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Derivatives rules under review
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October 1, 1998: 1:50 a.m. ET
Near-collapse of Long-Term Capital prompts study by regulators at CFTC
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NEW YORK (CNNfn) - U.S. futures regulators are studying the near-collapse of Long-Term Capital Management to see whether the hedge fund violated trading rules or whether new rules are needed.
The Commodity Futures Trading Commission is looking at the scope of its rules and at LTCM's compliance to see "whether our regulations are adequate in light of what we have now learned through this episode, and whether any laws or regulations have been violated," Brooksley Born, head of the CFTC, told the Financial Times.
Long-Term Capital operated under CFTC regulations governing "commodity-pool operators," organizations that run collective investment funds trading in financial derivatives.
Born criticized the over-the-counter derivatives industry, saying the LTCM crisis "illustrates the lack of transparency of the OTC derivatives market … the unrestrained lending that's going on in that market and the lack of adequate prudential controls which may be involved in that market."
The CFTC regulates the futures industry, but the OTC segment of the market has been largely exempted from oversight, on the grounds that it involves one-to-one contracts between sophisticated financial institutions, the Financial Times said.
Born's comments came on the eve of testimony by Federal Reserve Board Chairman Alan Greenspan and other financial regulators before a congressional committee in Washington on Thursday.
A consortium of 14 global financial institutions patched together a $3.6 billion bailout of the beleaguered hedge fund last week, after LTCM lost heavily in betting on the direction of interest rates.
The Federal Reserve Bank of New York coordinated the rescue deal, which included commercial and investment banks such as Goldman Sachs, Merrill Lynch, Morgan Stanley Dean Witter, Travelers Group and UBS Securities, among others.
Without the capital infusion, LTCM could have been forced to liquidate large portions of its holdings to meet minimum capital requirements, which in turn could have sent ripples of turbulence throughout the global financial pool.
The 14 institutions formed a new board of directors for the firm on Wednesday. The group also founded a new oversight committee which will take charge of the fund's investment strategy, capitalization structure, credit and market risk management and other important decisions.
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