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Mar 31, 2008

Celtic controversy: CFD disclosure in Ireland

In the Irish Republic, CFDs are big news for the wrong reasons, but disclosure rules are set to change

IROs use different techniques to keep an eye on their company’s share register. Market intelligence firms, newswires and old-fashioned detective work all come in handy. IROs prefer not to rely on the media, but the growth in secretive stake building on the Irish Stock Exchange (ISE) – often through derivatives called contracts for difference (CFDs) – is producing some unwelcome surprises in the press.

A recent report in the Irish Independent had Ned Sullivan, chairman of major retailer Greencore, riled. The story claimed that Exista, an Icelandic investment company, had built up an 8 percent stake in Greencore using CFDs. Other media outlets picked up on the story and the resulting speculation sent Greencore’s share price on a brief roller-coaster ride.

At Greencore’s annual general meeting on February 13, Sullivan admitted there had been a change in the share register and attacked the impact of CFDs on the ISE. ‘If people have built up an interest through CFDs, I don’t think that is in the interests of a fair, functioning market,’ he said.

Secret stakes
CFDs are future contracts that allow the holder to benefit from changes in share prices without needing to own the underlying stock. Sellers of CFDs, however, usually buy the underlying stock to hedge their position, and then give the holder the option to acquire the equity in the future. In this way, holders of CFDs can obtain a ‘synthetic stake’ that is not governed by the transparency rules applicable to equity stakes.

Currently, CFD holders of Irish shares must disclose their position once a takeover has been launched – the same situation that exists in the UK. But disquiet over CFDs has caused the Financial Services Authority (FSA), the UK’s financial regulator, to conduct a consultation period on the instruments. This consultation closed in February, and a policy statement is expected between July and September this year.

Given the similarities between the UK and Irish capital markets (see The market explained, below), the Irish Financial Services Regulatory Authority now plans to implement the recommendations of the FSA, says Daryl Byrne, head of corporate listing at the ISE.

During a consultation process of its own, the ISE wrote to all of its listed companies and sponsors to ask for their views on CFDs. ‘The majority of respondents said there is a problem and suggested that the ISE should mirror the regulations implemented in the UK,’ states Byrne.

Options, options
The FSA’s consultation paper asked the UK market to consider three possible options: one, do nothing; two, require disclosure unless the holder has taken steps to preclude itself from having influence over the underlying shares; or three, implement a general disclosure regime similar to the requirements of the UK’s Takeover Panel. This requires a CFD holding to be disclosed once it passes a particular threshold (5 percent, 10 percent, 15 percent, or some other proportion).

During its own consultation, the ISE put these options to its stakeholders, and found there was a slight bias toward option two. This is unlikely to be implemented, however, as the FSA has been lobbied strongly to implement a fourth option, in which equity and CFD holdings are treated exactly the same – and there is a good chance this route will be adopted.

But the FSA’s report is not expected until the summer. Until then, Irish IROs can expect the press to throw up a few more unexpected surprises.

The market explained

The Irish Stock Exchange (ISE) can trace its roots back to 1793, when the Irish government set up a trading floor in Dublin. But the exchange in its modern guise has existed only since 1995, when it broke away from the International Stock Exchange of Great Britain and Ireland.

Despite this split, the ISE has many similarities to the capital markets in London. There is a main market, known as the Official List, which requires detailed conditions for listing, such as a three-year trading record and the placement of at least 25 percent of shares in public hands. There is also a junior market, the Irish Enterprise Exchange (IEX), which requires no specific admission criteria, no trading record and no minimum number of shares to be held by the public.

The IEX has modeled itself closely on London’s Alternative Investment Market (AIM) to encourage dual listings and prevent business from slipping across to the UK, explains Daryl Byrne, the ISE’s head of corporate listing. ‘AIM in London and NASDAQ in the US are attractive venues for small to medium-sized companies,’ he says. ‘Following a consultation with the market, therefore, we launched IEX in 2005 with a regulatory model based on AIM. The IEX started with just eight companies, and now has 30 listed, of which 28 are also listed on AIM.’

But growth has been hard to come by in recent months. Turbulent global markets have hit Ireland particularly hard, with the ISE down 27 percent last year. In addition, the exchange has managed only one new listing in the last six months.

Whether things improve in Ireland is down to global conditions, says Byrne. ‘There are a few firms in the pipeline, which will list if equity markets pick up over the coming months,’ he adds.