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Moody's: Volcker rule rewrite may be credit-negative for many banks

Loosening a financial crisis-era rule that restricts trading activities could be credit-negative for many banks, according to analysts at Moody's Investors Service.

Two banking regulators have approved a finalized version of the Volcker rule, which prohibits banks from trading with their own funds. If approved by all five regulators, the revised rule will effectively loosen many of the original rule's restrictions and narrow its scope.

"When lower interest rates are putting pressure on bank net interest margins, the changes have the potential to encourage some banks to take greater risks, a credit negative," the Moody's analysts wrote in a research note.

The revised rule would also divide banks into three tiers based on their total trading assets and liabilities. Banks in the top tier, with assets and liabilities of $20 billion or more, would have a stricter regulatory structure than those in the second tier with assets and liabilities between $1 billion and $20 billion.

For the second tier, which would include most community, regional and custodian banks in the U.S., Moody's analysts wrote that compliance requirements would be "reduced significantly," which "may increase risk-taking."

Congress has already reduced regulatory burdens for community banks significantly, which means that "those banks may have a freer hand to take advantage of the revised rule's narrower scope, looser compliance requirements and shifted burden of proof," the analysts wrote.

The largest U.S. banks, which would be placed in the top tier of the regulatory structure, may up their risk-taking behavior as well, but they "remain fully subject to a number of other regulatory requirements," the analysts said.