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Kamakura Blog

  
Jan 19

Written by: Donald van Deventer
1/19/2012 3:22 AM 

This is the seventh in a series of blogs on trading volume and the degree of competitiveness in the credit derivatives market. In this post, we use credit derivatives data from the Office of the Comptroller of the Currency from June 30, 1998 to September 30, 2011 to measure the degree of concentration among commercial bank dealers in the credit derivatives market.  We conclude that the credit derivatives market is very highly concentrated, which increases the probability of collusion and monopoly pricing power.

The first six blogs in our series on trading volume in the credit default swap market focused on the share of dealer-dealer trading, trading volume in all 1,090 reference names reported by DTCC, trading volume and its implications among banking companies, and trading volume in sovereign, municipal and sub-sovereign entities: 

van Deventer, Donald R. “Collusion and CDS Dealer Volume,” Kamakura blog, www.kamakuraco.com, January 4, 2012.

van Deventer, Donald R. “CDS Trading Volume for 1,090 Reference Names,” Kamakura blog, www.kamakuraco.com, January 9, 2012.

van Deventer, Donald R. “Credit Default Swaps and Deposit Insurance,” Kamakura blog, www.kamakuraco.com, January 10, 2012.

van Deventer, Donald R. “Municipal Credit Default Swap Trading Volume,” Kamakura blog, www.kamakuraco.com, January 11, 2012.

van Deventer, Donald R. “Sovereign Credit Default Swap Trading Volume,” Kamakura blog, www.kamakuraco.com, January 12, 2012.

van Deventer, Donald R. “International Bank Credit Default Swap Trading Volume,” Kamakura blog, www.kamakuraco.com, January 18, 2012.

The data used in the first six blogs in this series is from the Depository Trust & Clearing Corporation, downloaded from www.dtcc.com.  In studying the degree of competitiveness in the credit default swap market, we need the share of each dealer in the market place.  Ideally, we would have this data both for all credit default swap transactions outstanding and for all credit default swaps traded over a specific time interval, such as the most recent week.  This data exists in the DTCC credit default swap warehouse, but it has not been disclosed to the public.

As a result, we are forced to use an alternative source. We use instead the quarterly report from the Office of the Comptroller of the Currency entitled “Quarterly Report on Bank Trading and Derivatives Activities.” Historical copies of these reports are available at this link:

http://www.occ.gov/topics/capital-markets/financial-markets/trading/derivatives/derivatives-quarterly-report.html

Total derivatives outstanding are compiled for all commercial banks in the United States from the Quarterly Report of Condition and Income (“call reports”) filed by each commercial bank in the United States, including U.S. bank subsidiaries of foreign banks. In this blog, we use the notional amount of “credit derivatives (over the counter)” to measure the degree of concentration in the U.S. banking market for credit derivatives.  This measure is an approximation to the full data maintained by DTCC because (a) we are measuring notional principal only for transactions booked in U.S. banking entities, not all entities world-wide, and because (b) we have excluded other types of legal entities dealing in the credit derivatives market like Lehman Brothers and Bear Stearns.  We look forward to repeating this analysis once DTCC makes disclosure that parallels that provided by the OCC. 

The OCC Quarterly Report on Bank Trading and Derivatives Activities lists notional principal outstanding both for the top 25 commercial banks in the United States (Table 1) and for the top 25 bank holding companies in the United States (Table 2).  This blog focuses on commercial bank data in Table 1.  A similar analysis can be done using data from Table 2.

Measuring the Degree of Competitiveness in the Credit Derivatives Market

The U.S. Department of Justice website www.justice.gov summarizes the calculation and use of the Herfindahl-Hirschman Index (“HHI”) to measure the concentration in a given market as follows:



Note that a perfectly competitive market place with thousands of competitors with very small market shares would have an HHI index value of 0.  A complete monopoly would have an index value of 100 x 100 =10,000. We now calculate the HHI for the U.S. commercial bank market in credit derivatives.

Herfindahl-Hirschman Index for September 30, 2011

The quarterly OCC report ranks the top 25 commercial banks by derivatives volume. Only 21 commercial banks in the United States had credit derivatives outstanding in the September 30, 2011 listing. They were ranked by notional principal in credit derivatives as follows by dollar amounts in millions:



The total amount of credit derivatives outstanding was $15.659 trillion dollars.  We calculate the market share of the participants in credit derivatives among U.S. banks as follows:



Three institutions, JPMorgan Chase, Bank of America, and Citibank National Association, have market shares in excess of 19% each.  The HHI is the sum of squared market shares (expressed as a percent).  The HHI for September 30, 2011 is 3,014.  This is a very large excess over the 1,800 level at which the Department of Justice considers a market to be concentrated.

Measuring the HHI from 1998 to 2011

We now measure the HHI for each quarter beginning June 30, 1998 until September 30, 2011 to see how the degree of market concentration has varied over time, remembering that we are including only credit derivatives booked at commercial banks.  During this period, the following commercial banks were listed as having credit derivatives outstanding. As is typical of U.S. banking regulatory reports, alternative spellings for the same legal entities were used. This did not affect the calculations that follow, however.

ALLY BANK
BANK OF AMERICA NA
BANK OF AMERICA NT&SA
BANK OF NEW YORK
BANK OF NEW YORK MELLON
BANK OF OKLAHOMA NA
BANK ONE NA
BANK ONE NATIONAL ASSN
BANKBOSTON NA
BANKBOSTON NATIONAL ASSN
BANKERS TRUST CO
BMO HARRIS BANK NA
BOKF NATIONAL ASSN
BRANCH BANKING&TRUST CO
CAPITAL ONE BANK
CAPITAL ONE NATIONAL ASSN
CHASE BANK OF TEXAS NA
CHASE MANHATTAN BANK
CHASE MANHATTAN BANK NA
CHASE MANHATTAN BANK USA NA
CITIBANK N A
CITIBANK NA
CITIBANK NATIONAL ASSN
CITIBANK NEVADA NA
CITIBANK SOUTH DAKOTA
CITIBANK SOUTH DAKOTA N A
CITIBANK SOUTH DAKOTA NA
COMERICA BANK
COUNTRYWIDE BANK NA
DEUTSCHE BANK TR CO AMERICAS
FIA CARD SERVICES NA
FIFTH THIRD BANK
FIRST NB OF CHICAGO
FIRST TENESSEE
FIRST TENESSEE BANK NA
FIRST TENNESSEE BANK NA
FIRST UNION NATIONAL BANK
FLEET NATIONAL BANK
FREMONT INVESTMENT&LOAN
GMAC BANK
GOLDMAN SACHS BANK USA
HARRIS NATIONAL ASSN
HARRIS TRUST&SAVINGS BANK
HSBC BANK USA
HSBC BANK USA NATIONAL ASSN
HUNTINGTON NATIONAL BANK
IRWIN UNION BANK&TRUST CO
JPMORGAN CHASE BANK
JPMORGAN CHASE BANK NA
KEYBANK NA
KEYBANK NATIONAL ASSN
LASALLE BANK MIDWEST NA
LASALLE BANK NA
LASALLE BANK NATIONAL ASSN
LEHMAN BROTHERS COML BK
MELLON BANK NA
MELLON BANK NATIONAL ASSN
MELLONG BANK NATIONAL ASSN
MERRILL LYNCH BANK USA
MORGAN GUARANTY TR CO OF NY
MORGAN STANLEY BANK NA
NATIONAL CITY BANK
NATIONAL CITY BANK OF IN
NATIONSBANK NA
NATIONSBANK NATIONAL ASSN
NORTHERN TRUST CO
PNC BANK NA
PNC BANK NATIONAL ASSN
RBS CITIZENS NATIONAL ASSN
REGIONS BANK
REPUBLIC NB OF NEW YORK
STANDARD FEDERAL BANK NA
STATE STREET BANK & TRUST
STATE STREET BANK & TRUST CO
STATE STREET BANK&TRUST CO
SUNTRUST BANK
SUNTRUST BANK ATLANTA
TD BANK NATIONAL ASSN
TD BANK USA NATIONAL ASSN
U S BANK NATIONAL ASSN
UBS BANK USA
UNION BANK NATIONAL ASSN
UNION BANK OF CALIFORNIA NA
WACHOVIA BANK NA
WACHOVIA BANK NATIONAL ASSN
WELLS FARGO BANK NA
WOODLANDS COMMERCIAL BANK

The value of the HHI from June 30, 1998 to September 30, 2011 is shown in this graph:



Somewhat surprisingly, at a commercial bank level, the HHI index history shows that the index was extremely high in the period from 1998 to 2003, in the early stages of the credit derivatives market.  It is not surprising that a few pioneers dominated the market for credit derivatives at that time, but the peak of the index near 5,000 is an astonishing degree of concentration.  If Lehman Brothers and Bear Stearns had been included in the calculation, obviously the measured HHI would have shown an increase as the number of competitors in the CDS market decreased.  During the last several years, the index has been fairly stable but at a level that still shows a highly concentrated market.

Implications for Regulators and the Department of Justice

The credit derivatives market shows a very high degree of concentration and that high level of concentration has persisted since 1998.  There are only three significant credit derivatives counterparties among U.S. commercial banks as of September 30, 2011.  This raises the possibility of collusion, market manipulation, and monopolistic pricing practices.  Such issues have become important in the Libor market and the market for municipal bonds.  We urge regulators and the Department of Justice to apply maximum scrutiny to the credit derivatives market in the United States, as authorities in the European Union have begun to do.

Donald R. van Deventer
Kamakura Corporation
Honolulu, January 19, 2012

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