Why Wall Street Traders Aren't Rejoicing (Yet) Over Volcker Rule

(Bloomberg) -- Wall Street has long derided the Volcker Rule, complaining it’s so complex that traders would need to be psychoanalyzed to comply.

Now, banks are poised for a break, as authorities overhaul the fine print. Still it’s not exactly what traders wanted: A return to the golden era before 2008, when they could make big, bonus-boosting bets with their companies’ money.

After the Federal Reserve and other agencies proposed changes Wednesday to the Volcker Rule, analysts and former regulators rolled out their predictions on the impact. It will probably make compliance cheaper and easier for many firms, especially the smallest. But the revised regime won’t significantly ease a ban on risky trading or expand the activities allowed -- at least for now. Regulators hinted that more changes may yet come.

“It’s a recognition of how complicated and burdensome complying with the rule has been,” said Mike Alix, a former Fed official who’s now a partner at PricewaterhouseCoopers. The idea is to overhaul but not undermine the measure, he said. It’s “more of an attempt at clarification rather than relaxation.”

Read more: Morgan Stanley’s Gorman welcomes Volcker Rule’s easing

The biggest win for Wall Street was eliminating part of the rule long ridiculed by bank leaders including JPMorgan Chase & Co. Chief Executive Jamie Dimon. In 2012, he singled out what’s known as the intent test -- a requirement that trades be done to help clients, not to bet the bank’s money on market moves. Every trader would need to be flanked by a lawyer and a psychologist to comply, Dimon quipped.

New Threshold

The new proposal would instead start by focusing on whether the bank has labeled the security a trading asset on its balance sheet. Firms have long had to make such determinations for their books kept under U.S. Generally Accepted Accounting Principles.

Yet that replacement would likely expand the rule’s reach to more securities. So to limit the impact, the new test would only apply to trading desks that accumulate more than $25 million in losses and profits in a three-month period. Big banks will still find themselves crossing that threshold. Goldman Sachs Group Inc., for example, made $200 million in one day in February when volatility in markets spiked, CNBC reported last week.

The main benefit is that it’s based on accounting standards banks are already using anyway, said Jai Massari, a partner at law firm Davis Polk & Wardwell LLP.

“Is it a better test? Maybe,” she said. “The original version was too hard to do.”

Giving Leeway

The proposal also seeks to address another complaint by banks: The Volcker Rule originally prescribed complex calculations for demonstrating that client demand is the driving force for a firm’s inventory. Banks argued the math relied too much on historical data and didn’t allow for changes in market conditions.

Under the draft unveiled Wednesday, they must still adopt a methodology that can be presented to regulators, but it will probably give firms more flexibility to set desks’ risk limits. Still, that probably won’t enable traders to make bold bets, because sudden tweaks to limits will draw scrutiny.

Letting a bank design its own methodology isn’t necessarily that big of a break, said Michael Bailey, a principal at Deloitte’s advisory arm. “You could come up with new ways of setting limits, but still need to have a policy,” he said. “In first reading, it doesn’t seem that different.”

Smaller firms are emerging, once again, as the biggest winners. Last week, they got relief from Congress in a bill easing rules for oversight including stress tests. Now, the Volcker proposal would let them off the hook on most of its complicated tests and reporting requirements.

“But even for the largest firms there are opportunities to save money on compliance under the proposal,” said PwC’s Alix.

More Sought

Some Wall Street firms had lobbied hard for tweaks to the rule’s ban on ownership of private equity and hedge funds, which the proposal Wednesday didn’t address much. It extended an exemption on ownership of some funds by another year while contemplating further changes.

“I view this proposal as an important milestone in comprehensive Volcker Rule reform, but not the completion of our work,” said Randal Quarles, the Fed’s vice chairman for supervision.

Paul Volcker, the former Fed chairman who pushed for the restrictions on trading soon after the financial crisis, welcomed the efforts to simplify compliance without undermining core principles.

“I trust the final rule will strongly maintain that position by, as intended, facilitating its practical application,” Volcker said.

©2018 Bloomberg L.P.