Recent Market Volatility | Is The Volcker Rule The Leading Cause?

Recent Market Volatility | Is The Volcker Rule The Leading Cause?

December 28, 2018 0 By JD

Ok, I’ll admit, last week caused my investing psyche some unnecessary ‘weak-kneed-ness’ .  I paid way to much attention to the ups and downs of the stock market, and it made me question my Dollar-Cost-Averaging Strategy.  But, I’m staying the course!

Every now and then a good Buffetism helps me adjust my thinking, its kinda like therapy for the equity investor.  This Buffetism says “If you don’t feel comfortable owning a stock for 10 years, you shouldn’t own it for 10 minutes.”  This is so true, if you’re an investor you should be in for the long haul, otherwise you’re simply…..A Trader.  Nevertheless, Market’s like this, challenge your patienceWhat we have to remember is; a calm sea never made an expert sailor.  These days, this market is showing signs of a storm-a-brewing on the horizon.  

My old self

would have have mailed it in last week.  After the grueling 6.87% haircut the Dow Industrials took, it would have been easy to just to ‘take my ball and go home‘.  I had to remind myself the fundamentals of the economy are still strong, and corporate earnings are continuing to grow.

But what is causing the volatility?

The Treasury Secretary, Steve Mnuchin attributes the volatility to two things:  The Volcker Rule, which is part of the Dodd-Frank Wall Street Reform and Consumer Protection Act, and also High Frequency Trading.  But, how could something meant to essentially; save us from ourselves, be causing so much volatility?

What is the Volcker Rule?

The Volcker Rule, which is named after the former Federal Reserve Chairman Paul Volcker, prohibits banks from using their own money for short-term trading of securities, derivatives, and commodity futures.

Remember back in 2008 when the terms ‘Mortgage Backed Securities’, ‘Derivatives’, and ‘Collateralized Debt Obligations’, were used synonomously with ‘Financial Crisis’?  Well, the Volcker Rule was introduced as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act meant to avert the chance of a Financial Crisis ever happening again.

The Volcker Rule is for the peoples good, of course!

The big bad banks got their hands ‘ruler-slapped’ by the Feds, and they weren’t ever going to have the ability to take advantage of the unsuspecting public again!  But recently, low and behold, there’s been more and more chatter about the challenges the Market is facing and, that eerie term; ‘Financial Crisis” has reared it’s ugly head again.

But, what about Dodd-Frank saving us this time?  The jury is still out.  What’s really happened since Dodd-Frank became the law-of-the-land, is the onslaught of regulations.

Compliance demands have grown

to the point of where lending institutions are required to have an arsenal of lawyers in their compliance departments to navigate the maze of regulations.  The cost of this has become so overwhelming for small banks, that in some cases it’s put them out of business.  What happens is, these regulations promote the growth of super-banks, who can afford the arsenal of lawyers.  These super banks can budget more for legal counsel, lobbying, and other political haberdashery, but what becomes expendable, is good ole-fashioned customer service.

I think we can all agree, the more banks consolidate and grow into super banks, the higher their fees get, and worse their customer service becomes.

Jon Mansfield, partner at private equity firm Praesidian Capital in New York, is not pleased with Dodd-Frank.

“I think overall Dodd-Frank has been negative for the industry, specifically when it comes to fundraising,” he said. “A meaningful amount of capital can no longer be deployed by investors in the asset class which historically came from banks.”

And then there is High-Frequency Trading

commonly referred to by the Wall Street Hipsters as Algobots.  These algobots are computer programs written to trade in and out of stock positions within a matter of milliseconds.  They send and cancel orders all throughout the day to deceive and out-race other algobots.  And, they flood the market with bogus trade orders in an effort to throw off competitors, or stealthily liquidate a large stock position into small ‘lots’ so it doesn’t provoke a price swing.

This constant movement of stock prices, even in tiny amounts, causes volatility.  And worse, super banks are getting in on the game by developing their own algorithm to parlay profits.  So, it appears the Dodd-Frank Wall Street Reform and Consumer Protection Act may have halted a few bad behaviors, but created entirely different ones.  However, these new behaviors may be way worse than the last ones.

What are your thoughts on the volatility of the market these days?

Slick photo compliments of:

Aditya Vyas