The rule that the late Paul Volker wanted to impose on banks was to stop them from engaging in proprietary trading. If the government was going to provide a back stop, then the banks should not be engaged in risky trading behavior with the protection of the federal government.
Although the Volker Rule sounds easy in concept, it’s been tough to implement and prove compliance. Even harder now that the line between investment bank and commercial bank largely does not exist.
One aspect of the Volker was to also get banks out of the business of sponsoring investment funds. Section 13 of the Bank Holding Company Act of 1956 generally prohibits any banking entity from engaging in proprietary trading or from acquiring or retaining an ownership interest in, sponsoring, or having certain relationships with covered funds.
The definition of “covered fund” covered fund covered a hedge fund or private equity fund. For compliance, you need to dive into the definition:
“The terms “hedge fund” and “private equity fund” mean an issuer that would be an investment company, as defined in the Investment Company Act of 1940 (15 U.S.C. 80a–1 et seq.), but for section 3(c)(1) or 3(c)(7) of that Act “
So it’s the same definition of private fund from the Investment Advisers Act.
What’s proposed to be changed?
- Revise certain restrictions in the foreign public funds exclusion to more closely align the provision with the exclusion for similarly situated U.S. registered investment companies.
- Permit loan securitizations excluded from the rule to hold a small amount of non-loan assets, consistent with past industry practice, and codify existing staff-level guidance regarding this exclusion.
- Be able to invest in and have certain relationships with credit funds that extend the type of credit that a banking entity may provide directly
- Exclude venture capital funds from the definition of covered fund
- Exclude an entity created and used to facilitate a customer’s exposures to a transaction, investment strategy, or other service.
- Exclude wealth management vehicles that manage the investment portfolio of a family, and certain other persons, allowing a banking entity to provide integrated private wealth management services.
- Make clear that an “ownership interest” in a fund does not include bona fide senior loans or senior debt instruments interests in the fund
The proposal to exclude venture capital funds sticks out from the others. It may even be the riskiest of these.
The argument for venture capital funds is that they “promote growth, capital formation, and competitiveness.” (See page 60) With the lack of leverage and reliance on other securities, venture capital funds are less interconnected with the broader markets. ” Banking entity investments in qualifying venture capital funds may benefit the broader financial system by improving the flow of financing to small businesses and start-ups and thus may promote and protect the financial stability of the United States.” (see page 60)
For the definition of “venture capital fund” the proposal refers to the SEC’s definition in 203(l)-1, with the limitations on holdings and debt.
This seems like good lobbying by venture capital. Comment period is open for the proposals. Let’s see if sticks.
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