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Proprietary Trading Firms Lure Potential Spin Outs from Big Banks

The spin off of proprietary trading desks resulting from the Volcker Rule presents an opportunity for independent firms and tech suppliers.

With the passage of the Volcker Rule in July, independent firms are eyeing an opportunity to hire trading talent away from the large banks when the bulge-bracket firms may be forced to spin off their lucrative proprietary trading desks. As part of the ambitious Dodd-Frank Financial Reform legislation that overhauls financial regulation in the U.S., the Volcker Rule, named after former Federal Reserve Chairman Paul Volcker, bans proprietary trading at "too-big-to-fail" banks and bulge-bracket firms.

According to media reports, Goldman Sachs plans to spin off two of its principal trading groups. Some reports suggest that Goldman will move the proprietary traders into its asset management unit, where it plans to form a hedge fund and raise money from investors. Morgan Stanley also reportedly is considering spinning off its hedge fund unit, Front Point Partners, and reducing its ownership stake in the operation.

"There are definitely some firms like Goldman Sachs and Morgan Stanley that are taking some proactive stances," observes Marty Leamy, president for the Americas at Orc Software, which works with proprietary trading desks within banks and with independent prop trading firms. But, he adds, "Some of the firms want clarity, and anytime you have something like this it creates FUD - fear, uncertainty and doubt."

Leamy says he has noticed some movement in the industry among the firm's clients, but he hasn't seen a mass exodus of proprietary traders from the big banks. "There's a lack of clarity in terms of what banks need to do and how this will impact them," he notes, adding that firms are concerned about how the regulation will impact proprietary trading operations.

Nonetheless, "People have moved out of the banks over the last few years, ... and some people leave to start their own firm [backed by] an outside investor," Leamy acknowledges. But, he concedes, he is not sure if the movement is attributable to the uncertainty spawned by the Volcker Rule or if it is the natural movement caused by a bad economy and traders who simply want to strike out on their own.

Ready to Pounce

Eyeing the changes as they unfold, First New York Securities, a registered broker-dealer based in New York and London that employs 250 proprietary traders, sees a huge opportunity to attract traders from the larger broker-dealers, such as Morgan Stanley and Goldman Sachs, according to managing partner Donald Motschwiller. "First New York is positioning itself from now until the end of the year to be a very good, smart alternative for the guy who is a proprietary trader at a bulge-bracket banking firm who realizes those days are numbered," he says.

Since two-thirds of the year already are over, however, most traders will probably remain at their firms to earn their bonuses rather than leave in September or October, Motschwiller predicts. "We certainly anticipate movement regardless of regulatory reform," though it likely won't pick up until early 2011, he suggests.

In fact, FNY has hired a recruiter who is familiar with some of the star traders at the bulge-bracket firms and who will work with outside headhunters, according to Motschwiller. The firm, he says, is interested in hiring decision makers who were paid for taking risks.

"We are clearly positioned to do just about anything," notes FNY managing partner Joseph Schenk. "We've got the capital, the infrastructure, the history and the relationships."

Focused on trading liquid assets, FNY has "plug-and-play technology" for traders who are coming out of hedge funds or the bulge bracket, Motschwiller says, noting that FNY is "broker-neutral and clearing-neutral" and offers an array of technology system solutions. "We have the ability to provide technology that the bulge-bracket banking firms may not be inclined to give their traders," he adds.

FNY, Motschwiller explains, is a customer of the bulge bracket for clearing and execution, and also has access to the markets via its own execution capabilities. Whereas traders at bulge-bracket firms may have access only to the in-house execution platform, FNY can provide a variety of bulge-bracket systems as well as off-the-shelf alternatives, the firm's partners assert. Ivy is Editor-at-Large for Advanced Trading and Wall Street & Technology. Ivy is responsible for writing in-depth feature articles, daily blogs and news articles with a focus on automated trading in the capital markets. As an industry expert, Ivy has reported on a myriad ... View Full Bio

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