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Derivatives

CDS Raises Concerns Over Chinese Walls

The increasing use of credit-default swaps in the loan market is raising concerns over how to stop private information from flowing into the public markets and loan participants want to get ahead of the development before the Securities and Exchange Commission takes an interest.

The increasing use of credit-default swaps in the loan market is raising concerns over how to stop private information from flowing into the public markets and loan participants want to get ahead of the development before the Securities and Exchange Commission takes an interest. The issue has arisen as banks attempt to better manage portfolios through derivatives and as more hedge funds and multi-strategy funds seek to invest in bank debt, bonds and the credit derivatives markets.

"The issue is the biggest flashpoint for most institutions," according to Peter Vaky, managing director and head of syndicated finance for SunTrust Robinson Humphrey Capital Markets. The Loan Syndications and Trading Association is in the process of developing guidance to prevent dissemination of non-public information, noted Jane Summers, general counsel.

The private nature of loans has become an issue with lenders acting on this information to hedge their exposure with credit-default swaps. Both issuers and investors could get harmed. Investors would be damaged because having inside information is taking advantage of the system and the public at large, Vaky said. "You can damage a company's reputation if you start trading on stuff and push the price of the bonds down," he added. Vaky believes that most institutions have learned how to deal with the crossover between bonds and loans.

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