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The Resource for the Global Finance Profession

Volcker Rule Debut: What Treasurers Need to Know

  • By Konstantine Kastens, AFP Public Policy Analyst
  • Published: 2013-12-17

A new rule prohibiting FDIC-insured banks from trading securities to profit from their own accounts cleared the five federal banking and securities regulators on Dec 10.

Volcker Rule supporters say the ban will reduce the size of systemically important financial institutions and eliminate the possibility that tax-insured FDIC protection could be used to cushion against risky behavior. In a statement, President Obama commended its passage last Tuesday. “Our financial system will be safer and the American people are more secure because we fought to include this protection in the law,” President Obama said.

Opponents—including many treasurers and finance executives—say the rule will increase borrowing costs.

“U.S. regulators have ignored repeated warnings from corporate treasurers that the complicated Volcker Rule, which approaches 1,000 pages in length, will have significant unintended consequences, including increased cost of capital and reduced liquidity, which are needed by American businesses,” said Jim Gilligan, CTP, assistant treasurer of Great Plains Energy Inc. and Chairman of the AFP Government Relations Committee.

Some industry representatives expressed relief that the rule was finalized after three years of deliberation, and others have reserved judgment until final implementation. “What’s going to be important is the details, and the details will include the documentation to justify or demonstrate [the banks]... should receive exemptions,” said John Gerspach, CFO of Citigroup.

The Volcker Rule takes effect July 21, 2015. The bulk of enforcement responsibilities will reside with the CFTC, SEC and OCC.

Named for former Federal Reserve Chairman Paul Volcker, who first suggested it during the crafting of Dodd-Frank, the Volcker Rule mandates that banks rid themselves of trading desks that engage in proprietary activity.

Hedges, Market-Making Allowed

Two caveats from Congress led to the three-year hold-up: that the proprietary trading bar  interfere with neither hedging, nor “market-making.” Bank hedges will have to be itemized to account for specific risks, ending the practice of hedging broadly-grouped risk pools. Industry representatives had urged policymakers to retain hedging in the final rule, citing its importance for market liquidity.

The Volcker Rule also exempts market-making. For bank clients, typically corporate treasury and finance professionals, market-making is a crucial tool ensuring that firms hold certain securities available in inventory to keep markets liquid.

Market-making will face new constraints and required documentation. Banks will need to determine their positions based on historical demand and disclose their analysis and inventory with regulators. Sovereign debt bonds are exempt from market-making limits.

In addition, banks will no longer be able to own or support more than three percent of hedge funds or private equity firms. Compensation practices are also addressed under the final rule, an area given particular scrutiny in recent years. The Volcker Rule outlines that any compensation arrangements for traders not “reward or incentivize prohibited proprietary trading.”



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