Volcker Rule Approved By All 5 Regulators Signals Crackdown on Wall Street Banks

Search form

Volcker Rule Approved By All 5 Regulators Signals Crackdown on Wall Street Banks

Volcker Rule Approved By All 5 Regulators Signals Crackdown on Wall Street Banks
Wed, 12/11/2013 - by Justin Baer and Julie Steinberg
This article originally appeared on The Wall Street Journal

A broad new government rule to limit risk-taking by Wall Street will force banks to rethink virtually every aspect of their trading activities, setting the stage for more tumult at the largest U.S. financial institutions.

The so-called Volcker rule, approved by five financial regulatory agencies on Tuesday, could lop as much as $10 billion total in yearly pretax profit from the eight largest U.S. banks through lower revenue and higher compliance costs, according to estimates from Standard & Poor's.

The 953-page edict, part of the 2010 Dodd-Frank financial overhaul, codifies and restricts the way banks trade securities. It curbs banks' ability to bet with their own capital and forces them to draw bright lines separating trades for clients from trades to limit their risks and so-called proprietary bets.

Named for Paul Volcker, the former Federal Reserve chairman, the rule extends the government's reach into Wall Street's most profitable core. Proprietary trading helped fuel the financial-services industry's climb to dizzying heights in the years leading up to the financial crisis—and created millionaires within the biggest banks.

The rule "will help the stability of the broader economy" by restoring trust and confidence in banks, Mr. Volcker told The Wall Street Journal Tuesday.

Goldman Sachs Group Inc. has the most at stake with the new rule, said analysts, who noted that Goldman generates a higher percentage of revenue from trading and investments than rivals such as Morgan Stanley.

Executives at the large banks spent Tuesday poring over each passage of the final rule, hunting for details that will help them formulate their responses to the provision. Few bankers spoke openly about the rule, which goes into effect on April 1, or its possible impact. Privately, though, many noted that much still depended on how the regulators interpreted—and enforced—it.

Critics have argued that proprietary trading didn't cause the crisis, and that limiting banks' ability to take risks to fulfill clients' needs could make markets volatile. But the 2012 revelation of a multibillion-dollar trading loss at JPMorgan Chase, orchestrated by an employee dubbed the "London whale," swung momentum on the side of regulators.

The Volcker rule's approval comes at an uneasy time on Wall Street. The biggest banks already have been buffeted this year by a slowdown in trading by investors, while a jump in interest rates has slowed their mortgage machines. Banking jobs and compensation are down sharply from precrisis levels. The limits imposed by the rule are expected to weigh on the industry even more.

Wall Street firms trade in a number of ways. They make markets to help clients buy and sell stocks, bonds and other securities. The firms earn a commission on those trades but also can profit as the value of those securities moves up and down. Banks maintain stockpiles of securities on hand to help facilitate those trades and hedge the risks that accompany holding various assets that can fluctuate in value.

Much of that will draw more regulatory scrutiny. The Volcker rule limits banks' ability to trade with their own cash, restricts them from investing in risky hedge and private-equity funds and imposes rigorous compliance requirements on the firms.

Banks will be able to continue to engage in trading activities on behalf of clients, or market making, but they will need to provide clear evidence to regulators that those activities don't cross the line into proprietary trading. They also will be able to bet their own money on government bonds.

At Goldman, about 25% of its annual revenue is "at risk from Volcker," according to a research note by FBR Capital Markets. FBR noted that Goldman generates about 50% of its revenue from trading, and an additional 17% from direct stock and debt investments and investments in funds. Through the first nine months of 2013, Goldman had $25.4 billion in net revenue.

Morgan Stanley, which struggled in recent years to match Goldman's trading results, chose a different path in the wake of the crisis. A push into wealth management, through the acquisition of Citigroup Inc.'s Smith Barney brokerage, left Morgan Stanley less dependent on the capital markets than its traditional rival.

JPMorgan, Bank of America Corp. and Citigroup—megabanks built through acquisitions—each have their own sizable trading business that must come under Volcker compliance.

Even as big firms fought to weaken the rule, they prepared for it. Goldman has moved to shutter two stand-alone proprietary-trading desks and is winding down its investments in hedge funds. Morgan Stanley's proprietary-trading team, called PDT, or Process Driven Trading, left the firm last year.

Trading in general has languished in recent years. In all, there has been a 25% to 30% drop in the number of traders at big banks since 2007, said Michael Karp, chief executive of financial-recruiting firm Options Group. Many of those traders have gone to hedge funds, family offices and asset managers. A high-ranking trader in 2007 could expect to make $2 million, he said, and $1.3 million to $1.5 million today.

Wall Street executives will continue to push for ways to soften the impact to their businesses even as they interpret the words found in the final rule and adapt. Bank stocks were mixed on Tuesday, with Morgan Stanley, Goldman Sachs and JPMorgan edging higher, while Bank of America and Citigroup closed down.

"I sat in the middle of a trading room for the first 28 years of my career, and it's very hard to distinguish between market-making and proprietary trading," said Thomas Strauss, vice chairman of Cowen Group Inc. and a former president of Salomon Brothers. "In the end, you need risk takers."

Originally published by The Wall Street Journal

Article Tabs

Sacramento is playing host to the Occupy National Gathering just after 99Rise's state-long march ended there to protest the influence of big money in politics.

Companies that invert get all the benefits of operating in the U.S. – including purchases financed by taxpayers, while not supporting the government whose services, laws and workforce enable their profits.

America's foundations and wealthiest donors give only a small proportion of their total donations to local and grassroots organizations – furthering the divide between elite institutions and everybody else.

Former CEO Artie T. offered good benefits and fair pay – which is why employees are striking and customers are boycotting the market chain across the northeast, demanding to get him back.

The Coalition for Court Transparency, which advocates greater openness and accountability in judicial branch, launched a campaign to install TV cameras in the chambers of the Supreme Court.

From the Trans-Pacific Partnership to the Transatlantic Trade and Investment Partnership to the Trade In Services Agreement, massive trade deals are being advanced in coordination with a militarized police state.

Posted 5 days 4 hours ago

A few days after thousands marched on downtown Detroit last weekend, the city suspended mass water shutoffs for 15 days – leaving more than 15,000 households already disconnected.

Posted 5 days 4 hours ago

When a journalist in a news article refers to a woman as “strident,” you know what you’re reading is a hit piece – and that's what the New York Times produced about Occupy Wall Street activist McMillan.

Posted 6 days 4 hours ago

Reporting that CEOs in the U.K. earn 162 times more than the average worker, the High Pay Centre calls on government to put immediate caps on executive salaries.

Posted 6 days 5 hours ago

With 400,000 members and 85,000 retirees, SEIU 1199 is among the biggest unions to sign up so far for the People's Climate March in New York in September.

Posted 5 days 4 hours ago
David Everitt-Carlson in Tompkin's Square Park, February 26, 2012.

At the Heart of An Occupation is photographer Stacy Lanyon's photo journal of the people who comprise Occupy Wall Street. On June 1, she presented David Everitt-Carlson in his own words.

Putting Sorkin’s Occupy Wall Street Critique in a Larger Historical Context

In “Occupy Wall Street: A Frenzy That Fizzled,” Andrew Ross Sorkin leaped into the ongoing frenzy, which has hopefully fizzled, of proclaiming the death of Occupy as thousands of people are taking to the streets.
 

Dear Secretary Clinton: Reject the Keystone Pipeline

The nation’s top climate scientists sent a letter to Secretary of State Hillary Clinton stating that approval of the Keystone XL Pipeline could cause irreparable climate impacts.

Battle Over Coal Exports Further Divides the West

In Washington and Oregon, people are turning out in force to protest the coal industry’s plans to send millions of tons of dirty fuel through their backyards.

Once oligarchs achieve unchecked economic and political power, as they have in the United States, the citizens become disposable. Oligarchs do not believe in self-sacrifice for the common good: they are the cancer of democracy.

Sign Up