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The regulatory overhaul of the financial system that passed last summer scored a big victory: It barred investment banks’ wagering with their own capital. Some cynics expect Wall Street will find a way around these rules. By "some," I conservatively estimate that to be 99 percent of people who don’t work on Wall Street, and 100 percent of those who do.

Yes, banks like Goldman Sachs, JPMorgan Chase and Morgan Stanley have been jettisoning hedge funds and other “proprietary traders” to comply with the new edict, called the Volcker rule.

But there isn’t a clear and bright line here. Defining proprietary trading is extremely difficult because it’s almost impossible to distinguish it from making markets. Goldman gets most of its profits from trading businesses, but says that the majority of such trading is for clients. Regulators are struggling to define this, and investment banks are pouring their lobbying muscle into educating them.

To understand why this task is so hard, it’s worth going through an obscure transaction that Goldman Sachs did in London this year.

The story starts in the summer of 2008. Bear Stearns had collapsed. The housing bubble was bursting. So was another bubble, in loans to junky companies. Banks, which had doled out overly generous loans to high-risk corporations, would get stuck with losses on many of these.

During this period, Goldman Sachs bundled a bunch of these loans into a special concoction called CELF Partnership — or CELF-interested.

Of the 1.5 billion euro deal (about $2 billion today), 1.2 billion euros came from Goldman’s own balance sheet. Goldman whipped the deal out the door in July 2008.

Just two months later, the financial crisis roared to a boil and the assets backing the CELF bonds, like all such investments, wilted. Those who bought CELF were sitting on paper losses.

Earlier this year, the CELF deal got interesting. The big investor in the deal, a Dutch pension fund, wanted out. It owned the triple-A rated portion of the CELF deal.

The investor went back to the underwriter, Goldman, and after an auction, the firm bought it from its client. Because the market had declined, the investor took a loss.

In addition to buying the triple-A position, Goldman also bought some of the equity, or the bottom part of the deal. The equity carried ownership rights. Goldman bought enough equity to become the majority holder of the deal.

By controlling such a deal, an owner can "call" a deal, or unwind the transaction. When that happens, the assets are sold and the owners are paid in sequence, by their seniority. In other words, the triple-A holder gets paid in full first, and so on, down to the equity.

We know that Goldman took control of the deal because it issued an obscure notice to the Irish Stock Exchange, saying that it now owned a majority of the equity of the fund. That notice listed the Goldman executive who was responsible for the position: Norman Hardie.

So who is Norman Hardie? Does he run a hedge fund that Goldman is booting out the door? Is he a Goldman prop trader? Nope. At the time, he was in charge of a part of Goldman’s structured finance business. Supposedly, that’s a division that serves clients. Yet here he was snapping up big pieces of complex deals, putting his firm’s capital at risk.

Goldman made a bundle on the trade. Even though the CELF assets aren’t worth today what they were in 2008, there was enough money that in unwinding the trade, all the debt holders — including Goldman — got paid off in full. The holders of the equity were left with cents on the dollar. For Goldman, the trick was that it was worth a small loss on the equity to make a big gain on the debt.

So Goldman made money and some of its clients took a loss. At this point, few would be surprised by that.

Still, as the underwriter, Goldman sure seemed as if it were in a unique position to profit. Goldman had a thorough knowledge of the CELF assets and knew all the original investors.

But was there anything wrong with what it did? No.

The important point is that this is a big way that Goldman makes money.

Yet Goldman says its CELF trade was not proprietary trading at all. It was all done to help its client. What’s more, it paid that client above-market rates.

“Our client decided to sell its investment," the firm said in a statement. "It took independent advice and ran a competitive sale process. We offered the highest price. This is a good example of helping a client achieve its objective, and underscores the critical importance banks play in using their capital to facilitate transactions on behalf of clients.”

That’s very similar to the arguments that the financial industry’s lobbyists will be making to complicate things for the definers of the Volcker rule.

In the CELF transaction, Goldman took a big risk with its own money. The problem, exemplified by the financial crisis, was that when banks make those bets, they take their big winnings to the Hamptons but saddle us, as taxpayers, with the losses.

There’s a new law to curtail this kind of behavior. Because of the way Wall Street does business these days, it’s fair to question whether it will work.

Read the CELF prospectus.

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