Banking entities subject to the Volcker rule, which seeks to reduce systemic risk by limiting banks’ proprietary trading activity, will face significant compliance challenges, a report from Woodbine Associates has found.
A final Volcker rule was agreed upon in December by the five key US financial regulatory bodies involved in its development, more than two years after it was initially outlined within the Dodd-Frank Act. The rule limits the degree to which banks can trade on their own accounts, although there are exemptions for some market making and hedging activity.
“Compliance with the rule is a monumental task, particularly for banking entities that are active in the markets trading, hedging and investing in covered securities and instruments,” the report, authored by Sean Owens, director of fixed income for Woodbine Associates, read.
In particular, banks will need to put together dedicated teams to ensure the new measures are being met, in addition to using independent analysis of business practices and compliance from third parties, the report states.
For market making activity that is exempt from the rule’s proprietary trading restrictions, banks must monitor their inventory and ensure it is aligned with client demand to the rule’s aim of serving near-term customer needs.
The broad scope of the rule means it will affect banks’ customers, including buy-side firms, the report added.
“While it is directly applicable to banking entities and their affiliates, it will have a substantial impact on their clients, customers and counterparties and will profoundly change the manner in which all of these firms interact and trade,” it said, adding that although exemptions for market making and hedging were welcomed by the industry, compliance to the rule will be a difficult task.
“Notwithstanding the reporting of quantitate metrics, meeting the standard compliance requirements does not offer as much relief as many would hope,” the report concludes.