he world’s largest banks demanded a wish list of changes to a proposed U.S. ban on proprietary trading, seeking to escalate the lobbying effort against the Volcker rule five months before it takes effect.
In scores of comment letters filed yesterday, bankers and their trade associations said the rule would increase risk, raise costs for investors, hurt U.S. competitiveness and be vulnerable to legal challenge.
“Regardless of how the final rule turns out, it will be a shock to the U.S. financial system, as banking entities will need to take extraordinary measures to attempt to implement it,” Barry Zubrow, executive vice president of JPMorgan Chase & Co. said in a 67-page letter. Goldman Sachs Group Inc. (GS) and Morgan Stanley submitted letters by midnight last night. Mark Lake, a spokesman for Morgan Stanley, and David Wells, a spokesman for Goldman Sachs, said the companies wouldn’t publicly release or comment on the letters.
The rule, named after former Federal Reserve Chairman Paul Volcker, was included in the 2010 Dodd-Frank Act in an effort to restrict risky trading at banks that operate with federal guarantees. Five U.S. regulators released the 298-page proposal seeking comment on how it would affect market-making, liquidity, foreign institutions and private equity and hedge fund investments.
Volcker, 84, defended the rule in his own letter yesterday, challenging banks’ arguments that the rule would hurt markets.
‘Spectacular’ Losses
“The recent years of financial crisis have seen spectacular trading losses in large commercial and investment banks here and abroad,” Volcker said. “Consequently, the stability of important banks was jeopardized, contributing to a financial crisis of historic dimension.”
The restrictions may limit banks’ trading profits -- once a prime source of Wall Street revenue. Banks including JPMorgan, Goldman Sachs and Morgan Stanley (MS) have shuttered or made plans to spin off their proprietary trading groups in anticipation of the rule. Citigroup is following suit, closing down its Equity Principal Strategies business, according to a memo by Derek Bandeen, head of equities for the New York-based bank, and obtained by Bloomberg News.
Standalone proprietary trading cost the six largest U.S. banks a net loss of about $221 million from June 2006 through the end of 2010, according to a July report by the Government Accountability Office.
Fourth-quarter earnings reported last month by the six largest U.S. banks show the industry suffered a third straight quarterly drop in combined trading and investment-banking revenue.
Trading Revenue Falls
Goldman Sachs said its trading revenue fell 25 percent from the third quarter, to $3.06 billion. The bank’s larger New York rivals also announced declines in trading, with Citigroup (C) saying fourth-quarter net-income dropped by 11 percent and JPMorgan, the biggest U.S. bank, announcing that fourth-quarter net income slid 23 percent as investment bank earnings fell by half.
In addition to the large financial firms, non-U.S. banks and governments also filed letters yesterday. Stuart Alderoty, senior executive president and general counsel for HSBC Holdings Plc (HSBA), complained that the proposed rule “would apply not only to transactions with a U.S. counterparty, but also to transactions that have limited connections to the United States.”
“As currently drafted,” Alderoty said, “the proposed rule would limit the ability of our Hong Kong affiliate, which is independently capitalized, to purchase for its own account securities traded on a U.S. exchange, or trade for its own account utilizing a U.S. agent to effect a transaction.”
July Start
The Volcker rule is set to take effect in July even if the rule-making is still in progress, and would include a two-year transition period. The Federal Reserve would then have the ability to issue multiple one-year implementation extensions on a case-by-case basis.
“I can’t see how they would put all of this into effect by July,” said Joseph Engelhard, senior vice president of Capital Alpha Partners LLC. “There’s no way the banks will have all the infrastructure in place so they will have to delay parts even if they keep it similar to how it is.”
The proposal included a series of exemptions for permissible market-making trading, underwriting and hedging transactions. Lawmakers exempted market-making from the rule, along with certain forms of hedging and underwriting, because of concerns that a broad ban on proprietary trading could bring some U.S. and world markets to a halt.
Limit Hedging
“The proposal will severely limit banking entities’ ability to hedge their own risk, thereby increasing rather than decreasing the risk to banking entities and the financial system,” the Clearing House Association, American Bankers Association, Securities Industry and Financial Markets Association, and Financial Services Roundtable said in a joint 173-page letter.
The bank lobbying associations also warned that the cost- benefit analysis in the Volcker rule didn’t meet the standards set in a court case overturning a Securities and Exchange Commission rule last year. The letter referenced the Business Roundtable’s victory against the SEC, which overturned the so- called proxy access rule because of an inadequate analysis of the costs. The U.S. Court of Appeals in Washington agreed with the U.S. Chamber of Commerce and Business Roundtable.
Global Impact
Officials from Canada, Japan, the United Kingdom, and the European Banking Federation sent letters to the U.S. Treasury Department and other regulators saying the measure would harm global liquidity and international cooperation. G-20 leaders have not endorsed the rule, which exempts U.S. government debt but not non-U.S. government bonds.
Regulators should “limit the scope of the rule only to the territory of the United States,” European Union Financial- Services Commissioner Michel Barnier said in a letter to regulators. “Moreover, the current exemption for non-U.S. banks as well as for activities outside of the U.S. would appear very restrictive.”
Michael Williams, managing director of Credit Suisse Securities LLC, warned that the rule could damage the U.S. economy.
“The practical impact of this narrow interpretation is likely to be reduced liquidity in U.S. markets and securities, migration of trading activities to other financial centers outside of the United States, and the development of alternative trading platforms outside of the United States, all of which are likely to lead to job losses within the United States,” Williams wrote.
Not all the comment letters opposed the proposed rule. Senators Carl Levin of Michigan and Jeff Merkley of Oregon, the Democrats who drafted the provision, called the proposal from regulators “too tepid” and said it did “not fulfill the law’s promise.”
“Instead, the proposed rule seems focused on minimizing its own potential impact,” the lawmakers said.
To contact the reporters on this story: Cheyenne Hopkins in Washington at chopkins19@bloomberg.net; Silla Brush in Washington at sbrush@bloomberg.net; Phil Mattingly in Washington at pmattingly@bloomberg.net
To contact the editor responsible for this story: Maura Reynolds at mreynolds34@bloomberg.net
