The fate of proprietary trading

This is a big story that deserves a lot more attention from the financial press: J.P. Morgan Chase & Co. announced that it is shutting down its proprietary trading operations. Goldman Sachs Group and the rest of Wall Street have or are in the in the process of following suit.

Proprietary trading accounts for as much as 15% of bank revenue. Considering that annual revenue at J.P. Morgan Chase (JPM) alone is more than $100 billion, we are talking about nixing tens of billions of dollars from Wall Street firms' bottom lines.

Proprietary trading is when a bank trades with its own money (as opposed to its customers' money) to make a profit for itself.

The Volcker Rule empowered by the Dodd-Frank financial-overhaul law effectively bans proprietary trading and principal transactions along with private equity deal-making and other investing techniques that are used to benefit "the house" -- read Wall Street banks. (The Volcker Rule is named after former Federal Reserve Chairman Paul Volcker who was called in during the economic downturn to review and report on Wall Street's failures.)

No one is particularly crying for Wall Street and banks these days. But shutting down operations that will hurt shareholders (bankers themselves, no doubt, will prevail and profit in some other manner) isn't proper regulation. In fact, it isn't really regulation at all; it's lazy oversight.

Transparency and better financial reporting are far better options when it comes to regulating the banking and securities industries. Yet the government still doesn't seem to get it. People aren't upset because corporations, banks or others, are profiting. We are upset because of the ways in which corporations, banks and others, profit. We are upset at practices that obfuscate and exploit. Shutting down proprietary trading operations will only serve to send financial institutions further down the rabbit hole.

Goldman Sachs (GS) , for example, is looking to transfer its proprietary trading business to its asset-management unit, winding down the portfolio entirely, or seeding a hedge fund that would take over the operations, according to various reports.

Good luck trying to figure out whether the bank front-runs client trades, uses inside information to profit, or exploits some loophole in the law. These are the real issues. The government believes nixing proprietary trading will accomplish. Wall Street insiders know better; the business will just go somewhere else. Indeed, look for some shrewd traders to make billions trading these orders on the behalf of Wall Street firms and banks. Easy money.

In any event, it's the issues that regulators should be focused on. The practices themselves are incidental to this.

I've long lobbied for a financial system based on principles as opposed to rules. Volcker, curiously, is with me on this.

Empowering regulators to go after people based on the intent of their behavior as opposed to their actions would give more teeth to the financial police. It would thwart or give pause to wrongdoing and wrongdoers as they would be held to a different standard of accountability. They would be judged in context.

Proprietary trading shouldn't be shuttered, it should just be reported better. Shareholders may like the fact that banks are profiting. And others may learn a thing or two about what banks are investing in and how. They might even learn profit from that type of information for themselves.

By Thomas Kostigen, MarketWatch