The Volcker Rule Ban on Prop Trading: A Step Closer to Reality (2024)

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The Volcker Rule Ban on Prop Trading: A Step Closer to Reality? ›

The Volcker Rule is one of the more controversial pieces of legislation to emerge from the financial crisis. Attached to the Dodd-Frank Act, the rule was intended to limit banks' ability to make speculative investments that do not benefit their customers.

The Volcker rule prohibits banks from engaging in proprietary trading activities. Proprietary trading is defined by the rule as a bank serving as a principal of a trading account in buying or selling a financial instrument.

The final rule prohibits banks from engaging in short-term proprietary trading of certain securities, derivatives, commodity futures and options on these instruments, for their own account. The final rule also imposes limits on banks' investments in, and other relationships with, hedge funds or private equity funds.

The Volcker Rule was part of the Dodd-Frank Act enacted into law by the Obama administration in 2010 as a response to the Global Financial Crisis. It prohibits banks from engaging in proprietary trading, or from using their depositors' funds to invest in risky investment instruments.

The objective of the Volcker Rule is to stop all proprietary trading (which is defined quite broadly) by commercial banks (such as HSBC) i.e. to cease any risky trading by banking institutions that has no benefit to its customers.

The Volcker Rule generally restricts banking entities from engaging in proprietary trading and from owning, sponsoring, or having certain relationships with a hedge fund or private equity fund.

The Volcker Rule is section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. It places strict limitations on federally insured depository banks from investing in stocks and other securities with the bank's own money. This is known as proprietary trading.

The Volcker rule generally prohibits banking entities from engaging in proprietary trading or investing in or sponsoring hedge funds or private equity funds.

A bank may be excluded from the Volcker Rule if it does not have more than $10 billion in total consolidated assets and does not have total trading assets and liabilities of 5% or more of total consolidated assets.

The Volcker Rule consists of two major parts: rule preventing banking institutions from partaking in proprietary trading from their own funds and limiting banking institutions from investing in hedge funds or private equity funds.

Do banks still do prop trading? ›

Also, “prop trading” in the directional sense barely exists at large banks anymore. They can still take their own positions for risk-management purposes, but not to earn a profit (with a few exceptions).

On December 10, 2013, the Volcker Rule regulations were approved by all five of the necessary financial regulatory agencies. It was set to go into effect April 1, 2014. The final rule had a longer compliance period and fewer metrics than earlier proposals.

During his tenure as chairman, Volcker was widely credited with having ended the high levels of inflation seen in the United States throughout the 1970s and early 1980s, with measures known as the Volcker shock. He previously served as the president of the Federal Reserve Bank of New York from 1975 to 1979.

The Volcker Rule does apply to every foreign entity that directly or indirectly maintains a bank branch or agency in the United States, or controls a commercial lending company.

Loosely put, the Rule defines a covered fund as anything considered an investment company in the Investment Company Act, including private equity and hedge funds, as well as commodity pools with certain exclusions, and funds sponsored by a US banking entity where the affiliate holds ownership interests.

Section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act added a new section 13 to the Bank Holding Company Act of 1956 ("BHC Act"), commonly referred to as the Volcker rule, that generally prohibits insured depository institutions and any company affiliated with an insured depository institution ...

Proprietary trading (also known as prop trading) occurs when a trader trades stocks, bonds, currencies, commodities, their derivatives, or other financial instruments with the firm's own money (instead of using depositors' money) to make a profit for itself.

An example of proprietary trading is when a financial institution, such as a hedge fund, uses its own capital to buy a large number of shares in a company, anticipating the stock price will rise based on its internal research. If the stock price increases, the firm sells the shares at a profit.

Proprietary trading occurs when a financial institution carries out transactions using its own capital rather than trading on behalf of its clients. The practice allows financial firms to maximize their profits, as they are able to keep 100% of the investment earnings generated by proprietary trades.

Principal Trading, often referred to as proprietary trading, is a trading strategy employed by financial institutions where they use their own capital to execute trades in various financial markets. The primary objective of Principal Trading is to generate profits directly from market movements.