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Today – 01-21-10
President Obama is announcing financial reform guidelines including the exclusion of banks from engaging in proprietary trading and investing their own funds into internal hedge funds while having inside knowledge of auctions / trades and using taxpayer dollars to cover their losses. Also announced the intention for risk to no longer be concentrated due to consolidating many smaller and mid-sized firms into large conglomerate ones – President Obama described the intention to proceed with regulations that would no longer allow huge banking, investment, brokerage and financial institutions to become conglomerate concentrations of risk and of such size to jeopardize the entire system if they were to fail.

On CNN 11.41 – 11.44 amET
check transcript and WhiteHouse website for transcript / video clip of announcement

(34) – CNN – LIVE
President (Uncle Barack) Obama and Vice President (Uncle Joe) Biden

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Paul Volcker has been talking about these things for a year – anchor’s comment

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Proprietary trading
From Wikipedia, the free encyclopedia

Proprietary trading, proprietary trading desk, or “prop desk” are terms used in investment banking to describe when the firm’s traders actively trade stocks, bonds, options, commodities, derivatives or other financial instruments with its own money as opposed to its customers’ money, so as to make a profit for itself. Although investment banks are usually defined as businesses which assist other business in raising money in the capital markets (by selling stocks or bonds), in fact most are also involved in trading for their own accounts as well. They may use a variety of strategies such as index arbitrage, statistical arbitrage, merger arbitrage, fundamental analysis, volatility arbitrage or macro trading, much like a hedge fund. Many reporters and analysts believe investment banks purposely leave ambiguous the amount of non proprietary trading they do versus the amount of proprietary trading they do because it is felt that proprietary trading is riskier and results in more volatile profits.
Contents

* 1 The relationships between trading and investment banking
* 2 Arbitrage
* 3 Conflicts of interest in proprietary trading
* 4 Famous trading banks and traders
* 5 References
* 6 External links

The relationships between trading and investment banking

Investment banks are defined as companies that assist other companies in raising financial capital in the capital markets, through things like the issuance of stocks and bonds. Trading has almost always been associated with investment banks however, because they are often required to make a market in the stocks and bonds they help issue.

For example, if General Store Co. sold stock with an investment bank, whoever first bought shares would possibly have a hard time selling them to other individuals if people are not familiar with the company. The investment bank agrees to buy the shares sold in order to find a buyer. This provides liquidity to the markets. The bank normally does not care about the fundamental, intrinsic value of the shares, but only that it can sell them at a slightly higher price than it could buy them. To do this, an investment bank employs traders. Over time these traders began to devise different strategies within this system to earn even more profit independent of providing client liquidity, and this is how proprietary trading was born.

The evolution of proprietary trading at investment banks has come to the point whereby banks employ multiple desks of traders devoted solely to proprietary trading with the hopes of earning added profits above that of market-making trading. These desks are often considered internal hedge funds within the investment bank, performing in isolation away from client-flow traders.

Proprietary desks routinely have the highest value at risk among other desks at the bank. Investments banks such as Goldman Sachs, Deutsche Bank, and Merrill Lynch are known to earn a significant portion of their quarterly and annual profits through proprietary trading efforts.[citation needed] Unlike other type of auctioneers, the traders in investment banks are allowed to bid shares while conducting the auction.

If you think a trader’s ability to see the incoming orders for the trade gives him a built in advantage when trading for himself, you are not wrong. It is like being in the card game in which only one of the players has the ability to see everyone else’s hand.
Arbitrage

One of the main strategies of trading traditionally associated with investment banks is arbitrage. In the most basic sense, arbitrage is defined as taking advantage of a price discrepancy through the purchase/sale of certain combinations of securities to lock in a profit.

Many people confuse arbitrage with what is essentially a normal investment. The difference between arbitrage and a typical investment is the amount of risk: the risk in what is known as arbitrage today (to distinguish it from theoretical arbitrage, which effectively does not exist) is market neutral. From the second the trade is executed, a profit is locked in. Investment banks, which are often active in many markets around the world, constantly watch for arbitrage opportunities.

One of the more notable areas of arbitrage, called risk arbitrage, evolved in the 1980’s. When a company plans to buy another company, often the price of a share in the capital of the buyer falls (because the buyer will have to pay money to buy the other company) and the price of a share in the capital of the other company rises (because the buyer usually buys those shares at a price higher than the current price). When an investment bank believes a buyout is imminent, it often sells short the shares of the buyer (betting that the price will go down) and buys the shares of the company being acquired (betting the price will go up).
Conflicts of interest in proprietary trading

There are a number of ways in which proprietary trading can create conflicts of interest between a trader’s interests and those of its customers.[1]

Some suspect that traders engage in “front running”, buying shares in companies the traders’ customers are buying so as to profit from the price increase resulting from the customers’ purchases and thereby harming the customers’ interests.

Some suspect that investment bank salesmen (who encourage customers to buy particular securities) assist their firm’s proprietary traders by encouraging customers to buy securities performing poorly after the proprietary traders have bought them for the firm.

Lastly, because investment banks are key figures in mergers and acquisitions, a possibility exists that the traders could use prohibited inside information to engage in merger arbitrage. Investment banks are required to have a Chinese wall separating their trading and investment banking divisions, however in recent years, dating most recently back to the Enron saga, these have come under great scrutiny.

One example of an alleged conflict of interest can be found in charges brought by the Australian Securities and Investment Commission against Citigroup in 2007.[2]
[edit] Famous trading banks and traders

Famous proprietary traders have included Robert Rubin, Steven A. Cohen, Edward Lampert, and Daniel Och. Some of the investment banks most historically associated with trading was Salomon Brothers and Drexel Burnham Lambert, and currently Goldman Sachs. Nick Leeson took down Barings Bank with unauthorized proprietary positions. Another trader, Brian Hunter, brought down the hedge fund Amaranth Advisors when his massive positions in natural gas futures went bad.
[edit] References

1. ^ “Conflict of Interest Lessons From Financial Services”. 2005-02-22. http://www.complianceweek.com/article/1562/conflict-of-interest-lessons-from-financial-services. Retrieved 2009-01-13.
2. ^ “Citigroup challenges Australian commission’s conflict of interest ruling”. http://www.iht.com/articles/2007/03/23/business/citigroup.php.

[edit] External links

* http://www.cfo.com/article.cfm/3004344?f=related
* http://www.trading-lab.com/forums/introduction_proprietary_trading-t305.html

Retrieved from “http://en.wikipedia.org/wiki/Proprietary_trading”
Categories: Financial markets

http://en.wikipedia.org/wiki/Proprietary_trading

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http://www.blackhat.com/

BlackHat DC
Jan. 31 – Feb. 3, 2010
Arlington, VA

Register now for Black Hat DC, the largest and the most important security conference series in the world. It happens Jan. 31-Feb. 3, 2010, in Arlington, Va. Find out more and register.

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http://www.informationweek.com/news/software/showArticle.jhtml?articleID=222301030

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The White House

Office of the Press Secretary
For Immediate Release
January 21, 2010
President Obama Calls for New Restrictions on Size and Scope of Financial Institutions to Rein in Excesses and Protect Taxpayers

WASHINGTON, DC- President Obama joined Paul Volcker, former chairman of the Federal Reserve; Bill Donaldson, former chairman of the Securities and Exchange Commission; Congressman Barney Frank, House Financial Services Chairman; Senator Chris Dodd, Chairman of the Banking Committee and the President’s economic team to call for new restrictions on the size and scope of banks and other financial institutions to rein in excessive risk taking and to protect taxpayers.

The President’s proposal would strengthen the comprehensive financial reform package that is already moving through Congress.

“While the financial system is far stronger today than it was a year one year ago, it is still operating under the exact same rules that led to its near collapse,” said President Barack Obama. “My resolve to reform the system is only strengthened when I see a return to old practices at some of the very firms fighting reform; and when I see record profits at some of the very firms claiming that they cannot lend more to small business, cannot keep credit card rates low, and cannot refund taxpayers for the bailout.  It is exactly this kind of irresponsibility that makes clear reform is necessary.”

The proposal would:

1.   Limit the Scope – The President and his economic team will work with Congress to ensure that no bank or financial institution that contains a bank will own, invest in or sponsor a hedge fund or a private equity fund, or proprietary trading operations unrelated to serving customers for its own profit.

2.   Limit the Size – The President also announced a new proposal to limit the consolidation of our financial sector.  The President’s proposal will place broader limits on the excessive growth of the market share of liabilities at the largest financial firms, to supplement existing caps on the market share of deposits.

In the coming weeks, the President will continue to work closely with Chairman Dodd and others to craft a strong, comprehensive financial reform bill that puts in place common sense rules of the road and robust safeguards for the benefit of consumers, closes loopholes, and ends the mentality of “Too Big to Fail.”   Chairman Barney Frank’s financial reform legislation, which passed the House in December, laid the groundwork for this policy by authorizing regulators to restrict or prohibit large firms from engaging in excessively risky activities.

As part of the previously announced reform program, the proposals announced today will help put an end to the risky practices that contributed significantly to the financial crisis.

http://www.whitehouse.gov/the-press-office/president-obama-calls-new-restrictions-size-and-scope-financial-institutions-rein-e

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