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Credit Funds Urged To Examine Counterparties

Fixed-income hedge funds entering into long credit positions with financial institutions need to examine potential conflicts of interests with their counterparties.

Fixed-income hedge funds entering into long credit positions with financial institutions need to examine potential conflicts of interests with their counterparties. Walter Pollard, senior attorney at Goodwin Procter in Boston, said more hedge funds are going long by selling default protection to commercial banks and hedge funds need to be aware the banks may have inside information on the credits they are buying protection on.

Pollard said even though Citigroup settled Securities and Exchange Commission charges it reduced its exposure to Enron by buying credit protection based on inside knowledge about Enron's financial situation, many hedge fund compliance officers still do not perform due diligence. Pollard said he had seen cases where compliance officers had "absolutely no idea" if the bank had a relationship with the reference entity.

Bob Pickel, ceo and executive director of the International Swaps and Derivatives Association, responded dealers are aware of a potential conflict. "Banks are sensitive to these issues and have in place controls that were reinforced in an initiative completed last October, in which ISDA and its members participated," he said.

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