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October 18, 2005
Funds could win recompense as FSA probes trade
A large stock trade in June by an unnamed London bank is believed to have become the subject of an investigation by the UK Financial Services Authority, and could see hedge funds adversely affected win compensation if market manipulation is found.
The primary trade, conducted on the London Stock Exchange (LSE), is believed to have involved stock in a large oil company. Given the oil and gas sector's 21.14% weighting in the benchmark FTSE 100 stock index - and the connection between the LSE trading price and expiry price set for Euronext.Liffe derivatives - the trade also hit Euronext.Liffe-traded futures and options on the index, just as their expiry approached on Friday, 17 June.
"People could not believe what had happened." one trader said, "we expired 2% further away from where the market has ever traded at any stage."
Partly because the activites occurred on both Euronext.Liffe and the LSE, and partly as the firm is understood to have held positions in each market, the FSA has become involved.
Hector Sants, FSA director for wholesale business, said the exchanges had received a "number of complaints following volatility in the June 2005 expiry."
"Regulated firms are reminded of their obligation to behave reasonably throughout the expiry auction and consider carefully the effect their actions could have on the market.", he said.
The trade hit existing hedge funds, and has forced at least one to move investors' allocations to cash - effectively putting the business into hibernation - until the matter is cleared up.
It is unclear which LSE-listed oil stock was involved, but with Brent Crude's recent fortunes, BP and Shell have come to represent 10.3% and 9.3% of the FTSE respectively. Sharp moves in either could affect expiry prices of index options.
There was no claim of any fault on the part of either Liffe or the LSE. Nick Carew Hunt, market secretary at Euronext.Liffe said some changes had been made to the expiry process since June. He added that the link between LSE and futures' and options' expiry prices was a "crucial link for bona fide arbitrage purposes."
One trader said there were " huge block trades (of Shares) going through, trades of around £25m of BP shares," during the five minutes auction. While Carew Hunt said there was a "massive amount of cash business" done in the June expiry auction, he added that the £1.27bn that went through was still far exceeded by the September auction's £2.93bn. It is believed that stock trader may also have been active in the derivatives markets. The FSA declined to confirm an official enquiry was underway.
-News from Issue60, October, Hedge Funds Review-
Posted by su at October 18, 2005 12:06 PM