Rules change opens investment options for community banks
To loan, or to bet on the markets?
That is the question that some smaller, “community” banks are facing after the government lifted regulatory burdens on making riskier proprietary trades for institutions with less than $10 billion in assets.
Bankers and experts said most community banks don’t engage in the risky buying and selling of financial instruments like bonds and options, instead hewing to more traditional loans structures.
But a professor noted that easing regulations on “community banks,” about 98% of banks in the U.S., may free them up to do things “they otherwise would not do.”
Announced by the U.S. Securities and Exchange Commission, the change excludes community banks with $10 billion or less in total consolidated assets and total trading assets and liabilities of 5% or less of total consolidated assets from the Volcker Rule.
The rule was designed after the financial collapse of 2008 and “generally restricts banking entities from engaging in proprietary trading and from owning, sponsoring, or having certain relationships with hedge funds or private equity funds,” according to the SEC.
Many community banks with less than $10 billion in assets typically do not seek the potentially higher returns made possible by engaging in risky, hedge fund-style trading in the first place according to Christopher Cole, executive vice president and senior regulatory counsel for the Independent Community Bankers of America. Therefore, inspectors ensuring they comply with the rule every year was unnecessary, Cole added.
Under the original rule, all banks had to prove to regulators when they chose to hedge against risk by making another investment, Cole said.
For example, in order to protect itself from a unfavorable drop in interest rates on loans it has made, a bank could buy interest rate futures.
“They had to document the hedge was legitimate … when the examiners came in.”
He noted the rule change will free smaller banks from that oversight and allow them to “concentrate on making loans and serving customers in their service areas.”
A spokesperson for Novato-based Bank of Marin, which has $2.5 billion in assets, seemed to confirm that many community banks aren’t impacted by the rule.
“It doesn’t impact us because we don’t do proprietary trading” the bank’s Vice President and Marketing & Corporate Communications Manager Beth Drummey wrote in an email.
“The reality is the legislation was meant to remove some of the complexities and was aimed at community banks and those that really participate in lending to their communities,” said Greg Jahn, executive vice president and chief financial officer at Santa-Rosa based Exchange Bank speaking on his own behalf and not on behalf of Exchange Bank.
“This element really speaks more to Wall Street banking,” he added.
But Wall Street refers to a section of American banking that holds the vast majority of capital while excluding all but a few titans in the industry, an important distinction according to Robert Weber, associate professor of law at Georgia State University.
“The way this is packaged and sold politically is it’s framed as a community bank regulation relief measure,” Weber said, noting it actually affects about 98% of chartered banks in the U.S. with assets under $10 billion. He estimated that chunk of the industry only holds 15% to 20% of total assets in the American banking system.