Wall Street is making headway in a campaign to persuade regulators to soften a key rule that has forced banks to boost capital since the financial crisis.
After financial firms complained for about a year that some of the new requirements will make it overly expensive to offer derivatives to clients, regulators planned to discuss possible concessions at a private meeting starting Wednesday, according to two people with knowledge of the talks. The meeting consists of policy advisers to a group of global authorities that includes the Federal Reserve, the European Central Bank (ECB), and the Bank of England, the people said.
The lobbying is tied to one aspect of how industry overseers set leverage ratios, which determine how much capital lenders need to offset their risks. As the rules are now written, banks take a hit on the billions of dollars in collateral they receive from customers for handling their derivatives trades.
Regulators around the world stiffened capital demands to make banks safer after the 2008 market meltdown. Federal Deposit Insurance Corp. (FDIC) Vice Chairman Thomas Hoenig said easing the requirement for derivatives would undermine a rule meant to be a blunt tool to curtail excessive risk-taking.
“The industry is very active in telling their side of the story,” Hoenig said in an interview this week. “If you reduce the collateral requirements and you allow the leverage to increase, you’re also increasing the risk.”
Wall Street banks dominate a list of the biggest derivatives brokerages ranked by the amount of collateral posted by their clients, according to data kept by the U.S. Commodity Futures Trading Commission for futures and options trades.
One clearing division of Goldman Sachs Group Inc. has US$22.6 billion in customers’ assets in segregated accounts, while a unit of JPMorgan Chase & Co. has $18.3 billion, according to the regulator’s data as of June 30. The total derivatives-brokerage industry has about $158 billion in segregated accounts.
While Fed Chair Janet Yellen said last year that the leverage ratio set to take effect in 2018 would limit “the damage that would be done to our financial system if one of these firms were to fail,” bankers have criticized it as punishing them for holding low-risk assets.
Collateral Rule ‘Reduces Exposure’
When U.S. banking agencies completed the leverage rule late last year, they rejected an industry bid to exclude collateral posted by clients when adding up each bank’s total assets.
Since its approval, groups representing banks, exchanges, and commodity traders have pressed regulators to make changes. The industry says collateral, often cash or highly-rated bonds, is held in segregated accounts that banks can’t tap to finance risky trading.
“Including customer-segregated margin in the leverage calculation ignores the fact that client margin actually reduces exposure for clearing member banks,” Jackie Mesa, executive director at the Futures Industry Association’s FIA Global group, said in an email. “If customer segregated margin is included in the leverage ratio and subject to capital requirements, it will become significantly more expensive to centrally clear trades.”
Executives from derivatives-clearinghouse owners CME Group Inc., Intercontinental Exchange Inc., and LCH.Clearnet Group Ltd. made similar comments to regulators in a comment letter last November. Their letter was also signed by the head of FIA, which represents JPMorgan, Goldman Sachs, and other banks that clear derivatives for clients.
In a February presentation to investors, JPMorgan said capital rules could lead to higher prices to clear derivatives and might cause some brokerage firms to exit the market.
The Commodity Markets Council, which represents Cargill Inc., BP Plc, and other commodity traders, has also warned regulators that the rule would increase costs by more than five times from current levels.
The industry has found an ally in Timothy Massad, chairman of the CFTC, who has said the added costs may deter banks from processing client trades through clearinghouses. Massad been talking with other regulators to prepare a response.
The policy group meeting this week advises the Basel Committee on Banking Supervision. Industry lobbyists have pushed the Basel Committee to change how the leverage ratio is calculated. Emails seeking comments from the Basel Committee and the Bank for International Settlements went unanswered this week.
Hoenig said granting an exemption for derivatives collateral could set up a slippery slope and encourage future exclusions that damage the intent of the leverage rule.