Source: https://www.federalreserve.gov/supervisionreg/faq.htm
Timestamp: 2019-04-23 20:14:18+00:00

Document:
Section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act added a new section 13 to the Bank Holding Company Act of 1956 ("BHC Act"), commonly referred to as the Volcker rule, that generally prohibits insured depository institutions and any company affiliated with an insured depository institution from engaging in proprietary trading and from acquiring or retaining ownership interests in, sponsoring, or having certain relationships with a hedge fund or private equity fund. These prohibitions are subject to a number of statutory exemptions, restrictions, and definitions.
The Federal Reserve Board ("Board") is working closely with the other agencies charged with implementing the requirements of section 13, including the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation, the Securities and Exchange Commission, and the Commodity Futures Trading Commission (each an "Agency" and collectively with the Board "the Agencies"). While these frequently asked questions ("FAQs") apply to banking entities for which the Board has jurisdiction under section 13 of the BHC Act, they have been developed by staffs of the Agencies and substantively identical versions will appear on the public websites of each Agency.
To comply with the requirement to record and report quantitative measurements in § 248.20(d) and Appendix A, when must a banking entity with $50 billion or greater in trading assets and liabilities begin to measure and record the required metrics? When must the banking entity begin to report metrics data to the Board?
May a trading desk span multiple affiliated banking entities? If a trading desk spans multiple affiliated banking entities, to which Agency(ies) should a banking entity report metrics?
How do the requirements of section 13 of the BHC Act and the final rule apply to a banking entity during the conformance period? For instance, must a banking entity deduct its investment in a covered fund from its tier 1 capital prior to the end of the conformance period?
Are the "rights or other assets" described in § 248.10(c)(8)(i)(B) ("servicing assets") limited to "permitted securities," or can other assets be servicing assets for purposes of the loan securitization exclusion?
The final rule excludes from the definition of covered fund a registered investment company and business development company, including an entity that is formed and operated pursuant to a written plan to become one of these entities. Would an entity that is formed and operated pursuant to a written plan to become a foreign public fund receive the same treatment?
Section 248.11 of the final rule provides that a banking entity may acquire and retain an ownership interest in a covered fund that the banking entity organizes and offers, subject to a number of conditions. Among other things, these conditions require that the covered fund, for corporate, marketing, promotional or other purposes does not share the same name or a variation of the same name with the banking entity (or an affiliate thereof). What does it mean for a covered fund to share the same name or a variation of the same name with a banking entity?
Under the final rule, banking entities subject to the enhanced minimum standards for compliance programs under Appendix B of the final rule must provide an annual CEO attestation regarding the banking entity's compliance program. When must the first annual CEO attestation required under Appendix B be provided to the relevant Agency?
Appendix A of the final rule provides that certain of the metrics required to be reported by banking entities under the final rule should include the limits set out in §§ 248.4 and 248.5 of the final rule. Since the limits required by §§ 248.4 and 248.5 of the final rule are not required to be established prior to the end of the conformance period, when would a banking entity need to report metrics that include these limits?
How are certain mortgage-backed securities issuers sponsored by government-sponsored enterprises ("GSEs") treated under the final rule's covered funds provisions?
Are the quantitative measurements that a banking entity reports under Appendix A of the final rule protected by the Freedom of Information Act ("FOIA")?
On what date do banking entities that currently are subject to metrics reporting under Appendix A of the final rule implementing section 13 of the BHC Act need to start reporting metrics within 10 days of the end of each calendar month?
Are interest-only and principal-only STRIPS of notes and bonds issued by the U.S. Treasury considered "obligations of, or issued or guaranteed by, the United States" under 12 CFR 248.6(a)(1) of the final rule implementing section 13 of the BHC Act? Is the same true for securities reconstituted from STRIPS of U.S. Treasury notes or bonds?
Section 13(d)(1)(I) of the Bank Holding Company Act ("BHC Act") and section 248.13(b) of the final rule provide an exemption for certain covered fund activities conducted by foreign banking entities (the "SOTUS covered fund exemption") provided that, among other conditions, "no ownership interest in such hedge fund or private equity fund is offered for sale or sold to a resident of the United States" (the "marketing restriction"). Does the marketing restriction apply only to the activities of a foreign banking entity that is seeking to rely on the SOTUS covered fund exemption or does it apply more generally to the activities of any person offering for sale or selling ownership interests in the covered fund? Sponsors of covered funds and foreign banking entities have asked how this condition would apply to a foreign banking entity that has made, or intends to make, an investment in a covered fund where the foreign banking entity (including its affiliates) does not sponsor, or serve, directly or indirectly, as the investment manager, investment adviser, commodity pool operator or commodity trading advisor to, the covered fund (a "third-party covered fund").
How does the final rule apply to a foreign public fund sponsored by a banking entity?
May an issuer that would be a covered fund rely on the joint venture exclusion from the definition of covered fund under § 248.10(c)(3) of the final rule?
Is a registered investment company or a foreign public fund a banking entity subject to section 13 of the BHC Act and implementing rules during its seeding period?
May a banking entity's compliance program for market making-related activities include objective factors on which a trading desk may reasonably rely to determine whether a security is issued by a covered fund? Furthermore, may a market maker meet its compliance program requirements by making use of a shared utility or third party service provider that utilizes objective factors if the market maker reasonably believes the system of the shared utility or third party service provider will identify whether a security is issued by a covered fund?
When is a banking entity required to submit the annual CEO certification for prime brokerage transactions required by § 248.14(a)(2)(ii)(B) of the final rule? What about legacy covered funds?
If a banking entity exits a market-making business permitted under the final rule, how may the banking entity sell or unwind its residual market-making positions? How may the banking entity hedge its residual market-making positions under the final rule?
When does a banking entity become subject to the restrictions of section 13(f) and section 248.14 of the final rule with respect to a covered transaction with a covered fund? What about existing covered transactions?
Is a banking entity required to deduct from its tier 1 capital an investment in a collateralized debt obligation backed by trust preferred securities retained pursuant to section 248.16(a) of the interim final rule ("Qualifying TruPS CDO")?
1. To comply with the requirement to record and report quantitative measurements in § 248.20(d) and Appendix A, when must a banking entity with $50 billion or greater in trading assets and liabilities begin to measure and record the required metrics? When must the banking entity begin to report metrics data to the Board?
A banking entity with trading assets and liabilities of at least $50 billion, as calculated under § 248.20(d)(1), must begin to measure and record the required metrics on a daily basis starting July 1, 2014. As explained below, this banking entity must report its daily metrics recorded during the month of July to the Board by September 2, 2014.
Section 248.20(d)(2) provides that the threshold for reporting quantitative measurements under § 248.20(d)(1) is $50 billion beginning on June 30, 2014. This means that the first day for which daily metrics must be measured and recorded by a banking entity at the $50 billion threshold is July 1, 2014.
The final rule requires a banking entity at or above the $50 billion threshold to report metrics data for each calendar month within 30 days of the end of the month unless the Board notifies the banking entity in writing that it must report on a different basis. However, if the reporting deadline occurs on a Saturday, Sunday, or federal holiday, then a banking entity may report the data on the next business day following the reporting deadline. Thus, the relevant banking entity must collect metrics data for the month of July and report that data by September 2, 2014. This banking entity has until September 2, 2014 to report metrics data under these circumstances because August 30, 2014 (which is 30 days after July 31, 2014) is a Saturday, and the following Monday on September 1, 2014 is a federal holiday. Beginning with information for the month of January 2015, the final rule requires this banking entity to report metrics data within 10 days of the end of each calendar month, unless the Board notifies the banking entity in writing that it must report on a different basis.
2. May a trading desk span multiple affiliated banking entities? If a trading desk spans multiple affiliated banking entities, to which Agency(ies) should a banking entity report metrics?
The final rule defines trading desk to mean the smallest discrete unit of organization of a banking entity that purchases or sells financial instruments for the trading account of the banking entity or an affiliate thereof. As discussed in the preamble to the final rule, the Agencies expect that a trading desk would be managed and operated as an individual unit and should reflect the level at which the profit and loss of the traders is attributed. This approach allows more effective management of risks of trading activity by requiring the establishment of limits, management oversight, and accountability at the level where the trading activity occurs. It also allows banking entities to tailor the limits and procedures to the type of instruments traded and markets served by each trading desk.
The definition of "trading desk" specifically recognizes that the desk may buy or sell financial instruments "for the trading account of a banking entity or an affiliate thereof." The preamble to the final rule explains that a trading desk may span more than one legal entity and thus employees may be working on behalf of multiple affiliated legal entities. Additionally, trades and positions managed by the desk may be booked in different affiliated entities. The rules require that if a single trading desk books positions in different affiliated legal entities, it must have records that identify all positions included in the trading desk's financial exposure and the legal entities where such positions are held.
Appendix A to the final rule provides that a banking entity with significant trading assets and liabilities must furnish periodic reports to the Agencies regarding a variety of quantitative measurements of their covered trading activities. If a trading desk spans multiple legal entities, it must report quantitative measurements to each of the agencies with jurisdiction under section 13 of the BHC Act over any of the entities. For a trading desk that spans multiple affiliated banking entities, the quantitative measurements of Appendix A should be calculated at the level of the entire desk; calculations do not need to be performed separately for each subset of positions booked at the various banking entities that compose the trading desk. As indicated above, this same set of desk-wide measurements should be reported to each Agency that has authority under section 13 of the BHC Act over any of the affiliated entities that compose the trading desk so that the Agency may understand the context of the trading activity and discharge its responsibility for the legal entity that the Agency supervises or regulates.
3. How do the requirements of section 13 of the BHC Act and the final rule apply to a banking entity during the conformance period? For instance, must a banking entity deduct its investment in a covered fund from its tier 1 capital prior to the end of the conformance period?
As an example of how the conformance period works in practice, section 13(d)(4) of the BHC Act and § 248.12(d) of the final rule require a banking entity to deduct from the banking entity's tier 1 capital, as determined under § 248.12(c)(2) of the final rule, its permitted investments in all covered funds. A banking entity would not be required to make this deduction until the end of the conformance period, which is currently July 21, 2015. As noted above, a banking entity is expected to engage in good faith efforts during the conformance period so that it can comply with this requirement no later than the end of the conformance period. Notably, as specified in the final rule, certain metrics reporting requirements will be in place before the end of the conformance period for banking entities with $50 billion or greater in trading assets and liabilities.
1. See Board Order Approving Extension of Conformance Period (PDF).
2. See Statement of Policy Regarding the Conformance Period for Entities Engaged in Proprietary Trading or Private Equity Fund and Hedge Fund Activities, 77 Fed. Reg. 33,949 (June 8, 2012).
4. Are the "rights or other assets" described in § 248.10(c)(8)(i)(B) ("servicing assets") limited to "permitted securities," or can other assets be servicing assets for purposes of the loan securitization exclusion?
The exclusion from the definition of covered fund for loan securitizations provides that, in addition to loans, a loan securitization may hold rights or other assets designed to assure the servicing or timely distribution of proceeds to holders of such securities and rights or other assets that are related or incidental to purchasing or otherwise acquiring and holding the loans, provided that each asset meets the requirements of § 248.10(c)(8)(iii) of the final rule.
Under the final rule, servicing assets may be any type of asset. However, any servicing asset that is a security must be a permitted security under § 248.10(c)(8)(iii). Permitted securities under this section include cash equivalents and securities received in lieu of debts previously contracted as set forth in § 248.10(c)(8)(iii). The preamble to the final rule provides additional detail on the meaning of cash equivalents, noting that the Agencies interpret "cash equivalents" to mean high quality, highly liquid short term investments whose maturity corresponds to the securitization's expected or potential need for funds and whose currency corresponds to either the underlying loans or the asset-backed securities.
5. The final rule excludes from the definition of covered fund a registered investment company and business development company, including an entity that is formed and operated pursuant to a written plan to become one of these entities. Would an entity that is formed and operated pursuant to a written plan to become a foreign public fund receive the same treatment?
Section 248.10(c)(12) of the final rule explicitly excludes an issuer that is registered as an investment company under section 8 of the Investment Company Act of 1940 (15 U.S.C. 80a-8), or that is formed and operated pursuant to a written plan to become a registered investment company ("RIC") in accordance with the banking entity's compliance program as described in § 248.20(e)(3), and that complies with the requirements of section 18 of the Investment Company Act (15 U.S.C. 80a-18).3 Section 248.10(c)(1) of the final rule also excludes from the definition of covered fund a foreign public fund that is an issuer that is organized or established outside of the United States; is authorized to offer and sell ownership interests to retail investors in the issuer's home jurisdiction; and sells ownership interests predominantly through one or more public offerings outside of the United States Foreign public funds that meet these qualifications are therefore treated the same as RICs for purposes of the definition of "covered fund" under the final rule. Although the final rule excludes from the definition of covered fund certain seeding vehicles that will become RICs, as discussed above, the final rule does not address a seeding vehicle that will become a foreign public fund.
Staffs of the Agencies believe that, with respect to determining whether an entity is a covered fund, it would be appropriate that an issuer that will become an excluded foreign public fund be treated during its seeding period the same as an issuer that will become an excluded RIC. Accordingly, staffs of the Agencies do not intend to advise the Agencies to treat as a covered fund under the final rule an issuer that is formed and operated pursuant to a written plan to become a qualifying foreign public fund. Any written plan would be expected to document the banking entity's determination that the seeding vehicle will become a foreign public fund, the period of time during which the vehicle will operate as a seeding vehicle, the banking entity's plan to market the vehicle to third-party investors and convert it into a foreign public fund within the time period specified in § 248.12(a)(2)(i)(B) of subpart C, and the banking entity's plan to operate the seeding vehicle in a manner consistent with the investment strategy, including leverage, of the issuer upon becoming a foreign public fund. For purposes of the definition of covered fund, this would treat an issuer that becomes a qualifying foreign public fund the same as an issuer that becomes a RIC during the seeding period for the fund.
3. The final rule also explicitly excludes an issuer that has elected to be regulated as a business development company ("BDC") pursuant to section 54(a) of that Act (15 U.S.C. 80a-53) and has not withdrawn its election, or that is formed and operated pursuant to a written plan to become a BDC as described in § 248.20(e)(3) and that complies with the requirements of section 61 of the Investment Company Act of 1940 (15 U.S.C. 80a-60).
6. Section 248.11 of the final rule provides that a banking entity may acquire and retain an ownership interest in a covered fund that the banking entity organizes and offers, subject to a number of conditions. Among other things, these conditions require that the covered fund, for corporate, marketing, promotional or other purposes does not share the same name or a variation of the same name with the banking entity (or an affiliate thereof). What does it mean for a covered fund to share the same name or a variation of the same name with a banking entity?
A covered fund that is organized and offered by "banking entity A" may not share the same name or a variation of the same name as "banking entity A," nor may it share the same name or a variation of the same name as any affiliate of "banking entity A." Additionally, the final rule prohibits a covered fund from using the word "bank" in its name.
Similar restrictions on a fund sharing the same name, or variation of the same name, with an insured depository institution or company that controls an insured depository institution or having the word "bank" in its name, have been used previously in order to prevent customer confusion regarding the relationship between such companies and a fund.4 In order to comply with § 248.11(a)(6) of the final rule and not be considered to share the same name or variation of the same name with a banking entity, the name of a covered fund must be sufficiently distinct from the name of the banking entity that the covered fund's use of the name would not likely lead to customer confusion regarding the relationship between the banking entity and the covered fund. For instance, a covered fund would generally be considered to share the same name or a variation of the same name with a banking entity if the name of the fund features the same root word, initials or a logo, trademark, or other corporate symbol that is also used by, or that clearly references a connection with, the banking entity, including any affiliate of the banking entity. Additionally, materials used to market, promote, or offer the fund may not contain any statements that would mislead an investor into thinking that the banking entity or any of its affiliates, directly or indirectly, guarantee, assume, or otherwise insure the obligations or performance of the covered fund or any covered fund in which such covered fund invests.
4. See, e.g., 12 CFR 225.125(f); Bank of Ireland, 82 Fed. Res. Bull. 1129, 1132 (1996).
7. Under the final rule, banking entities subject to the enhanced minimum standards for compliance programs under Appendix B of the final rule must provide an annual CEO attestation regarding the banking entity's compliance program. When must the first annual CEO attestation required under Appendix B be provided to the relevant Agency?
The CEO attestation under Appendix B of the final rule is an annual requirement. The staffs of the Agencies believe that banking entities subject to Appendix B as of the end of the conformance period should submit the first CEO attestation required under Appendix B after the end of the conformance period but no later than March 31, 2016. A banking entity may provide the required annual attestation in writing at any time prior to the March 31 deadline to the relevant Agency. This allows the CEO time to review the design and operation of the entity's compliance program after the program is fully implemented to ensure it is reasonably designed to achieve compliance with section 13 and the final rule. Banking entities that become subject to Appendix B after the end of the conformance period should submit their first CEO attestation within one year of becoming subject to Appendix B.6 Thereafter, banking entities should provide the CEO attestation annually within one year of its prior attestation.
5. 12 CFR Part 248, Appendix B.
6. For example, a banking entity with between $25 billion and $50 billion in trading assets and liabilities, as described in §§ 248.20(c)(1) and (d), will be required to implement an enhanced compliance program by April 30, 2016. This banking entity would be required to provide its first CEO attestation to the relevant Agency by April 30, 2017.
8. Appendix A of the final rule provides that certain of the metrics required to be reported by banking entities under the final rule should include the limits set out in §§ 248.4 and 248.5 of the final rule. Since the limits required by §§ 248.4 and 248.5 of the final rule are not required to be established prior to the end of the conformance period, when would a banking entity need to report metrics that include these limits?
The limits required under the underwriting, market-making, and risk-mitigating hedging sections of the final rule must be in place by the end of the conformance period. A banking entity that reports metrics under Appendix A prior to the end of the conformance period need not report the limits required by §§ 248.4(a)(2)(iii), 248.4(b)(2)(iii), and 248.5(b)(1)(i) until the end of the conformance period. However, if such a banking entity already has in place or develops limits of the type described in §§ 248.4 and 248.5 prior to the end of the conformance period, the banking entity is urged to report such limits as part of its reporting of quantitative measurements to the appropriate Agency.
7. See Federal Reserve System, Order Approving Extension of Conformance Period (PDF) (Dec. 10, 2013).
8. See 12 CFR 248.20(d).
9. See Appendix A, 79 FR 5536 at 5798.
9. How are certain mortgage-backed securities issuers sponsored by government-sponsored enterprises ("GSEs") treated under the final rule's covered funds provisions?
Section 248.10(c)(12)(ii) of the final rule excludes from the definition of a covered fund an issuer that may rely on an exclusion or exemption from the definition of "investment company" under the Investment Company Act of 1940 other than the exclusions contained in section 3(c)(1) and 3(c)(7) of that Act. The SEC has stated that, "certain federally sponsored structured financings, such as those sponsored by the Federal National Mortgage Association, are exempted from the [Investment Company] Act under section 2(b), which exempts, among other things, activities of United States Government instrumentalities and wholly owned corporations of such instrumentalities."10 To the extent that an issuer may rely on section 2(b) of the Investment Company Act, the issuer would be relying on an exemption from regulation under the Investment Company Act other than the exclusions contained in section 3(c)(1) or 3(c)(7), and thus would qualify for the exclusion from the covered fund definition provided by section 248.10(c)(12)(ii) of the final rule.
10. See Exclusion From the Definition of Investment Company for Certain Structured Financings, Investment Company Act Rel. No. 18736 (June 5, 1992). In addition, staff in the SEC's Division of Investment Management have taken the position, based on the facts and representations presented to the staff in each case, that certain GSE-sponsored mortgage-backed securities issuers would not be required to register under the Investment Company Act in reliance on section 2(b) of that Act. See, e.g., Federal National Mortgage Association, SEC No-Action Letter (May 25, 1988) (expressing the staff's view that the Federal National Mortgage Association ("Fannie Mae") "is excluded from the 1940 Act under Section 2(b) as an instrumentality of the United States" and that Fannie Mae, rather than certain trusts, is the issuer for purposes of sections 3(a)(1) and 3(a)(3) of the Investment Company Act).
10. Are the quantitative measurements that a banking entity reports under Appendix A of the final rule protected by the Freedom of Information Act ("FOIA")?
The staffs of the Agencies encourage banking entities subject to Appendix A to evaluate exemptions available under the FOIA for their reported metrics information and to request confidential treatment as appropriate. Some firms have stated that metrics data reported to the Agencies represent confidential proprietary information of the banking entity. Exemption 4 of the FOIA protects matters that are trade secrets and commercial or financial information obtained from a person that is privileged or confidential.11 Other exemptions may also apply. We expect to maintain the confidentiality of the reported metrics information to the extent permitted by law.
11. 5 U.S.C. § 552(b)(4). Under the Board's Rules Regarding the Availability of Information (12 CFR part 261), banking entities may request that the Board provide confidential treatment to submitted materials. See 12 CFR 261.15.
11. On what date do banking entities that currently are subject to metrics reporting under Appendix A of the final rule implementing section 13 of the BHC Act need to start reporting metrics within 10 days of the end of each calendar month?
The final rule implementing section 13 of the BHC Act required certain of the largest banking entities to report metrics for July 2014 data beginning in September 2014.12 In particular, § 248.20(d)(3) of the rule provides that, unless the appropriate Agency notifies the banking entity in writing that it must report on a different basis, banking entities with $50 billion or more in trading assets and liabilities must report the information required by Appendix A for each calendar month within 30 days of the end of the relevant calendar month and beginning with information for the month of January 2015, within 10 days of the end of each calendar month.
The purpose of the shortened reporting schedule is to allow for more effective supervision of banking entities for compliance with section 13 and the final rule.13 Staffs of the Agencies believe that, during the period firms are building their compliance programs, delaying the shortened reporting period is consistent with that purpose. Accordingly, banking entities required to report metrics may report such information within 30 days of the end of the relevant calendar month through the report of metrics for the month of July 2015. This means that metrics for the month of July 2015 must be reported within 30 days of the end of the month, or August 31, 2015. Beginning with metrics for the month of August 2015, banking entities must submit metrics within 10 days of the end of the month. As a result, metrics for the month of August 2015 must be reported by September 10, 2015.
12. See 12 CFR 248.20(d)(2). Staffs of the Agencies previously issued an FAQ stating that a banking entity with trading assets and liabilities of at least $50 billion, as calculated under § 248.20(d)(1), must begin to measure and record the required metrics on a daily basis starting July 1, 2014 and report its daily metrics recorded during the month of July by September 2, 2014. See http://www.federalreserve.gov/bankinforeg/volcker-rule/faq.htm#1.
13. See 79 FR at 5765 n.2689.
12. Are interest-only and principal-only STRIPS of notes and bonds issued by the U.S. Treasury considered "obligations of, or issued or guaranteed by, the United States" under 12 CFR 248.6(a)(1) of the final rule implementing section 13 of the BHC Act? Is the same true for securities reconstituted from STRIPS of U.S. Treasury notes or bonds?
Yes. Under the Department of the Treasury's Separate Trading of Registered Interest and Principal of Securities program, eligible Treasury securities are authorized to be separated into principal and interest components and transferred separately.14 These separate principal and interest components are also referred to as "STRIPS." Like the fully constituted security, payments of principal and interest under these STRIPS are backed by the full faith and credit of the United States.15 Thus, the interest-only and principal-only components are obligations of, or issued or guaranteed by, the United States that would qualify for the exemption provided under § 248.6(a)(1) of the final rule implementing section 13 of the BHC Act.
In addition, Treasury regulations allow financial institutions and government securities brokers or dealers to reassemble corresponding STRIPS into their fully constituted form.16 This reconstituted security is also an obligation of, or issued or guaranteed by, the United States under § 248.6(a)(1) of the final rule.
15. See 51 Fed. Reg. 29085, 29088–89 (Aug. 14, 1986) (OCC interpretive ruling citing Memorandum from Walter T. Eccard, Assistant General Counsel for Banking and Finance, Department of the Treasury, to Jordan Luke, Deputy Chief Counsel (Policy), OCC (May 29, 1986)); accord Call Report Glossary, at A-14b (Dec 2014) ("Even after the interest or principal portions of U.S. Treasury STRIPS have been separately traded, they remain obligations of the U.S. Government.").
16. 31 CFR 356.31(d); see also http://www.treasurydirect.gov/instit/marketables/strips/strips.htm.
13. Section 13(d)(1)(I) of the Bank Holding Company Act ("BHC Act") and section 248.13(b) of the final rule provide an exemption for certain covered fund activities conducted by foreign banking entities (the "SOTUS covered fund exemption") provided that, among other conditions, "no ownership interest in such hedge fund or private equity fund is offered for sale or sold to a resident of the United States" (the "marketing restriction"). Does the marketing restriction apply only to the activities of a foreign banking entity that is seeking to rely on the SOTUS covered fund exemption or does it apply more generally to the activities of any person offering for sale or selling ownership interests in the covered fund? Sponsors of covered funds and foreign banking entities have asked how this condition would apply to a foreign banking entity that has made, or intends to make, an investment in a covered fund where the foreign banking entity (including its affiliates) does not sponsor, or serve, directly or indirectly, as the investment manager, investment adviser, commodity pool operator or commodity trading advisor to, the covered fund (a "third-party covered fund").
The staffs of the Agencies believe that the marketing restriction applies to the activities of the foreign banking entity that is seeking to rely on the SOTUS covered fund exemption (including its affiliates). This is also reflected in the preamble discussion of the marketing restriction and the structure of the final rule as discussed below.
17. See Prohibitions and Restrictions on Proprietary Trading and Certain Interests in, and Relationships With, Hedge Funds and Private Equity Funds, 79 FR 5536 at 5742 (Jan. 31, 2014) (emphasis added).
18. See id. at 5740.
19. The staffs also note that foreign funds that sell securities to residents of the United States in an offering that targets residents of the United States will be covered funds under section 248.10(b)(i) of the final rule if such funds are unable to rely on an exclusion or exemption under the Investment Company Act other than section 3(c)(1) or 3(c)(7) of that Act. If the marketing restriction were to apply more generally to the activities of any person (including the covered fund itself), the applicability of the SOTUS covered fund exemption would be significantly limited because a third-party foreign fund's offering that targets residents of the United States would make the SOTUS covered fund exemption unavailable for all foreign banking entity investors in the fund. The Agencies' discussion of the SOTUS covered fund exemption in the preamble does not suggest that the Agencies understood the SOTUS covered fund exemption to have such a limited application.
14. How does the final rule apply to a foreign public fund sponsored by a banking entity?
Staffs of the Agencies understand that, unlike in the case of U.S. registered investment companies,24 sponsors of foreign public funds in some foreign jurisdictions select the majority of the fund's directors or trustees, or otherwise control the fund for purposes of the BHC Act by contract or through a controlled corporate director. These and other corporate governance structures abroad therefore have raised questions regarding whether foreign public funds that are sponsored and distributed outside the U.S. and in accordance with foreign laws are banking entities by virtue of their relationships with a banking entity.
Staffs of the Agencies would not advise that the activities and investments of a foreign public fund that meets the requirements in section 248.10(c)(1) and section 248.12(b)(1) of the final rule be attributed to the banking entity for purposes of section 619 of the Dodd-Frank Act or the final rule where, consistent with section 248.12(b)(1) of the final rule, the banking entity does not own, control, or hold with the power to vote 25 percent or more of the voting shares of the foreign public fund (after the seeding period),29 and provides investment advisory, commodity trading advisory, administrative, and other services to the fund in compliance with applicable limitations in the relevant foreign jurisdiction. Nor would the staffs advise that a foreign public fund be deemed a banking entity under the final rule solely by virtue of its relationship with the sponsoring banking entity where the foreign public fund meets the requirements of section 248.10(c)(1) of the final rule and the sponsoring banking entity's relationship with the foreign public fund meets the requirements of section 248.12(b)(1) of the final rule, including the requirement that the sponsoring banking entity's relationship with the fund is in compliance with applicable limitations in the foreign jurisdiction in which the foreign public fund operates.
20. See § 248.10(c)(1). The final rule defines the term "covered fund" to include certain funds that rely on section 3(c)(1) or 3(c)(7) of the Investment Company Act; certain commodity pools as defined in section 1a(10) of the Commodity Exchange Act; and certain foreign funds. See § 248.10(b)(1).
22. 79 FR at 5673. The Agencies also noted more generally that the exclusions from the covered fund definition were designed, among other purposes, "to address the potential over-breadth of the covered fund definition and related requirements without such exclusions by permitting banking entities to invest in and have other relationships with entities that do not relate to the statutory purpose of section 13." 79 FR at 5677.
23. 79 FR at 5678. The Agencies explained in the preamble that they "tailored the final definition [of covered fund] to include entities of the type that the Agencies believe Congress intended to capture in its definition of private equity fund and hedge fund in section 13(h)(2) of the BHC Act by reference to section 3(c)(1) and 3(c)(7) of the Investment Company Act. Thus, the final definition focuses on the types of entities formed for the purpose of investing in securities or derivatives for resale or otherwise trading in securities or derivatives, and that are offered and sold in offerings that do not involve a public offering, but typically involve offerings to institutional investors and high-net worth individuals (rather than to retail investors)." 79 FR at 5666.
24. See 79 FR at 5676 (recognizing that the Federal Reserve Board's regulations and orders have long recognized that a bank holding company may organize, sponsor, and manage a registered investment company, including by serving as investment adviser to the registered investment company, without controlling the registered investment company for purposes of the BHC Act).
25. See, e.g., 79 FR at 5675 ("Section 13's definition of private equity fund and hedge fund by reference to section 3(c)(1) and 3(c)(7) of the Investment Company Act appears to reflect Congress' concerns about banking entities' exposure to and relationships with investment funds that explicitly are excluded from SEC regulation as investment companies."). (emphasis in original) See also e.g., 79 FR at 5666.
26. 79 FR at 5678 (stating "the Agencies' view that the foreign public fund exclusion is designed to treat foreign public funds consistently with similar U.S. funds and to limit the extraterritorial application of section 13 of the BHC Act, including by permitting U.S. banking entities and their foreign affiliates to carry on traditional asset management businesses outside of the United States").
27. 79 FR at 5678.
29. See §§ 248.10(c)(12) and 248.20(e). The preamble to the final rule makes clear that, consistent with the Board's precedent regarding bank holding company control of and relationships with funds, a seeding vehicle that will become a registered investment company would not itself be viewed as violating the requirements of section 13 during the seeding period so long as the banking entity that establishes the seeding vehicle operates the vehicle pursuant to a written plan, developed in accordance with the banking entity's compliance program, that reflects the banking entity's determination that the vehicle will become a registered investment company within the time period provided for seeding a covered fund. See 79 FR at 5676-77. The staffs of the Agencies have explained that an issuer that will become a foreign public fund would be treated during its seeding period in the same manner as an issuer that will become an excluded registered investment company. http://www.federalreserve.gov/bankinforeg/volcker-rule/faq.htm#5.
15. May an issuer that would be a covered fund rely on the joint venture exclusion from the definition of covered fund under § 248.10(c)(3) of the final rule?
As explained in the preamble to the final rule, one of the purposes of section 13 of the Bank Holding Company Act ("BHC Act") is to limit investment and sponsorship activities of banking entities in hedge funds and private equity funds, which section 13 of the BHC Act generally defines as entities that rely on certain specified exclusions in the Investment Company Act of 1940.30 The final rule defines hedge funds and private equity funds collectively as "covered funds."31 The preamble to the final rule explains that the definition of covered fund focuses on the types of entities formed for the purpose of investing in securities or derivatives for resale or other trading activity that are not subject to all of the securities law protections applicable to funds that are registered with the SEC as investment companies. A joint venture that qualifies for the joint venture exclusion in the final rule, however, is excluded from the definition of covered fund.
30. See, e.g., Prohibitions and Restrictions on Proprietary Trading and Certain Interests in, and Relationships With, Hedge Funds and Private Equity Funds, 79 FR 5536 (Jan. 31, 2014) at 5670-5671.
31. The final rule generally defines the term "covered fund" to include certain funds that rely on section 3(c)(1) or 3(c)(7) of the Investment Company Act of 1940; certain commodity pools as defined in section 1a(10) of the Commodity Exchange Act; and certain foreign funds. Seesection 248.10(b)(1) of the final rule.
32. The joint venture exclusion is subject to conditions, as noted above. As an initial matter, the entity seeking to rely on the exclusion must be a joint venture. While the term "joint venture" is not defined separately in the final rule, the Agencies' staffs note that the basic elements of a joint venture are well recognized, including under state law. Although any determination of whether an arrangement is a joint venture will depend on the facts and circumstances, the Agencies' staffs generally would not expect that a person that does not have some degree of control over the business of an entity would be considered to be participating in "a joint venture between a banking entity or any of its affiliates and one or more unaffiliated persons" as specified in § 248.10(c)(3) of the final rule.
33. See 79 FR 5536 at 5680-82.
34. See, e.g., 79 FR 5536 at 5681 (stating that the limit on the number of co-venturers "allows flexibility in structuring larger business ventures without involving such a large number of partners as to suggest the venture is in reality a hedge fund or private equity fund established for investment purposes" and that "[t]he Agencies will monitor joint ventures--and other excluded entities--to ensure that they are not used by banking entities to evade the provisions of section 13"; also stating that "[t]he final rule's requirement that a joint venture not be an entity or arrangement that raises money from investors primarily for the purpose of investing in securities for resale or other disposition or otherwise trading in securities prevents a banking entity from relying on this exclusion to evade section 13 of the BHC Act by owning or sponsoring what is or will become a covered fund").
16. Is a registered investment company or a foreign public fund a banking entity subject to section 13 of the BHC Act and implementing rules during its seeding period?
35. See §248.10(c)(1) (excluding a FPF from the definition of covered fund); §248.10(c)(12) (excluding from the definition of covered fund an issuer that is a RIC under section 8 of the Investment Company Act of 1940 (15 U.S.C. 80a-8)).
36. See 79 FR at 5676-77; see also §248.10(c)(12) (excluding from the definition of covered fund an issuer formed and operated pursuant to a written plan to become a RIC); FAQ #5, available at: http://www.federalreserve.gov/bankinforeg/volcker-rule/faq.htm#5 (stating that "it would be appropriate that an issuer that will become an excluded foreign public fund be treated during its seeding period the same as an issuer that will become an excluded RIC").
37. See § 248.10(c)(12); § 248.12(a)(2)(i)(B)); § 248.12(e); § 248.20(e).
38. See § 248.12(a)(2) (describing seeding periods for a covered fund that is not issuing asset-backed securities).
39. The final rule requires a vehicle that is a covered fund (as opposed to a RIC or a FPF) during its seeding period and that is formed and operated pursuant to a written plan to become a RIC to apply to the Board for an extension of the one-year seeding period already granted to such covered funds. See § 248.10(c)(12); § 248.12(a)(2)(i)(B)); § 248.12(e); § 248.20(e). The implementing rule also excludes from the definition of covered fund an issuer that has elected to be regulated as a business development company pursuant to section 54(a) of the Investment Company Act and has not withdrawn that election ("SEC-regulated BDC"), or that is formed and operated pursuant to a written plan to become a business development company as described in § 248.20(e)(3) of subpart D and that complies with the requirements of section 61 of the Investment Company Act of 1940 company. See § 248.10(c)(12)(iii). The staffs, consistent with the final rule's parallel treatment of RICs, FPFs, and SEC-regulated BDCs, also would not advise the Agencies to treat an SEC-regulated BDC as a banking entity solely on the basis of the level of ownership of the SEC-regulated BDC by a banking entity during a seeding period.
17. May a banking entity's compliance program for market making-related activities include objective factors on which a trading desk may reasonably rely to determine whether a security is issued by a covered fund? Furthermore, may a market maker meet its compliance program requirements by making use of a shared utility or third party service provider that utilizes objective factors if the market maker reasonably believes the system of the shared utility or third party service provider will identify whether a security is issued by a covered fund?
The final rule's exemption for market making-related activity requires a banking entity to establish, implement, maintain, and enforce a reasonably designed compliance program for a trading desk engaged in market making-related activity that includes, among other things, strong internal controls and independent testing.40 For purposes of meeting the final rule's exemption for market-making,41 a reasonably designed compliance program for a trading desk engaged in market making-related activity may include objective factors on which the trading desk may reasonably rely to determine whether a security is issued by a covered fund. Objective factors are factual criteria that can be used to reliably identify whether an issuer or a particular type of issuer is a covered fund.42 As an example, an objective factor would include whether the securities of the issuer were offered in transactions registered under the Securities Act.43 Objective factors would not be considered part of a reasonably designed compliance program if the banking entity designed or used such objective factors to evade section 13 and the final rule.
On the other hand, the Agencies' staffs do not believe it would be reasonable for a trading desk to rely solely on either or both the name of the issuer or the title of the issuer's securities; these factors alone would not convey sufficient information about the issuer for a trading desk reasonably to determine whether a security is issued by a covered fund.
A reasonably designed compliance program for a trading desk engaged in market making-related activity also may permit the trading desk to use a shared utility or third party service provider that utilizes objective factors if the banking entity reasonably believes the system of the shared utility or third party service provider will identify whether a security is issued by a covered fund and use of the shared utility or third party service provider is identified in the trading desk's compliance program. The use of objective factors by a shared utility or third party service provider should be evaluated by the banking entity in considering whether the banking entity reasonably believes that the shared utility or third party service provider has a system that will identify whether a security is issued by a covered fund.
40. See § 248.4(b)(2)(iii) of the final rule. See also § 248.20(a) of the final rule (providing that "each banking entity shall develop and provide for the continued administration of a compliance program reasonably designed to ensure and monitor compliance with the prohibitions and restrictions on proprietary trading and covered fund activities and investments set forth in section 13 of the BHC Act and [the final rules]").
42. Notably, the reasonableness of a particular objective factor may vary based on the type of issuer, and relying on objective factors may not be reasonable for all types of issuers. This may be the case, for example, for potential covered fund issuers whose operations or structure are not consistent with market standards or practices for which objective factors could be tailored.
43. See 79 FR at 5674 n.1717, 5687 n.1861.
44. In the context of market making-related activity, it generally would not be reasonable for the compliance program to permit the trading desk to rely on objective factors, shared utilities, or third party service providers in determining whether an issuer is a covered fund if the banking entity has already determined that the issuer is a covered fund in connection with sponsoring the issuer or acquiring an ownership interest in the issuer as an investment. Where a banking entity organizes and offers, including sponsors, an entity that may be a covered fund, the banking entity should know if the issuer is a covered fund and may not rely on objective factors.See § 248.11(a)-(b).
45. See § 248.20(b)(4), Appendix B.
46. While market making-related activity in covered funds is permitted under § 248.11(c) of the final rule, such activity is subject to certain limits on the amount of covered fund ownership interests the banking entity may hold.
18. When is a banking entity required to submit the annual CEO certification for prime brokerage transactions required by § 248.14(a)(2)(ii)(B) of the final rule? What about legacy covered funds?
Staffs of the Agencies believe that banking entities that are required to provide the annual CEO certification for prime brokerage transactions as of the end of the conformance period should submit the first CEO certification required under § 248.14 after the end of the conformance period but no later than March 31, 2016.50 A banking entity may provide the required annual certification in writing at any time prior to the March 31 deadline to the relevant Agency.
The conformance period for investments in and relationships with a legacy covered fund (i.e., a covered fund sponsored or owned by a banking entity prior to December 31, 2013) currently ends on July 21, 2016.51 Banking entities that engage in prime brokerage transactions with legacy covered funds should submit their first CEO certification by March 31 following the end of the relevant conformance period.
47. The final rule defines "prime brokerage transaction" to mean any transaction that would be a covered transaction, as defined in section 23A(b)(7) of the Federal Reserve Act (12 U.S.C. 371c(b)(7)), that is provided in connection with custody, clearance and settlement, securities borrowing or lending services, trade execution, financing, or data, operational, and administrative support. See 12 CFR 248.10(d)(7).
48. See 12 CFR 248.14(a)(2) & (c); see also 79 FR at 5747.
49. See 12 CFR 248.14(a)(2)(ii)(B).
50. See FAQ #7 http://www.federalreserve.gov/bankinforeg/volcker-rule/faq.htm#7 ("The staffs of the Agencies believe that banking entities subject to Appendix B as of the end of the conformance period should submit the first CEO attestation required under Appendix B after the end of the conformance period but no later than March 31, 2016.").
51. The Board granted banking entities until July 21, 2016 to conform investments in and relationships with covered funds that were in place prior to December 31, 2013 and announced its intention to act next year to grant banking entities until July 21, 2017 to conform investments in and relationships with legacy covered funds. See Board Order Approving Extension of Conformance Period under Section 13 of the Bank Holding Company Act (December 18, 2014), available at http://www.federalreserve.gov/newsevents/press/bcreg/20141218a.htm. A banking entity would thus have until July 21, 2017 to conform its relationships with legacy covered funds.
19. If a banking entity exits a market-making business permitted under the final rule, how may the banking entity sell or unwind its residual market-making positions? How may the banking entity hedge its residual market-making positions under the final rule?
For business reasons or otherwise, a banking entity may determine to exit a particular line of business or trading activity that is permissible under the final rule. In the event that a banking entity terminates a market-making business that it conducted as a Volcker Rule permitted activity,52 a situation could occur where the banking entity holds residual positions from its prior market-making activity.
20. When does a banking entity become subject to the restrictions of section 13(f) and section 248.14 of the final rule with respect to a covered transaction with a covered fund? What about existing covered transactions?
21. Is a banking entity required to deduct from its tier 1 capital an investment in a collateralized debt obligation backed by trust preferred securities retained pursuant to section 248.16(a) of the interim final rule ("Qualifying TruPS CDO")?
These requirements in section 248.12 of the final rule do not apply to Qualifying TruPS CDOs held in accordance with section 248.16(a) of the final rules because section 248.16(a) provides an additional and independent exemption for Qualifying TruPS CDOs.72 If, however, a banking entity acts as a market maker with respect to interests in a Qualifying TruPS CDO that is a covered fund, then section 248.11(c) of the final rule makes the capital deduction provision in section 248.12 applicable to those interests.73 Moreover, if a banking entity relies on section 248.12 to hold an interest in a TruPS CDO that is a covered fund but is not a Qualifying TruPS CDO, the banking entity would be required to comply with all the limits and restrictions in section 248.12, including the requirement to deduct its investment from its tier 1 capital for purposes of determining compliance with applicable regulatory capital requirements.

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