen to those holding out. One possibility is that dealers will enforce the terms of the more burdensome ISDA Master Agreement, which requires parties to get prior written consent before assigning trades to third parties. Another possibility is hedge funds may sign up to the protocol with the caveat they can get out of the restrictions should the trading system prove unworkable.
