When Lance Uggla, an entrepreneurial bond trader, created Markit back in 2001, he could have had little inkling that it would one day enter the US political spotlight.
Back then, the business had barely a dozen staff working out of a barn in St Albans, or the bottom of Mr Uggla’s garden. Its area of interest seemed dull to most outsiders: Markit collates data from banks on trade flows and prices in the over-the-counter credit world, and sells it back to the market, mostly for valuation purposes.
But the days of innocent obscurity are over. The Department of Justice this week confirmed that it had started an investigation into pricing practices in the credit derivatives markets. It has demanded extensive data from Markit and the dozen-odd banks that own it, a request with which Markit is complying – out of swanky offices in London and New York.
What triggered the DoJ probe is – like the credit markets – a touch murky. Some bankers think the DoJ is flexing its muscles in the new political landscape by demonstrating a tough interpretation of the so-called “Sherman” anti-competitive doctrine. Others fear that the exchanges and some hedge funds are leaning on the DoJ as part of a campaign to move credit default swap activity on to exchanges.
There may be a simpler explanation. In recent months the DoJ has had reason to look at the credit derivatives world because of a flurry of corporate activity. Most notably, efforts are under way to create clearing platforms and Markit is creating a joint venture. As the DoJ peers into this once-geeky world, it is not surprising if it thinks some of those practices look a touch odd – at least given the mood of the times.
The essential problem is that growth in these markets has been so frenetic in recent years that activity has outgrown the infrastructure, in a logistical, political and social sense.
Take the case of pricing. When Markit sprang to life in its barn eight years ago, the credit derivatives market was so young it operated like the banking equivalent of a hunter-gatherer tribe. A few investors and bankers roamed about, cutting credit derivatives deals between themselves, in an ad hoc, decentralised manner.
Markit’s appearance triggered an evolutionary leap, creating a more structured tribe. As it started gathering trade data from different banks and calculating average prices, it enabled the creation of communal benchmarks, which turned into indices, such as iTraxx, CDX or ABX.
Markit was not the only data-gathering group but it quickly came to dominate the field. And as it enjoyed this stunning success its role subtly changed. Most notably, the company stopped being a “camera” that merely reflected the market, and became an “engine” of growth (to use the metaphor coined by Donald MacKenzie, the academic). When Markit launched the ABX index of mortgage derivatives in early 2006, the sheer fact of having a way to track prices enabled the market to explode.
It is perhaps not surprising that some American observers started to snipe about the ABX – and Markit – when the turmoil erupted in 2007. Nor that the DoJ is questioning the wisdom of having Markit – and the dealers that own it – in such a powerful position in relation to data flows.
For their part, the banks and Markit vehemently deny any wrongdoing. As far as I can tell, Markit seems a highly professional and well-run group.
But the key problem is the evolutionary – or structural – one.
Eight years ago, the fact that any group was producing communal data on credit derivatives marked real progress for the markets, even if distribution of that data
Now, however, investors and politicians are no longer happy with just having a well-organised tribe. They want the financial equivalent of democracy: data that is available to all, or produced through open, competitive means, not just sold to a few paying banks and investors.
It is a fair bet that the banks will keep fighting this trend. After all, if the tribal elites – aka the dealers – lose control of trade flows and price data, their profits will suffer. Hence it is entirely possible the banks will win this fight, given their political muscle.
But it is also easy to imagine a scenario where the DoJ probe turns out to be a real tipping point that could finally break the dealers’ control over the markets. After all, at the start of this decade, few would have guessed that a start-up in St Albans would end up shaping the markets so much. What will happen in the next eight years – or eight months – seems even more unpredictable, given the battle under way, with or without that DoJ probe.
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