By Jeff Bater
President Donald Trump’s financial regulation team will target the Volcker rule in 2018, with the intent to lighten the compliance burden on banks and clear up costly confusion over its trading restrictions.
Only Congress can exempt federally-insured banks from the limits on trading and speculative investments mandated under the Dodd-Frank Act. But the Federal Reserve and other regulators have the discretion to offer relief, such as providing a clearer distinction between proprietary trading and routine market making activities.
“I think with the Trump appointments, particularly with a Jerome Powell and Randy Quarles Fed, I think you’ll see some reform of the Volcker rule,” Chris Cole, executive vice president and senior regulatory counsel at the Independent Community Bankers of America, told Bloomberg Law.
The Volcker rule restricts trading by banks and their opportunities to hold stakes in private-equity and hedge funds, also known as “covered funds.” The rule was intended to prevent federally-insured depository institutions from engaging in stand-alone proprietary trading, and taking excessive risks that could destabilize the financial markets. The Treasury Department called for relaxing the rule’s compliance requirements in a June report.
Banks have long protested the rule, calling it confusing, and regulators have already had a sympathetic ear. Five agencies—the Fed, the Office of the Comptroller of the Currency, the Securities and Exchange Commission, the Federal Deposit Insurance Corporation, and the Commodity Futures Trading Commission—announced last July they were reviewing the treatment of certain foreign funds under Volcker. The agencies said they would halt enforcement of the Volcker Rule for one year for qualifying foreign funds while they conduct the review.
For the coming year, it’s possible that regulators will issue additional “favorable interpretations, or FAQs, like they did last summer with respect to foreign banks,” Mark Chorazak, a lawyer at Simpson Thacher & Bartlett in New York, told Bloomberg Law.
The OCC put out a formal call for comment last August, asking industry to discuss how to revise Volcker. None of the other four financial agencies followed suit—but that could soon change.
“They’re going solo with that, but it raises the question about potential changes that would be warranted regarding the rule’s implementation,” Alston & Bird partner Clifford Stanford told Bloomberg Law. “Assuming there is no legislative advance, I do think there are things the new personnel at the agencies are doing and can do and perhaps will do. Personnel is policy.”
Trump’s pick to head the Fed, Jerome Powell, said at his confirmation hearing he supports rewriting the Volcker rule. Two other Trump nominees, Randal Quarles as vice chair for bank supervision at the Fed, and Joseph Otting as comptroller of the currency, recently took office. SEC Chairman Jay Clayton and CFTC Chairman J. Christopher Giancarlo, who’s also publicly called for a Volcker rewrite, have been in place for much of the year.
The Treasury report recommends simplifying the definition of proprietary trading and allowing banks to more easily hedge their risks and conduct market-making activities.
“I think there will be an effort by agencies to tweak definition of market making to make it less onerous and maybe change the presumption away from prop trading and toward market making,” Milan Dalal, of counsel at Brownstein Hyatt Farber Schreck, told Bloomberg Law. “One of the difficulties has been a distinction between what is legitimate market making and what is proprietary trading.”
Another tweak regulators could make to the rule without congressional action is limiting the definition of covered funds to funds engaged primarily in short-term proprietary trading, the American Bankers Association said in an October letter to Powell.
Chorazak said agencies could tailor or streamline compliance program requirements for certain banks based on size or another characteristic.
The ICBA’s Cole said regulators could make it clear that any hedging activity by banks with assets below $50 billion would be presumed not to be engaging in proprietary trading. “There wouldn’t be this question mark when they do engage in hedging activity,” he said. “If the issue comes up by an examiner, they have to show it’s a true hedge and the bank is not just investing in derivatives.”
What rankles banks is that Volcker applies to institutions that never had a trading desk, according to Robert Hatch, senior director & counsel of regulatory affairs for the Financial Services Roundtable.
“But when you have institutions that do have a trading desk, you always have to prove the negative in that this trade was for market-making purposes as opposed to taking advantage of a movement of price in the market,” he told Bloomberg Law.
Hatch gave the example of a supermarket buying produce. “Did they buy a lot of bananas because bananas were cheap and they could make a big profit,” he said. “Or did they buy bananas because they looked at the season and thought they were going to sell a lot. Under the Volcker rule, it always has to be because you expected you were going to be able to sell them soon. But what if it’s both? That can cause a lot of confusion.”
The banking industry is also hoping that Congress will take action to ease or even eliminate the Volcker Rule.
The Senate Banking Committee approved legislation (S. 2155) Dec. 5 that would automatically exempt banks with less than $10 billion in assets from the Volcker Rule. The Volcker language is among several Dodd-Frank Act changes that are intended to benefit small and mid-size banks and have the support of nearly a dozen Senate Democrats.
In June, the House passed a sweeping overhaul (H.R. 10) of the Dodd-Frank Act that would repeal the Volcker Rule entirely. But that measure only has Republican support.
“It’s highly unlikely any congressional bill to tweak or repeal the Volcker Rule for banks larger than $10 billion in assets will pass—the appetite among Democrats just isn’t there,” Dalal said.
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