Senate urges tougher Volcker rule, with exemption

Banks would face stricter limits on risky trading and investing, but could make small investments in private equity and hedge funds under a modified "Volcker rule" backed by U.S. senators on Thursday.

In a victory for banks that had lobbied for a loophole on small fund investments in financial reform legislation, the head of the Senate's negotiating team proposed changes to the controversial rule.

Democratic Senator Christopher Dodd proposed that up to 3 percent of a bank's Tier 1 capital could be invested in such funds, and that a bank's investment in any one fund could not exceed 3 percent of the fund's total ownership interest.

Banks would have some time to sell off stakes in private equity and hedge funds that exceed the new caps, he said.

Some of Wall Street's largest financial institutions, such as Goldman Sachs, JPMorgan Chase, Credit Suisse and Citigroup have been deeply involved in private equity deals and could face changes, analysts said.

"The Volcker rule could have been a lot worse for the banking sector than the version distributed this evening. This version will still hurt profitability and impact business decisions. But it is not the knock-out blow some had feared," said Concept Capital policy analyst Jaret Seiberg.

The House of Representatives team on the negotiating panel must react to Dodd's proposal before it can be incorporated into the final reform bill. The congressional negotiations on the historic rewrite of U.S. financial regulations continued late into Thursday evening with an aim toward finishing in coming hours Friday.

Dodd further proposed toughening the Volcker rule -- named after White House economic adviser Paul Volcker -- to give regulators less leeway in implementing it and requiring non-bank firms that do risky trading to hold more capital.

He also said the rule would ensure that banks cannot bailout hedge funds.

Reed: "b Protections"

Democratic Senator Jack Reed said additional provisions in the Volcker rule would insulate the core bank from investments in private equity and hedge funds. "We've built in some b protections," Reed said.

The Volcker rule, backed by the Obama administration, would bar banks from doing "proprietary trading" for their own accounts that is unrelated to the needs of their customers.

"This proposal addresses the underlying concern of putting depository funds at risk. ... It puts a stop to proprietary trading, but also recognizes that there are legitimate hedging activities that banks need to engage in," Dodd said.

A new interagency Financial Stability Oversight Council, also proposed as part of the overall legislation, would have to study the Volcker rule and regulators would have nine months after that to implement it, Dodd proposed.

Financial services firms would have a year to comply with the new rules after regulators issue them, he said.

Dodd had said earlier in the negotiating session on Thursday that the cap on banks' fund investments be 3 percent of tangible common equity. Later, he changed it to Tier 1 capital, excluding trust-preferred securities, which is a measure of a bank's core capital strength.

[Source: By Kevin Drawbaugh and Andy Sullivan, Reuters, Washington, 24Jun10]

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