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In the world of financial reform, an uneven playing field

A sharp war of words ensured between Bank of Canada head Mark Carney, above, who is co-ordinating the reforms as head of the Financial Stability Board, and JPMorgan Chase & Co. CEO Jamie Dimon.


After years of talk, regulators are at long last moving into the action phase of the revamp of global capital markets.

Global rule makers have spent much of the past half decade crafting overarching plans to curb risk and limit future bailouts. It is now up to individual nations to put in place their own rules to make it happen on a local level. Some countries are pushing ahead quickly, Canada among them. Others are lagging.

That's creating an ever-shifting and uneven playing field. Bankers and investors are frustrated. Policy makers and regular citizens have little patience, seeing it as whining. That fuels tension, creating set-tos such as the short but sharp war of words between JPMorgan Chase & Co. chief executive officer Jamie Dimon and Bank of Canada head Mark Carney, who is co-ordinating the reforms as head of the Financial Stability Board.

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"The street needs the clarity: this is the sandbox that you can go and play in," said Andrew Torres, chief investment officer at Toronto-based hedge fund Lawrence Park Capital Partners. Mr. Torres has years of experience trading in credit markets, including a stint as global head of credit products for Toronto-Dominion Bank.

There are myriad unintended consequences to the uneven approach to regulation. Banks in countries that are pushing ahead are safer, but at a disadvantage to banks in countries that are slower moving. A Canadian bank can't be as aggressive bidding on business as a bank in a country where regulations are not yet as strict. That arguably shifts risk away from solid countries like Canada to weaker jurisdictions that can ill afford to shoulder it.

While regulators have talked, markets have managed to take care of some of their own problems. Credit markets are simpler, lenders are more conservative, and once-dark corners of the derivatives world are being illuminated.

Natural selection has led to the extinction of many of the worst of what were once optimistically called "financial innovations." That includes the credit derivatives created by packaging up securities and derivatives into new bonds, a business known as structured finance.

In 2006, financial institutions were creating and selling half a trillion U.S. dollars a year of collateralized debt obligations (CDOs) – creations that bundled up bonds, loans and derivatives into new securities So far this year, a scant $10.8-billion of CDOs have been sold, according to the Securities Industry and Financial Markets Association. No regulator banned them. Investors simply stopped buying.

Markets have adapted.

Companies that once borrowed using the CDO or similar markets have had little trouble finding cash. Money is cheap thanks to central banks flooding markets with cash. Sales of high yield bonds, for example, which once fed the market for structured finance, are racing far ahead of the pre-crash pace, even though investors are demanding more conservative terms.

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"What hasn't changed is access to capital for good companies and good projects, that's absolutely there," said Darryl White, head of global investment and corporate banking for Bank of Montreal's securities division.

What has changed is investors are once again doing the homework of understanding the companies they are lending to, and buying individual bonds.

"It's old school," said Mr. White. "It's the bond equivalent of stock picking."

However, there are concerns in the long term about the struggles of some areas of the non-bank financial system, also known as the shadow banking world. Nobody wants a return to the days of CDOs full of derivatives and dodgy home loans, or asset-backed commercial paper that's prone to freezing. But lower-risk areas are also struggling.

In Canada, the market for asset-backed securities has shrunk by close to half since the crisis, taking away access to one venue for companies to finance their operations.

There's a limit to how small the market can be and "still be a credible alternative," said Jamie Feehely, managing director of structured finance at rating agency DBRS. If players in the market give up, "we'll close out an option."

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Even Mr. Carney, while pledging to ensure shadow banking is safe, knows that it is also crucial. He told the Financial Times that it "provides diversification for the financial system and, therefore, resilience."

Mr. Torres just wants to know what the rules are so business can move on. "Global capital markets, a lot of it does work, and has worked for decades," said Mr. Torres of Lawrence Park Capital. "We just need to get to the point where it can be allowed to operate without the overhang of wholesale regulatory changes"

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