Fed Issues Proposed Rule for Conformity with Volcker Rule

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Much has already been written about the possible impact of the Volcker Rule on the financial services industry. Taking an initial step in helping the market understand when the impact will come, although not yet what it will be, the Federal Reserve Board (the “Fed”) on November 17, 2010 requested comment on a proposed rule to implement provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) that give banking entities a defined period of time to conform their activities and investments to the so-called Volcker Rule. In general, the date by which banking entities must comply with new Section 13 of the Bank Holding Company Act of 1956 (the “Volcker Rule”) is two years after the earlier of July 21, 2012 or the date on which the final Volcker Rule regulations are adopted. The proposal, among other things, sheds further light on how banking entities can obtain potentially very lengthy extensions beyond this initial conformance period for compliance with the Volcker Rule. The proposal does not address the substantive issues reserved for subsequent regulations that will define the actual contours of the Volcker Rule.

The Volcker Rule generally prohibits banking entities – broadly defined to include banks, parents of banks and subsidiaries and affiliates of either of them – from engaging in proprietary trading in securities, derivatives, or certain other financial instruments, and from investing in, sponsoring, or having certain relationships with a hedge fund or private equity fund, subject to certain exceptions. The Dodd-Frank Act requires the Fed to issue rules implementing the Volcker Rule’s conformance period. The comment period is open for about 45 days. The Fed’s announcement is available here.

By statute, banking entities may apply to the Fed for additional time to comply with the restrictions of the Volcker Rule beyond the initial two-year conformance period. First, banking entities may apply for up to three additional one-year extensions, for a potential total five-year conformance period. The Fed must determine that granting such an extension is consistent with the purposes of the Volcker Rule and will not be detrimental to the public interest. Second, banking entities may apply for a single extended transition period of up to five years, in order to meet contractual obligations to illiquid hedge funds or private equity funds that were in effect as of May 21, 2010. The proposal defines terms necessary to implement the extended transition period, including “illiquid fund,” “liquid asset,” and “principally invested.” While this extended transition period may be granted in addition to the conformance period, it terminates automatically when the banking entity is no longer subject to the contractual commitment.

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