27 February 2007

finextra: Hedge funds eye MTS platform

Following reports that powerful hedge funds are trying to gain direct access to pan-European bond exchange network MTS, the European Primary Dealers Association (EPDA) is warning that third party participation in the electronic markets could undermine the current structure and introduce greater risks.

Currently access to the MTS trading platform is limited to investment banks. But according to a recent FT report, funds such as Citadel and Vega are trying to gain direct access to the market, rather than go through dealers to trade euro-zone government bonds.

In a discussion paper circulated Tuesday, the EPDA - a trade body representing investment banks - warns that opening up the market to third parties could undermine the current market structure and introduce greater risks.

'While issuers have influence over their primary dealerships, primary dealers may not be in a position to exercise control over third parties,' says the paper. 'They would be squeezed between the commercial pressure of their prime brokerage business and the inability to regulate the activity of third parties trading in the primary dealers' name. Lack of control could give rise to potential misbehavior by rogue traders.'

The EPDA says it cautions against the implementation of third party access 'without consulting the industry at large and, in particular, the primary dealers whose services are crucial to the smooth functioning of the government debt markets'.

Italy-based MTS has not yet decided whether to allow third parties to access its platform, but the group has reportedly set up a committee to consider admitting hedge funds as members.

The FT report says the issue shows how powerful the growing hedge fund industry is becoming and also highlights the dispute over the current structure of the euro-zone government bond markets.

Some governments in the region impose rules on banks that force them to use the MTS platform. Supporters argue that these restrictions are necessary to ensure there is enough liquidity in the fragmented government bond market. But research released last year by interdealer broker Icap showed the regulations have held back the development of the bond market in Europe and costs Europeans some EUR119 million in welfare gains a year, as well as creating unnecessary systemic risks and hampering market liquidity.

© finextra