Proposed Changes Subject to 60-Day Comment Period

On May 30, the Federal Reserve Board of Governors voted unanimously in favor of a proposal to amend section 13 of the Bank Holding Company Act (Volcker Rule), which was issued in 2013 and authorized by the Dodd-Frank Act of 2010. The proposed rule is designed to simplify and tailor compliance requirements based upon institutional trading activity. It would redefine key concepts such as the current three-pronged definition of “trading account” and modify covered fund restrictions and exemptions from proprietary trading. The proposed rule also reexamines regulations affecting market-making, underwriting, and hedging.

This measure was constructed jointly by the four prudential regulators with jurisdiction in this area (OCC, FDIC, SEC, and CFTC) and invites a 60-day public comment period. Notably, the proposal would not implement changes that most recently were mandated by banking reform legislation signed into law on May 24 (Economic Growth, Regulatory Relief, and Consumer Protection Act, P.L. 115-174). These revisions exempt institutions with less than $10 billion in assets and small trading books from the Volcker Rule. The Fed has indicated that it would undertake a separate rulemaking to implement these new modifications. Additionally, the May 30 proposal clarifies that regulators will enforce the 2013 rule in accordance with these most recent statutory changes. 

A summary of the Fed proposal is below.

Trading Activity 

• Creates three regulatory tiers based on significant, moderate, and limited consolidated gross trading assets and liabilities rather than asset size. The top tier threshold would be defined as having at least $10 billion in trading assets and liabilities while the limited tier would be characterized by less than $1 billion in this activity. Limited tier firms would be presumed compliant with the Rule and requirements would be tailored for the remaining tiers based on activity volume.

Proprietary Trading Restrictions

• Replaces the short-term intent prong in the definition of “trading account” with an accounting prong based on the treatment of a position. The accounting prong would apply to derivatives, trading securities, and available-for-sale securities and the proposal would remove the current 60-day rebuttable presumption. Dealing desks subject only to the accounting prong and that meet other requirements would be presumed compliant with the prohibition on proprietary trading. The proposal also expands the liquidity management and error trades exclusions.

• Proposes that an instrument transaction would not exceed RENTD if the institution creates and enforces underwriting and market-making internal risk limits for each dealing desk. The measure would strike internal underwriting and market-making compliance requirements for institutions in the moderate or limited regulatory tier.

• Recognizes the inadequacies of the correlation analysis and “demonstrably reduces or otherwise significantly mitigates” specific risk requirements regarding hedging, and eliminates these from the Rule. The proposal also would simplify hedging requirements for institutions without significant trading assets and liabilities and reduce hedging documentation burdens for significant tier entities.

Covered Fund Activities and Investments

• Invites public comment on how the definition of “covered fund” might be revised. The measure no longer would require an institution to include ownership interests in certain covered funds in its aggregate fund limit and capital deduction. Additionally, the proposal would create a new condition for the hedging exemption in cases where an institution acts as an intermediary for a non-banking entity in order to facilitate the customer’s exposure to the covered fund.

• Extends the one-year no-action period in the July 21, 2017 policy statement by regulators regarding U.S. registered investment companies (RICs) and foreign excluded funds through July 21, 2019. The frequently asked questions on RICs and foreign public funds also would remain in effect.

Compliance Program

• Rescinds the Rule’s enhanced minimum standards for compliance in favor of a tailored program. 

• • Significant tier institutions: Subject to the six-pillar, metrics reporting, underwriting and market-making, covered fund documentation, and CEO attestation requirements.

  • Moderate tier institutions: Required to create a simplified compliance program and fulfill CEO attestation.

  • Limited tier institutions: Presumed compliance with the Rule unless a federal regulator determines, upon review, that an entity must implement a simplified compliance program.