The Five-Letter Word No One Can Define

How hard can it be to define one small word? Hard enough to delay a key part of Dodd-Frank, the contentious Wall Street reform law passed in 2010 that’s supposed to make the U.S. safer from future financial crises. Hard enough that regulators are warring over it not only with Wall Street but also with each other. And hard enough that President Obama has dispatched Treasury Secretary Jacob Lew to knock heads to get an agreement by yearend.

The tricky little word is “hedge.” One Dodd-Frank provision, the Volcker Rule—named after the former Federal Reserve chairman who pressed for it—prohibits banks from trading for their own profit and thus putting depositors and taxpayers at risk. But it carves out an exception for anything that qualifies as a hedge, traditionally defined as a financial transaction intended to offset the risk of another transaction rather than speculate for profit. For example, a put option on a stock rises in value when the stock goes down, making up for the loss. Trouble is, an instrument like a put could function as a hedge in one situation and speculation in another. Banks could attempt to get around the Volcker Rule simply by calling their speculative bets hedges.