April 01, 2011

Sunlight is the best disinfectant." This famous quote from Louis Brandeis, who served as associate justice for the Supreme Court, dates back to the early 1900s, but its relevance has hardly been more apt.

The days of gentlemen agreements in Wall Street back rooms are over. Every step of a trade must be documented and supported by data. Thanks to Dodd-Frank, even hedge funds in the United States (with assets of more than $150 million) will have to register with the SEC, something that previously was unthinkable -- and that likely will make many traders think twice before starting new funds. That sizzling sound you hear is the burning eyeballs of hedge fund managers who are unaccustomed to working in the light.

We're living in new days. Things that once were confined to the shadows are being dragged kicking and screaming into the open. In the past months we have seen top secret documents released by WikiLeaks, oppressive regimes that held power for decades toppled by protesters who took their fight to Facebook and Twitter, and politicians forced to show who donated money to their campaigns and to their wives' favorite charities. Now the over-the-counter derivatives market is getting transparency.

Over-the-counter derivatives traditionally have been shrouded in secrecy -- and that's the way many on Wall Street wanted it. If you were a politician who stumped for greater derivatives oversight and regulation, your rival in the next primary or general election was likely to receive a ton of donations from the Street. In other words, Don't mess with OTC derivatives.

Why not? Because not even these wise bankers understood what was inside derivatives. They didn't know their exact risk exposures to these exotic and irresistible instruments, and more important, they didn't want to. But there may be no hiding now. Dodd-Frank aims to make sure of that.

In our special report on regulatory reform, "OTC Derivatives Thrust Into the Light", editor-at-large Ivy Schmerken shines a high-watt light of her own on the state of the OTC derivatives market and the impact the forthcoming crackdown will have on the buy side. The changes certainly will be profound -- if they go through, that is. But even if they do pass, associate editor Justin Grant reports, House Republicans are bent on cutting the SEC's and CFTC's budgets, which could cripple enforcement. Will the pro-Street GOP smother Dodd-Frank before it can accomplish what it was meant to do?

Some argue that increased transparency will kill business innovation and growth. And no one likes to shoulder the burden of compliance. But reckless, unscrutinized risk is what pushed the financial industry into an abyss in the first place. Perhaps if more bankers and traders embrace Dodd-Frank, we can enjoy a long, steady recovery. In the sunlight.

ABOUT THE AUTHOR
Phil Albinus is the former editor-in-chief of Advanced Trading. He has nearly two decades of journalism experience and has been covering financial technology and regulation for nine years. Before joining ...