Just because something stinks to high heaven, doesn’t mean it’s illegal

Remember that list of banks involved in KKR’s bid for First Data? Citigroup, Credit Suisse, Deutsche Bank, HSBC, Lehman Brothers, Goldman Sachs and Merrill Lynch are all going to be lending KKR money to lever up the target company. And they’ve all known that for a while. And they’re all going to want to hedge their exposure in the CDS market. Color me unsurprised, then, about this:

The cost to insure $10 million of First Data bonds from default surged to $104,000 a year on Friday, up 58% from just two weeks earlier, according to Markit Group data. The contracts more than doubled today to $210,000 as all that new debt from the buyout will increase the risk of default — and the cost to insure against it.

The WSJ’s Dana Cimilluca reckons that where there’s smoke, there’s probably fire:

Chasing down any leakers may prove tricky for regulators — and maybe that’s why it’s so rare for anyone to get in trouble in these cases. Then there are seven banks financing and “advising” on this deal, and that’s a lot of lips.

But maybe the real reason that it’s so rare for anyone to get in trouble in these cases is that no one did anything illegal — at least when it came to the CDS market. (The trading in options is properly something for regulators to be concerned about.) A CDS is a bilateral agreement between two counterparties, and is not a security. If bankers made a large mark-to-market profit by buying First Data protection before the KKR acquisition was announced, that’s actually perfectly legal, even if they did so on inside information. Yes, pace Jon Najarian of Optionmonster, it “stinks to high heaven”. But there’s no point in regulators going after the bankers here, because no regulations were broken.

This is yet another reason why US markets should move to a principles-based regulatory approach, rather than the rules-based approach currently in force.

This entry was posted in Econoblog. Bookmark the permalink.