Kill the Dead Prop Traders!

Obama's plan to limit proprietary trading in commercial banks sounds to me like he's shooting already dead guys in order to be able to claim "look! I shot down some bankers". Politically, it could be a smart (while a touch populist) move to get the support of Main street but it won't change that much the risks taken by the banks: the proprietary activities are already very limited there (and the crisis hasn't helped in the development of such activities...). Wait. Very limited??? What about for instance JPMorgan or Goldman that showed lately huge profits on prop trading? Well, the prop trading is just a glass window that allows the banks to show off and take higher margins on their Franchise. Roughly and in a few words, the banks are long and their prop is short and when there's a slump they highlight the performance of their prop activities. Christian Siva-Jothy, ex star prop trader and former head of proprietary trading at GS explains in an interview in the book "Inside the house of money":
"Certainly Goldman Sachs saw the prop group as a call option and hedge for when the franchise was doing poorly (the franchise is generally long inventory) [...] During the periods [of tightening cycles and credit events], a bank wants the prop group to make outsize returns, which will compensate for the lack of franchise income. [...] So in the years the franchise is doing well, they expect you to be between zero and up double digits, but in the years where there's a big dislocation, they'll expect you to knock the cover off the ball".

In the 1990s, there were actual prop trading banks and GS was definitely one of them but this dramatically changed. One reason was notably in 1994 after Siva-Jothy I quoted above lost a few hundreds million of Goldman's money on a GBPJPY deal and the prop activity was reduced (from hundreds of prop traders to 3, including Siva-Jothy). But the main reason is far more basic: taking positions is a too risky business for an investment bank... Those who speculate with us at TLofT know (and probably better than bank traders) how hard it is to put positions on and to make money from. Now, over 90% of the desks of the capital markets department of a bank are profitable, do you really think that's thanks to positions? I know it’s hard to believe as it’s a fallacy broadly fed by bank recruiters seeking for young talents that bank traders are prop traders, but the banks avoid position taking and speculation like the Black Death plague. To quote Gekko in the movie Wall Street, the banks don't throw darts at a board, they bet on "sure things". Gekko referred to inside trading, I won't mention the dark side stuffs the banks are able to do, but to bet on "sure things", they just do the oldest (well second oldest...) job in the world: buy and sell at a higher price.

Read the Full Post :
http://blog.thelordoftrading.com/2010/01/kill-dead-prop-traders.html

Sauros wrote:

Obama's plan to limit proprietary trading in commercial banks sounds to me like he's shooting already dead guys in order to be able to claim "look! I shot down some bankers". Politically, it could be a smart (while a touch populist) move to get the support of Main street but it won't change that much the risks taken by the banks: the proprietary activities are already very limited there (and the crisis hasn't helped in the development of such activities...). Wait. Very limited??? What about for instance JPMorgan or Goldman that showed lately huge profits on prop trading? Well, the prop trading is just a glass window that allows the banks to show off and take higher margins on their Franchise. Roughly and in a few words, the banks are long and their prop is short and when there's a slump they highlight the performance of their prop activities. Christian Siva-Jothy, ex star prop trader and former head of proprietary trading at GS explains in an interview in the book "Inside the house of money":
"Certainly Goldman Sachs saw the prop group as a call option and hedge for when the franchise was doing poorly (the franchise is generally long inventory) [...] During the periods [of tightening cycles and credit events], a bank wants the prop group to make outsize returns, which will compensate for the lack of franchise income. [...] So in the years the franchise is doing well, they expect you to be between zero and up double digits, but in the years where there's a big dislocation, they'll expect you to knock the cover off the ball".

In the 1990s, there were actual prop trading banks and GS was definitely one of them but this dramatically changed. One reason was notably in 1994 after Siva-Jothy I quoted above lost a few hundreds million of Goldman's money on a GBPJPY deal and the prop activity was reduced (from hundreds of prop traders to 3, including Siva-Jothy). But the main reason is far more basic: taking positions is a too risky business for an investment bank... Those who speculate with us at TLofT know (and probably better than bank traders) how hard it is to put positions on and to make money from. Now, over 90% of the desks of the capital markets department of a bank are profitable, do you really think that's thanks to positions? I know it’s hard to believe as it’s a fallacy broadly fed by bank recruiters seeking for young talents that bank traders are prop traders, but the banks avoid position taking and speculation like the Black Death plague. To quote Gekko in the movie Wall Street, the banks don't throw darts at a board, they bet on "sure things". Gekko referred to inside trading, I won't mention the dark side stuffs the banks are able to do, but to bet on "sure things", they just do the oldest (well second oldest...) job in the world: buy and sell at a higher price.

Read the Full Post :
http://blog.thelordoftrading.com/2010/01/kill-dead-prop-traders.html

wahhh excellent post sauros! love the banking insight, i just wish more people understood this!

There are a few interesting articles on this topic in this week's (Jan 30th-Feb 5th) Economist.
They wrote for instance :
"It's hard to see why banning them [prop trading activities] makes banks much safer. Prop desks are a small part of most firms' activities and the same is true of banks' investments in private equity and hedge funds These activities did not play a leading role in the crisis"

A table with the Proprietary trading as a % of group revenues shows:
GS 10, citi <5, MS <5, Deutsche Bank 2.4, Credit Suisse <2, Barclays 1.8, BofA 1, JPMorgan Chase 1...