Report by Julian Bray, Tradewinds
Date: 1st July 2013
Host: Anil Deshpande, CEO Foresight Ltd
Speaker: Jeremy Penn, CEO, The Baltic Exchange Ltd
Subject: “LIBOR, BDI, Indices, markets and Regulation!”
EU benchmark regulation plans could ‘cloud true market picture’
Baltic Exchange chief executive Jeremy Penn says the plans offered up by Brussels to regulate financial and commodities markets are ‘very problematic’ and could lead to a ‘conflict of interest’ — but he concedes that his organisation should, and will, improve its processes
Draft European Union (EU) rules to regulate all financial and commodities markets — including freight — involve some “very problematic” proposals that, even if they can be solved, will be costly to implement.
Jeremy Penn, chief executive of the Baltic Exchange, says the thrust of EU proposals to force market benchmarks to be based on actual transactions rather than assessments of sentiment could result in the production of indices that are less accurate than at present.
“If you build benchmarks out of the information that is widely available, you will get the transactions made available that people want you to get,” Penn warned. “You will not get a true picture of the marketplace.”
Last month, it emerged that the European Commission (EC) was circulating a draft framework of rules to tightly regulate all financial and commodities markets in a response to the slew of global price-fixing scandals from the London Interbank Offered Rate (Libor) to oil markets. This week, charges were brought against 13 banks over credit-default swaps.
Many were surprised by the scope of Brussels’ draft rules, which was perceived by some market participants as “gold-plating” the guidance from the International Organisation of Securities Commissions (Iosco), the body that sets global standards of regulation.
Penn is currently arguing that the procedures that underlie calculation of the Baltic’s indices are largely secure and severely restrict the scope for market abuse along the lines of rate-rigging scandals that have dogged other markets.
“We all know about Libor but let’s be clear, that was fraud,” he said. “Most of the problems with Libor were out-and-out fraud and I can’t really see why you necessarily need to regulate. There are prosecutions taking place now which are using criminal law that was in place before.”
Penn further warns that Brussels’ proposals could drive away contributors to benchmarks if potential penalties are threatened to them rather than the exchanges, while the added cost of compliance will further increase barriers to entry.
“That’s a shame, and not a very ‘European’ idea,” Penn said.
He claims current discussions with Brussels are at “a very early stage”. But the draft is “very prescriptive and it does focus on one aspect of the Iosco guidance that we find very problematic”.
IOSCO remains defiant
Iosco suggests that actual transactions are the best way to produce a benchmark.
“My view on this is not limited to shipping but applies to all commodities markets,” Penn said. “All commodities markets are private and opaque, and the transactions you know about only ever represent a small part of the whole marketplace.
“There seems to be some vague idea on the part of regulators that if you now just base a benchmark on actual transactions, it is more honest and accurate — but it won’t be.”
Iosco’s principles will be implemented worldwide so there will be no hiding place for the production of benchmarks.
“You won’t be able to park yourself in Singapore and produce benchmarks there,” Penn said. “Everyone will have to raise their game and raise their standards.”
Penn’s comments came in a speech at this week’s International Maritime Industries’ Forum in London, as attention mounts on the impact of tightening regulations on worldwide markets.
Baltic panellists are required to give an assessment of rates for a particular defined vessel on each particular route “right now”.
Penn said: “Panellists should consider all of the information in front of them: the fixtures they have seen today and yesterday, the fixtures they are negotiating, the sentiment of the market, the conversations they are having, and to draw all that information together with what position ships are in, known stems, and information about fixtures that have been done.
“They also should not necessarily take things at face value. Out of all of that, give a view of the expert view of the prevailing market rate. We think that is a very good way of going about it.
“Shipping is uniquely able to call on the resources of competitive shipbrokers who are not investing in the market. We only take onto our panels those who are not investing in the market — and the net result is that there is almost no conflict of interest.”
Penn concedes that the Baltic should, and will, continue to improve its processes. Despite other financial markets having a reputation for being more sophisticated, the Baltic’s “Manual for Panellists” has emerged as being ahead of the game.
“We were probably 20 years ahead of the game producing the manual,” said Penn. “What you discover is that many other market benchmarks don’t define themselves very well: they don’t explain how they are run, who is in charge, who is responsible, how changes are implemented, or indeed what the fundamental rules are.
“Nonetheless, it has been around for a while and is due for review.”
Penn warns than it will be costly to implement regulatory changes, regardless of their scope.
‘Cost a lot of money’
“It will cost us quite a lot of money to review our processes, redefine them in some instances, and then meet the review and audit requirements on an ongoing basis,” he insisted.
With net profit of £1.195m on revenues of just over £6m last year, backed by a balance sheet of more than £30m, the Baltic has “outstanding financial strength”, which gives it confidence to handle these challenges, Penn says.
“By not only owning our building but also having enough money to always do the right thing is very important,” said Penn.
“We have enough money to say ‘no’ to anyone around the world — a large shareholder, an important shipping-market participant, a country even.
“We can just say ‘no thanks, we’re not prepared to do that’. I think that gives us a huge amount of strength and a huge amount of power in our independence.”