Updated 1:41 p.m.
Morgan Stanley announced Monday plans to spin off its quantitative proprietary trading division, Process Drive Trading (PDT). The division’s employees will acquire certain assets from Morgan Stanley and set up an independent advisory at the end of 2012, the firm said in a press release.
Under the agreement with its PDT employees, Morgan will have the option to take a preferred stake in the new entity, which will be called PDT Advisors. Morgan expects all 60 employees of the division will join the independent firm.
Under the Volcker rule, Dodd-Frank Wall Street reform legislation passed last July prohibits banks from risking capital by betting for their own accounts. Some critics have suggested, of course, that big banks will be able to get around the Volcker rule by hiding proprietary trading in their market making activity for clients. But Hintz says this is not as easy as it sounds.
“I had a conversation with a risk manager of a large capital markets bank, one of the top ten, and I asked him, ‘Can’t you just hide proprietary trading in your market making activities?’ And he said, ‘You’re assuming that regulators won’t be looking at historic inventory and VaR levels.’”
Morgan’s strategy of taking a stake in the spun off unit would allow it to continue to profit marginally from its trading division without putting its own capital or balance sheet at risk. Bernstein analyst Brad Hintz has estimated that proprietary trading accounts for 10 to 15 percent of revenues at the major Wall Street banks. Last year, Goldman Sachs and JP Morgan announced plans to shutter or unwind their proprietary trading divisions.
“PDT has generated an enviable track record within Morgan Stanley since its inception in 1993,” said James P. Gorman, President and Chief Executive Officer of Morgan Stanley in a press release. “We are delighted to continue our partnership with PDT as it looks to expand its business by taking on third-party investors.”