After much anticipation and expectation, on June 25, 2020, the Federal Reserve Board, CFTC, FDIC, OCC, and SEC (the “agencies”) finalized an amendment to Section 13 of the Bank Holding Company Act, commonly known as the Volcker Rule, which among other things prohibits banking entities from sponsoring or acquiring ownership interests in “covered funds.” Covered funds are entities that would be investment companies but for exemptions provided under Sections 3(c)(1) or 3(c)(7) of the Investment Company Act, and generally include private equity funds and hedge funds. The final rule, which goes into effect on October 1, mostly follows what the agencies had signaled to everyone back in the mask and quarantine-free days of January when it released proposed changes that are largely adopted in the final rule.
The changes continue a trend by the agencies to relax the regulations and make the Volcker Rule more flexible, a process begun in 2017. For instance, the amendment includes language exempting qualifying foreign excluded funds from the Volcker Rule’s restrictions on proprietary trading and investing in covered funds, effectively codifying interpretive relief that the banking agencies had provided in 2017. In 2018, the agencies formally proposed an amendment to the Volcker Rule regulations to address concerns that arose with respect to the Volcker Rule’s restrictions and adopted final rule changes based on that proposal in November 2019, effective in January 2020. This amendment to the Volcker Rule regulations, among other things simplified proprietary trading restrictions, provided additional exclusions for financial instruments, removed restrictions on foreign banks trading through U.S. counterparties, and reduced certain compliance and reporting requirements. Although the agencies in November 2019 punted on many earlier public comments to the 2018 proposal with respect to covered fund activities, in February 2020 they proposed, and on June 25, 2020, finally adopted reforms to the covered fund restrictions.
As discussed further in a recent Dechert OnPoint, the final rule gives more flexibility to banking entities and, most notably for loan securitizations such as CLOs, adds to the list of exclusions to the definition of covered fund. In addition, the final rule no longer requires a covered fund to be authorized for sale to retail investors in its home jurisdiction to qualify as an excluded foreign public fund. For any reader looking for a more detailed summary of the changes, the OnPoint is available here.
Overall, whether or not the agencies will admit, the most recent amendment to the Volcker Rule regulations continues the trend of relaxation of regulations and increased flexibility. Although investors have generally welcomed the new amendment, with shares of all major banks going up on the day of the announcement, concern has been expressed among some media commenters, and opposition to these reforms registered by some members of the agencies’ governing bodies, who argue that the changes will “weaken core protections” and increase risk to pre-2008 levels. Whether the Volcker Rule will be further reformed and revised and what direction any new reforms will take is anybody’s guess, and will probably largely depend on political developments later this year.