June 30, 2018
Exempting small banks from Volcker Rule is fine, but not for big banks.
Big banks are too important to financial stability. Regulators shouldnt allow them to engage in proprietary trading activities. In fact, regulators need to improve Volcker enforcement for big banks because they can always find a way to bypass the law.
One example is central risk book. Big banks created this desk after they closed their propertiary trading desks. Big banks claim this desk can provide a birdview of banks risk position and act as an internal matching engine to reduce transaction cost. However, some banks use this desk to conceal their shady and secretive prop trading activities.
Central risk book usually have access to entire banks client trading data. They can potentially misuse this data to reverse engineering client strategy, impede price discovery process or even conduct front running / spoofing in dark pool. Allow them to have access to client data is a conflict of interest. Some banks split central risk book into trading and non-trading part. Two teams work closely so trading team can still take advantage from client transaction data indirectly even though only non-trading team is allowed to access client transaction information. The best solution is to stop central risk book from trading so they wont use client transaction data to trade against clients either directly or indirectly through intermediate internal desk.
In some banks, central risk book are conducting facilitation, which means use banks money to spectuively buy and sell securities. It is very similar to market making. But unlike market making desks, central risk book lack supervision and control. They can easily hide their alpha from rigorous model validation process even though their alpha is discovered from inappropriate use of client data. Central risk book can also spam IOI and easily misrepresent natural liquidity in IOI they sent.
Risk aggregation activity in central risk book can cause next London Whale. Central risk book can hold risky position for several days and speculatively to increase or decrease its position, just like prop trading.
Central risk book have developers in front office and these developers can easily change risk and control limit secretly without approval.
In summary, regulators shall not exempt big banks from Volcker. Moreover, big banks need to stop trading activities in their central risk book desks.