Treasury Secretary Jacob Lew warned chief executive officers of top U.S. banks in a private meeting last month that the final Volcker rule ban on proprietary trading would be tougher than Wall Street expects.
At the meeting, details of which haven't previously been disclosed, Lew told industry leaders that he has been encouraging regulators to make provisions of the Volcker rule more stringent, according to two people familiar with the meeting. The bank executives, members of the Financial Services Forum, left the meeting concerned the final rule would be more restrictive on their trading business than previously indicated, the people said.
This week regulators are putting the final touches on the rule, which could be released as soon as Dec. 10, according to two other people familiar with the process. That timeframe would put regulators on track to meet the administration's self- imposed deadline to complete the rule by the end of the year.
"I think that there's still work to do before this is completed. But I am very heartened by the progress that I'm seeing and that we'll get something this year," Mary Miller, the Treasury Department's undersecretary for domestic finance, said yesterday at a Bloomberg Link State & Municipal Finance Conference in New York.
Administration officials have signaled that one provision that will be more restrictive than the rule's first draft is its exemption for trades conducted as hedges against other risks. The revised rule is expected to require hedges to be taken against individual positions and limit broader hedges against a bank's entire portfolio. The change came in response to JPMorgan Chase & Co.'s "London Whale" trades, which cost the bank $6.2 billion in 2012 and were described by bank officials as portfolio hedging.
"They'll probably put limits on portfolio hedging," said Douglas Landy, a partner at Milbank, Tweed, Hadley & McCloy LLP in New York. He said regulators may grant a "more rational" approach in other areas, such as limits on fund investments.
The Volcker rule is one of the most controversial pieces of the 2010 Dodd-Frank Act and one of the final unfinished provisions of its overhaul of financial regulation. A first draft was released in October 2011; Lew has been pushing regulators to complete the revised rule by the end of the year.
At the meeting, Lew told the group, whose members include Goldman Sachs Group Inc. and Bank of America Corp., that in order to get the Volcker rule right, he prefers to err on the side of making it tougher, said one of the people familiar with the discussion. He also said that financial firms should root for quick completion, because a failure to put the Volcker rule in place could lend momentum to legislative proposals that would be even harsher.
The meeting with Lew took place Oct. 2, the same day bank executives, including JPMorgan CEO Jamie Dimon, Goldman Sachs' Lloyd Blankfein and Brian Moynihan, CEO of Bank of America Corp., met with President Barack Obama at the White House to discuss the federal debt ceiling.
Anthony Coley, a spokesman for the Treasury Department, and Laena Fallon, a spokeswoman for the Financial Services Forum, declined to comment on details of the Lew meeting.
While the Treasury Department isn't responsible for writing the rule, it's coordinating the efforts of five U.S. regulatory agencies: the Federal Reserve Board, Federal Deposit Insurance Corp., Office of Comptroller of the Currency, Securities and Exchange Commission, and the Commodity Futures Trading Commission. The agencies are planning to hold meetings the week of Dec. 9 to formally adopt the final version.
"I've told my fellow commissioners to save a particular date in mid-December," CFTC Chairman Gary Gensler told reporters last week. At a conference in Chicago yesterday, he said he'd been putting final touches on the draft the previous night while on a business flight. "We know how to complete rules," he said.
The Volcker rule, named for former Federal Reserve Chairman Paul Volcker, is aimed at preventing banks that hold federally insured customer deposits from engaging in the kind of speculative trading with their own capital that could threaten their stability. Standard & Poor's has estimated that the rule could sap combined profits at the eight largest U.S. banks by $2 billion to $10 billion a year, depending on its final language.
In addition to limiting hedging and market-making, the rule would forbid banks from holding more than a 3 percent stake in hedge funds and private-equity funds, which are perceived as too high-risk. Large banks such as New York-based Citigroup Inc. and JPMorgan have been cutting ties to private-equity units in response to the proposal.
Currently, banks have until July 21, 2014, to implement the Volcker rule, even though regulators are behind schedule. Industry representatives have been assured by regulators that that deadline is likely to be extended, according to three people involved in the discussions.
Under Dodd-Frank, the Federal Reserve has the authority to grant three one-year extensions for implementing the rule to banks requesting the delay. The central bank also could adjust the implementation period as part of the final rule.
Banks concerned about the timeline have already begun drafting letters to regulators to request an extension. Mitch Eitel, co-head of the Financial Institutions Group at Sullivan & Cromwell LLP, said his firm is preparing such requests for banks.
"Banks cannot finalize their conformance plans -- or even submit a coherent and comprehensive conformance-period extension request -- until the final rules have been issued and they have had a reasonable amount of time to analyze them," Eitel said.
A few of the biggest companies, including New York-based Goldman Sachs and Morgan Stanley, ranked fifth and sixth respectively by assets, have already shut down some proprietary trading operations and withdrawn investments that are likely to be outlawed under the rule.
"It is critical that regulators allow economically important hedging and market-making to take place in a safely regulated environment," said Rob Nichols, president and chief executive officer of the Financial Services Forum, a Washington- based organization that lobbies on behalf of large financial institutions.
With a "crushing" regulatory burden, the banks have been conservative about straying anywhere near business fenced off by Volcker, Landy said.
"Even if we could do something, the bar for getting any kind of deal done is really, really high," he said. "I think their view is, let's wait a year or two and we'll see."