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From Banking and Finance Law Daily, August 7, 2013

CFTC Commissioner urges Fed Chair not to let bank commodity trading do end-run on Volcker Rule

By Jim Hamilton, J.D., LL.M.

In a letter to Federal Reserve Board Chair Ben Bernanke, CFTC Commissioner Bart Chilton said that it is critically important to ensure that bank commodity trading not result in an end-run on the final Volcker Rule or, for that matter, any other reforms mandated by the Dodd-Frank Act, and here the Commissioner mentioned position limits. Even with a tightly written Volcker Rule, he predicted that banks will continue to engage in, and likely even expand, their commodity trading activities. Without clear prohibitions, he noted, a bank in possession of physical commodities could contend with some justification that the Volcker Rule and position limits are not applicable to it since the commodity ownership and trading pertain to hedging its physical business risks. This is an obvious conflict of interest, Commissioner Chilton warned, that left unchecked could easily muddy up the regulatory oversight of banks and make complex and myriad bank ownership portfolios an “unregulatable endeavor.” The Volcker Rule is codified as Section 619 of the Dodd-Frank Act.

Risk mitigating activity. Equally important, he continued, is defining the scope of risk mitigating activity in the final Volcker Rule. He noted that the CFTC has particular expertise in this area and thus can provide useful guidance in crafting a definition of risk mitigating activity. Reliance solely on compliance programs, documentation rules, and performance metrics will not be enough, he cautioned, since the final Volcker Rule will need a robust, comprehensive, and targeted definition of risk mitigating activity in order to protect investors and carry out congressional intent. To that end, Commissioner Chilton attached proposed rule text language that he said would provide clear guidelines for market participants and narrow the definition of hedging to confine it to conduct that is truly economically appropriate to risk reduction. In the end, he emphasized, the Volcker Rule must be clear on the hedging of risk.

Volcker Rule. At a recent press conference following a meeting of the Federal Open Market Committee, Chairman Bernanke said that regulators have made a good bit of progress on finalizing the Volcker Rule and he anticipates that being done this year. Conceding that it has taken time to do these regulations, he said that there are a number of reasons for that, including that they are inherently quite complicated. The Volcker Rule, for example, involves some very subtle distinctions between hedging and market making and proprietary trading. Another reason is that the Volcker Rule involves multiple agencies which have to coordinate, cooperate, and agree on language. The SEC, CFTC, OCC, FDIC, and the Fed are all coordinating on the Volcker Rule. Chairman Bernanke also emphasized that federal regulators have to get the Volcker Rule right, and that means having extended comment periods, getting lots of information from the public, and then reviewing those comments and doing all that can be done to ensure that the regulators are responsive to the many concerns and suggestions.

RegulatoryActivity: DoddFrankAct SecuritiesDerivatives VolckerRule

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