First, there was the Trust Preferred Securities (TruPs) crisis, as everyone surely recalls.

No?

Well, after the Volcker Rule was finalized, some banks suddenly realized they might have to sell some obscure holdings to conform to the rule — bundles of investments in banks, called trust-preferred securities, or TruPs. The American Bankers Association reacted immediately, warning the nation’s community banks faced an avalanche of losses. Legislators readied bills to fix the problem that was supposedly facing banking’s little guys. Regulators felt embattled.

Then, the watchdogs tweaked the rule modestly, and the squall dissipated as quickly as it had arisen.

No sooner had that issue been resolved when Washington convulsed with a new crisis, now upon us: the C.L.O. panic. Haven’t heard of this one, either?

New Bank Panic

The House held a hearing last week to examine the issue. American Banker, a trade publication, ran an article with a headline that succinctly summarized the industry’s view: “How Dodd-Frank Might Kill the C.L.O. Market.”

So, what is this market and will Dodd-Frank indeed kill it? Should ordinary citizens don mourning garb if it dies? And what is really going on here?

Collateralized loan obligations, as the acronym is known, are bundles of loans, usually made to junk-rated companies. They use the same techniques as collateralized debt obligations, which were often made up of subprime mortgage investments and were the rotten core of the financial crisis. C.L.O.’s caused billions in losses for banks during the market panic of 2008, but most recovered strongly and memories faded. Junk-rated companies rallied, and C.L.O.’s roared back.

Under the Volcker Rule, which prevents banks from making speculative investments or owning large pieces of hedge funds or private equity firms, some C.L.O. holdings might be prohibited. Some C.L.O.’s own securities or bonds, and those are considered more speculative, (in a regulatory quirk, bonds and loans get different regulatory treatments). Some C.L.O.’s give certain investors the ability to remove the manager that makes the C.L.O.’s investment decisions. That could be construed as a form of ownership control, which would bar banks from participating under a strict construction of the Volcker Rule.

Threat to Capital

The banking industry has been making loud noises about how the uncertainty could have dire consequences. As with the TruPs ruckus, the big banks have defended their interests in the name of smaller and more sympathetic entities. According to the banking lobby and its friends in Congress, any threat to the C.L.O. market is actually a dagger pointed at midsize businesses, which will have trouble finding capital as a result. In written testimony to the House subcommittee, a United States Chamber of Commerce representative expressed “serious concerns that the regulators had failed to take into account the impact of the Volcker Rule upon the capital formation of Main Street businesses,” adding ominously that “it may only be the first wave of capital formation problems that may crop up as a result of the Volcker Rule.”

Like the TruPs fight, and countless other similar Washington showdowns, this skirmish is largely about preserving a market for the largest banks. Just three “too big to fail” banks — J.P. Morgan Chase, Citigroup and Wells Fargo — account for 71% of bank C.L.O. holdings, according to the banking reform group Better Markets. And the large banks get fees from creating the deals.

And so banking interests have massed their forces to preserve this business. At the House subcommittee hearing last week, four industry representatives counterbalanced a lone professor from Georgetown Law School, Adam J. Levitin, who was tasked with defending Dodd-Frank.

CLOs Hide Systemic Risk

Professor Levitin’s testimony made clear what the central public concern is here: The C.L.O. market hides embedded systemic risk. When banks sponsor C.L.O.’s by creating and marketing them, they imply that they back them without actually doing so. Investors rely on this implied guarantee because banks have bailed out comparable affiliated entities in the past. Ultimately, Professor Levitin argued, taxpayer-funded deposit insurance backstops the banks making these potentially speculative investments — exactly the thing the Volcker Rule is supposed to end.

Will the Volcker Rule kill the C.L.O. market? Hardly seems likely. Other asset-backed securities markets, like the one for bundles of credit card loans, have survived despite recent international regulations that have made them safer and less profitable. If they can’t prevail in Congress, banks will simply alter the contracts so that C.L.O.’s conform to the requirements of the Volcker Rule.

Even for those who don’t know a C.L.O. from the Electric Light Orchestra, there is nevertheless a larger point here. Reforming the banking system is a fight that will never end. Banks and their political allies fought financial reform before it was passed. To paraphrase a famous orator: They shall fight it in the courts, they shall fight it with the regulators, they shall fight it in the halls of Congress. They will search ceaselessly vulnerabilities and loopholes. They will sow doubt about the rules.

Rules on Securitization

Even when they lose, their harassing tactics will have benefits. A distracted Securities and Exchange Commission has failed to complete many important Dodd-Frank rules covering securitization. The agency still has not finalized rules banning conflicts of interests in securitizations to prevent the kind of misrepresentations that banks engaged in with the infamous Abacus and Magnetar transactions. The agency has also yet to figure out how issuers of securitizations should retain enough equity so they have “skin in the game” that aligns their interests with that of investors. And the agency hasn’t finished rules for overseeing credit rating agencies, which rate securitizations.

In today’s fights over financial reform, the advantage goes to those who hold the low ground, the underground, the dark room where a rule can be modified in ways only a small handful of experts can follow. These are the battles the banks can win.

This article first appeared in ProPublica.org and nytimes.com.

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