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ABA Drops Suit Against Volcker Rule but Issues Remain

In January, the five regulatory agencies responsible for carrying out the Volcker Rule—the Federal Reserve, Commodity Futures Trading Commission, Federal Deposit Insurance Corporation, Office of the Comptroller of the Currency, and the Securities and Exchange Commission—issued an interim final rule modifying portions of the initial version of the final rule released in December.1 The modifications were made in response to a suit filed by the American Bankers Association (“ABA”) on behalf of smaller banks.2

The Volcker Rule, implemented by Title VI of the Dodd-Frank Act, prohibits an insured depository institution from engaging in proprietary trading, acquiring or retaining any equity, partnership, or other ownership interest in a hedge fund or private equity fund, and sponsoring a hedge fund or private equity fund.3 Originally, the final rule provisions would have required smaller community banks still holding collateralized debt obligations backed by trust-preferred securities (“TruPS CDOs”) to sell these securities, forcing them to recognize losses on them.4 The ABA suit claimed that this would create a large financial burden for 275 small banks, making them less likely to lend to consumers and businesses without producing the intended effect of the Volcker Rule, which was to reduce the risky behavior of large banks.5 The modified terms would allow these banks to keep these instruments if the following three qualifications are met: (1) the TruPS CDO was established and issued interest before May 19, 2010; (2) the bank believes that the offering proceeds were invested primarily in Qualifying TruPS Collateral6; (3) the bank’s interest in the TruPS CDO was acquired on or before December 10, 2013.7

The ABA, after analyzing the impact of the changes and consulting with their members, released a statement last week announcing the dismissal of their suit.8 While the modified terms in the interim final rule would relieve the burden on many banks, concerns remain regarding those banks whose business activities would still be affected.9 ABA CEO Frank Keating’s statement indicated that the trade group plans to continue working with regulators to resolve these issues and address unintended consequences.10

Larger banks have also taken issue with provisions in the final rule.11 These banks are concerned about the potential losses involved in being required to divest collateralized loan obligations (CLOs) that own bonds.12 The CLO market, which has been estimated at $300 billion, has already seen issuance fall to a 17-month low.13 Lower returns are also possible, as CLO managers sell high-yield bonds in an attempt to fall within the exempt category.14 While the modifications found in the interim final rule did not address the CLO issue,15 Federal Reserve Chairman Janet Yellen has indicated that clarification is pending.16

Regulators have a few options for dealing with the CLO issue. The most direct solution would be to distinguish CLOs from hedge funds and exclude them from the list of covered funds.17 Another option is to grandfather in legacy CLOs—exclude those that were established prior to the promulgation of the final rule.18 With respect to debt tranches of CLO vehicles that include the right to remove collateral managers, it has been suggested that this right either be excluded from the definition of ownership interest or that the banks be given the option to waive such rights.19

Volcker Rule opponents are also exploring the possibility that regulators may have violated the 1995 Unfunded Mandates Reform Act or the Riegle Community Development and Regulatory Improvement Act.20 The Unfunded Mandates Reform Act requires that the Office of the Comptroller of the Currency (“OCC”) assess the economic impact of new rules that cost more than $100 million, while the Riegle Act requires that the Federal Reserve, the Federal Deposit Insurance Corporation, and the OCC weigh the administrative burdens of the rule against the potential benefits.21 As of now, whether suits will be filed has yet to be decided.22

In terms of enforcing the Volcker Rule, no single agency will take the lead.23 To address cross-agency differences and promote cross-agency coordination, the five agencies have created an inter-agency group tasked with reviewing the rule and ensuring consistency across agency interpretations.24 However, the original domains of each agency will remain in place.25 It is unclear whether formal enforcement procedures will be adopted, but at least one agency is considering the possibility.26

  1. Joint Press Release, Bd. of Governors of the Fed. Reserve Sys., Commodity Futures Trading Comm’n, Fed. Deposit Ins. Corp., Office of the Comptroller of the Currency & Sec. and Exch. Comm’n, Agencies Approve Interim Final Rule Authorizing Retention of Interests in and Sponsorship of Collateralized Debt Obligations Backed Primarily by Bank-Issued Trust Preferred Securities (January 14, 2014),

  2. Rachel Abrams, After Changes, Banking Group Drops Suit Against Volcker Rule, N.Y. Times (Feb. 12, 2014),

  3. William J. Sweet, Jr. & Brian D. Christiansen, The Volcker Rule, Skadden,

  4. Id. 

  5. Id. 

  6. “Qualifying TruPS Collateral” is defined under the interim final rule as “any trust preferred security or subordinated debt instrument issued prior to May 19, 2010 by a depository institution holding company that, for any reporting period during the 12 months immediately preceding the issuance of such instrument, had total consolidated assets of less than $15 billion or issued prior to May 19, 2010 by a mutual holding company.” Treatment of Certain Collateralized Debt Obligations Backed Primarily by Trust Preferred Securities with Regard to Prohibitions and Restrictions on Certain Interests in, and Relationships with, Hedge Funds and Private equity Funds, 79 Fed. Reg. 5,225 (Jan. 31, 2014), available at

  7. Joint Press Release, Bd. of Governors of the Fed. Reserve Sys., supra note 1. 

  8. Press Release, American Bankers Association, ABA to Drop Lawsuit on Volcker Rule TruPS Provisions (Feb. 12, 2014),

  9. Id. 

  10. Id. 

  11. Cheyenne Hopkins & Jesse Hamilton, Volcker Rule Unity is Implementation aim of Regulator Group, Bloomberg (Feb. 5, 2014),

  12. Sarah Husband, Volcker Rule’s Non-Exemption of CLOs with Bonds Holds Potential to Disrupt Market, Forbes (Dec. 17, 2013),

  13. Kristen Haunss, CLO Issuance Jumps as U.S. Managers Bet on Volcker Rule Verdict, Bloomberg (Feb. 19, 2014),

  14. Billy Cheung, Volcker May Cut CLO Returns, Force Selling, Reuters (Dec. 13, 2013),

  15. Hopkins & Hamilton, supra note 9. 

  16. Haunss, supra note 11. 

  17. Margaret E. Tahyar, Who Knew That CLOs Were Hedge Funds?, Davis Polk & Wardwell LLP (Feb. 10, 2014),

  18. Id. 

  19. Id. 

  20. Sarah N. Lynch & Emily Stephenson, Critics Claim Volcker Rule Skirts Cost-Benefit Laws, Reuters (Feb. 12, 2014),

  21. Id. 

  22. Id. 

  23. Henry Engler, Volcker Rule Enforcement: Regulators Attempt a United Front, Financial Regulatory Forum (Feb. 19, 2014),

  24. Id. 

  25. Id. 

  26. Hopkins & Hamilton, supra note 9.