Federal regulators will vote tomorrow (Tuesday) on the Volcker Rule, and this latest draft includes stricter language than Wall Street had expected…
The Volcker Rule, proposed by former U.S. Federal Reserve Chair Paul Volcker, is a central provision of the 2010 Dodd-Frank Act reform law. It would stop banks that receive federally insured deposits from engaging in risky trading practices and force Wall Street banks to end or spin off proprietary trading operations. The goal is to prevent future taxpayer bailouts.
Many pundits expected regulators to finalize a relatively toothless rule, full of vague terminology like "hedging" and "risk" and perverse loopholes that could enable another "London Whale" trade in the future (the famous trade in which JPMorgan lost $6 billion in 2012 on a very risky hedge.)
In fact, the original draft planned to leave a huge loophole that allowed banks to engage in a process called portfolio hedging. This allows banks to enter trades designed to protect against losses held in a broad portfolio of assets.
But on Thursday, The Wall Street Journal reported that a stricter version of the Volcker Rule would prevent portfolio hedging.
It's an important distinction – and one that few saw coming, even the banks who lobbied extensively to prevent a rule against portfolio hedging.
Now Wall Street is upset.
And it's pointing the finger at one firm for undercutting big banks' profits…
Who "Ruined" the Volcker Rule for Wall Street
You see, for a long time, regulators couldn't distinguish the difference between prop trading and more important healthy practices like market making. This made the terminology in the original Volcker Rule vague when regulators attempted to define "hedging."
And someone on Wall Street took hedging strategies too far: JPMorgan Chase & Co. (NYSE: JPM).
Federal Reserve Governor Dan Tarullo said last month that the London Whale provided a wakeup call to regulators and placed a bull's eye on portfolio hedging practices.
About the Author
Garrett Baldwin is a globally recognized research economist, financial writer, and consultant with degrees from Northwestern, Johns Hopkins, Purdue, and Indiana University. He is a seasoned financial and political risk analyst, with a focus on stocks, hedge funds, private equity, blockchain, and housing policy. He has conducted risk assessment projects for clients in 27 countries, and consulted on policy and financial operations for some of the nation's largest financial institutions, including a $1.5 trillion credit fund, a $43 billion credit and auto loan giant, as well as two of the largest Wall Street banks by assets under management.
Garrett joined Money Map Press as an economist and researcher in 2011, specializing in alternative strategies with an emphasis on fundamental and technical analysis.