The Volcker Rule: Comments and Questions

by Larry Doyle, Sense on Cents

The big news on Wall Street today is the reemergence of the Volcker Rule intended to make our banking system safer from the perils of proprietary trading activity.

The question that America will hear bandied about until it makes your head spin is “What exactly defines proprietary trading?”

Comment 1

My ‘sense on cents’ response is that not unlike pornography, proprietary trading might be hard to define but you know it when you see it. Let’s review and cross-examine The Wall Street Journal’s take on this newly proposed rule which attempts to accomplish the following:

. . . bans banks from making bets with their own money and limits their ability to invest in certain trading vehicles, such as hedge funds and private-equity vehicles.

LD’s cross: I can tell you that proprietary trading is NOT a trader who makes markets for customers selling one security, say a 10 year Treasury, and then buying another, say a 5 year Treasury, to manage his risk. Proprietary trading is more aptly described as a trader or group of traders off in the corner, allocated balance sheet and capital, and typically using highly quantitative strategies (black box) to play the market. JP Morgan had one such group engaged in this very sort of activity that was dismantled when talk of this rule was first broached. The “London Whale’ trade emanated from within the firm’s chief investment office.

Comment 2

One other question. Does this Volcker Rule apply to the regulator FINRA which in its most recent annual report indicates that it has 20 per cent of its own internal investment portfolio in alternative investments? What’s good for the goose should be good for the gander, no?

The approval would bring to an end a 2½-year effort to complete the 2010 Dodd-Frank provision.

LD’s cross: Let’s see here. Dodd-Frank, including a mandate to implement a rule against proprietary trading, was passed in 2010. What year is it? Oh yeah, 2013. Two and a half years? Those at the WSJ may want to check their math.

What does it say about our government and financial regulators that it takes them three and a half years to implement a regulation that is presented as a cornerstone of financial regulatory reform legislation? It says that many of the participants and related parties were and still are warmly and snugly in bed with each other.

Comment 3

Multiple new requirements in the recent copy of the rule reviewed by the Journal are designed to discourage traders from hunting for loopholes to engage in proprietary trading.

LD’s cross: Wall Street firms employ armies of lawyers to find and/or create just such loopholes. The fact that regulators have told firms that this rule will not be enforced until 2015 means that these lawyers will be very busy. Give a Wall Street lawyer a year’s head start and there are very few regulators that might have a chance of catching up.

Comment 4

Bank chief executives, meanwhile, will be required to “attest in writing…that the banking entity has in place processes to establish, maintain, enforce, review, test and modify the compliance program” set up for the Volcker rule.

LD’s cross: “Attest in writing?” Let’s see here. What was the last law that required financial executives to attach their name to the integrity of their reports? Oh yeah, Sarbanes-Oxley. The pols, regulators, and financial execs ran roughshod and made a mockery of that Act in the midst of dealing with the crisis. Now we’re supposed to believe that the execs’ signatures are supposed to mean something? Hmmm.

What do you think a 2007 Lehman Annual Report with Dick Fuld’s signature attached might currently fetch on eBay?

In conclusion, the Wall Street oligopoly has the ability to hoard information and will continue to do so. They will profit from that info by allocating their own capital accordingly. How that is defined will be for their lawyers to determine. As much as I believe a Volcker Rule properly drafted and implemented might be marginally helpful in protecting our economy, the MUCH BIGGER ISSUE remains that our banks are still ‘too big to fail.’

Let’s go about dismantling the ‘too big to fail’ banks by reestablishing Glass-Stegall, and the Volcker Rule becomes a moot point. Then we might just have a chance of bringing true free market capitalism back to our shores.

What do you think?

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I have no business interest with any entity referenced in this commentary. The opinions expressed are my own. I am a proponent of real transparency within our markets so that investor confidence and investor protection can be achieved.

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