Big Banks Tripped by Regulatory Rumbling

The big banks sold off Thursday after President Barack Obama unveiled plans for additional limits on both the size of financial institutions and the risks they can take.
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NEW YORK (

TheStreet

) --The fears that big bank executives were harboring about the specter of onerous government regulation came to life Thursday after President Barack Obama unveiled plans for additional limits on both the size of financial institutions and the risks they can take.

The news sparked a widespread sell-off in shares of Wall Street's biggest players on heavy volume.

Goldman Sachs

(GS) - Get Report

was off 3.2% to $162.34 just ahead of the close as any enthusiasm about its above-consensus earnings was wiped away by Obama's news. The action was equally as ugly in the other bank stocks with

Bank of America

(BAC) - Get Report

, the nation's largest bank by deposits, losing 5.6% to $15.57,

Citigroup

(C) - Get Report

sinking 4.3% to $3.31,

JPMorgan Chase

(JPM) - Get Report

, falling 6.1% to $40.77, and

Morgan Stanley

(MS) - Get Report

down 4.4% to $29.27. Volume for all of these stocks was above their trailing three-month daily averages; in some case more than three times beyond.

Wells Fargo

(WFC) - Get Report

bucked the trend, rising late in the session. The stock was upgraded before the opening bell at FBR Capital Markets, which went to market perform from underperform on the stock and boosted its price target to $26 from $21.

Obama called for "common-sense reforms" in his speech announcing the policy plans, and said he intends to "close loopholes that allowed big financial firms to trade risky financial products like credit default swaps and other derivatives without oversight, to identify system-wide risks that could cause a meltdown, to strengthen capital and liquidity requirements to make the system more stable, and to ensure that the failure of any large firm does not take the entire economy down with it."

Those comments were in made with respect to the work on regulatory reform that Congress has been hammering away at for the past year. The president then went on to unveil two additional reforms of his own, specifically mentioning the operation of hedge and private equity funds and proprietary trading operations by financial firms that received taxpayer support, and the expansion of the use of caps beyond just deposits to other funding sources used by the banks.

It's difficult to say what companies will be most affected by these reforms until the details of any resulting legislation are hammered out, and the stocks bounced a bit late in the day when Congressman Barney Frank, a Democrat from Massachusetts who serves on the House of Representatives' Financial Services Committee, reportedly told

CNBC

that he would support a slow implementation of Obama's plan over a three-to-five year timeframe.

Goldman Sachs, for example, guards the size of its proprietary trading operations quite closely, although CFO David Viniar estimated the amount at roughly 10% of total revenue on the company's

conference call

Thursday. The company's private equity activities are considerable, however. GS Capital Partners, a unit that invest across a number of industries and geographies, most recently raised a $20.3 billion fund in 2007, and GS Mezzanine Partners, a debt provider, closed on a $13 billion pool the same year.

Bank of America also makes private equity and mezzanine debt investments through its BAML Capital Partners unit and other businesses. And JPMorgan notes on the Web page for its

private banking business

that it was listed at the number two hedge fund manager in the world by assets, according to

Absolute Return

magazine in March 2009, and says it manages more than $250 billion in client assets.

FBR Capital issued a research note following Obama's speech saying it sees more initial support for the risk-taking limits than it does for the size limits.

"Based on discussions with our sources on Capitol Hill, we believe that the proposed reform to eliminate prop desks and hedge funds from banks will gain strong traction in the Senate, and therefore has a higher probability of passage; however the other elements of the package

Too Big to Fail/reinstitute Glass-Steagall are less certain and may be left to regulators rather imposed by Congressional mandate," the firm told clients.

Regardless, given Thursday's news and Obama's earlier proposal for the use of bank fees to cover TARP losses, it's obvious that investing in the big banks has become a much foggier proposition, given that the shape of inevitable reform has only started to materialize and may in the end be much more restrictive than previously expected.

Written by Michael Baron in New York.