Fed Planning Credit Default Swap Marketplace

Officials at the Federal Reserve plan to meet with top executives from two commodities exchanges in an effort to create a new marketplace for credit default swaps, one of the most important, controversial and opaque securities traded on the Wall Street, CNBC has learned.


The meeting, scheduled to be held as early as Tuesday of this week at the headquarters of the New York Fed, is expected to clear the way for the creation of a new clearing house, or exchange, where CDSs can be traded with more transparency and with a degree of government oversight.

At the moment CDSs are traded in the over-the-counter market, where traders buy and sell the securities among themselves.

The effort by the Fed is designed to create a centralized market place where CDSs can be traded.

People close to the talks say that the new exchange could be up and running in a matter of weeks.

Credit default swaps are essentially insurance policies against the possibility that a company might default on its debt. The buyer of the CDS pays a premium to the seller for their protection. (Charlie Gasparino breaks the news on CNBC in the accompanying video).

But the securities are controversial; some Wall Street executives say they can be easily manipulated to deflate the value of their stock. CDSs on Bear Stearns and Lehman Brothers spiked tremendously just before both firms' implosions this year.

Other major firms that have seen their share prices fall and finances distressed. For example Morgan Stanley and Goldman Sachs witnessed a sharp increase in the cost of CDSs.

The two exchanges in the running to create the new CDS exchange are the IntercontinentalExchange , also known as the ICE, and the Chicago Mercantile Exchange, or the CME Group .

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The CME's chief executive Craig Donohue has publicly stated that his exchange is ready to start an exchange for CDSs and was merely waiting for approval from regulators, including its primary regulator the Commodity Futures Trading Commission.

But officials at the ICE, headquartered in Atlanta, are making their own push to be the exchange where CDSs are traded. Officials there plan to incorporate as a bank so they can be regulated by the New York Fed if they are chosen, and headquarter their operations in New York.