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Will the Dodd Frank prop trading ban live up to its purpose?

Loopholes in the law and ingenuous bankers will get the better of regulators even as they seemingly give into the law by shutting down proprietary trading desks.

April 13, 2011 | Arush Chopra

The Dodd Frank Act, a sweeping reform of the US financial system that banned proprietary trading or transactions made on behalf of the bank rather than its customers,  had caused much backlash from the financial services lobby. Banks cried foul of being over regulated saying that this ban will only add to their already growing pain caused by a lack of loan demand and fee based income.  

In the end most had no option but to comply: Goldman Sachs, the fifth- biggest U.S. bank by assets, closed two trading units that made bets with the firm’s own capital, JP Morgan closed its desks and so did many others. However, is it really a case of banks bowing down to regulatory pressure and giving up lucrative business or that of them disguising prop trading and continuing with it by giving it a new name?

Morgan Stanley, the world’s top merger adviser, for instance, converted its remaining proprietary-trading group into an electronic client-trading unit and is naming it Equity Trading Lab, while JP Morgan’s Chief Investment Office, advertised largely as a hedging operation, is in fact making massive bets with the bank’s capital, as Michael Lewis, author of “The Big Short” points out in this article.

The way the rule is worded leaves room for this level of ingenuity, of which there isn’t a dearth among the big banks, and regulation is quickly being bypassed via loopholes. “Unless otherwise provided in this section, a banking entity shall not engage in proprietary trading,” the rule states. “The term ‘proprietary trading’ means the act of a (big Wall Street bank) investing as a principal in securities, commodities, derivatives, hedge funds, private equity firms, or such other financial products or entities as the comptroller general may dete...

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