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Is Goldman already trying to get around the Volcker rule?

One frequent rap on the Volcker rule, which restricts banks from using their own money to bet on markets, is that it'll be hard to implement. The line between a bank making a trade purely for its own bottom line, versus a client's, can be fairly murky, skeptics say. And that lack of clarity means that firms can shift around their activities or give them new names to elude regulators.

A report by Charlie Gasparino this week suggests this is already happening at Goldman Sachs. The firm has reportedly moved half its proprietary traders to the firm's asset management division.

As Gasparino writes, "By having the traders work in asset management, where they will take market positions while dealing with clients, Goldman believes it can meet the rule's mandates, avoid large-scale layoffs and preserve some of the same risk taking that has earned it enormous profits, people close to the firm say."

The central question here is whether regulators will have enough tools to see past any labels the banks use and really distinguish prop trading from market making. Otherwise, they could get caught up in a lot of semantics.

"If you prohibit something being called formerly a prop desk, I can assure you there won't be a prop desk anymore," said Raj Date, executive director of Cambridge Winter Center for Financial Institutions Policy. "To therefore assume prop activity is stamped out would be naive."

Date pointed out that large banks have internal risk management systems for identifying what exactly is on the firms' books. In theory, they can point to which trades are proprietary and which ones aren't. But if regulators don't have enough manpower to make those determinations for themselves, they may wind up relying on banks to point them in the right direction.

The obfuscation around prop trading has already been underway for years, well before financial regulation, says Doug Elliott, a former investment banker. The reason isn't regulators; it's investors. "For the last several years, investors have been worried that the investment banks were taking excessively large proprietary positions," said Elliott. "Therefore for the last several years, investment banks have not been calling anyone a proprietary trader who wasn't very clearly one."

Banks will have as long as seven years to comply with the Volcker rule -- plenty of time to give their prop traders makeovers. Citigroup, for instance, is already thinking of turning them into hedge-fund managers.

By Jia Lynn Yang  |  July 30, 2010; 5:45 PM ET
Categories:  Financial regulation  
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