Talking Points: How Boards Can Prepare for the Volcker Rule

from Corporate Board Member

Years after first hearing of a banking ban on proprietary trading, five government agencies (the Board of Governors of the Federal Reserve System, Office of the Comptroller of the Currency, Federal Deposit Insurance Corporation, Securities and Exchange Commission and Commodity Futures Trading Commission) have collaborated to pass the Volcker Rule. Corporate Board Member spoke with Carl Fornaris, Co-Chair, Financial Regulatory and Compliance Practice, Greenberg Traurig, about what boards need to do to prepare for the Volcker Rule, from considering divestitures to creating a new, robust compliance program.

Corporate Board Member:  Three years after Dodd-Frank was enacted, banks have banned proprietary trading.  How big of a deal is this for banks?
Carl Fornaris:
 For those with trading desks that are active in proprietary trading or sponsoring or having relationships with hedge funds and private equity funds, it’s a very, very big deal.  The rule is going to apply to the banks, the so called covered banking entities, and conversely it’ll have an indirect effect on the funds themselves, the private equity funds, hedge funds that have had covered bank entity investors.  And so there could be divestitures that might need to take place going forward, and with respect to the banks themselves they’ll have to commit significant resources in terms of setting up an infrastructure to ensure they’re in compliance to the Volcker Rule.

CBM: As part of the Volcker Rule, banks have to show that they have a compliance program in place, and CEOs have to sign off on that, but the CEOs do not have to sign off saying that they are actually in compliance, only that there’s a compliance program in place.  Is that a bit of a loophole? Are there other loopholes in the rule?
CF:
 As you said, there is the required CEO attestation requirement.  There is a detailed compliance program in effect.  I still consider that a very significant thing because in my experience I’ve never seen in the banking law, now you see it in Sarbanes-Oxley with CFO attestation for financial statements, but in banking you don’t see CEOs having to attest regarding having compliance programs for certain rules.  So this is a fairly significant obligation because it creates accountability not just at the institutional level, but at the very high management level as well.

On your other point, though, about loopholes, I think the better nomenclature is to call them exemptions.  You know, the Dodd-Frank Volcker Rule does recognize several exemptions from the proprietary trading prohibition, including permitting market making, hedging, and trading in government obligations like U.S. Treasury bonds.  So there are a host of exemptions, and the devil is in the details in terms of determining whether the institution, either the banking institution that has to assess whether it has to discontinue the activity, or a hedge fund or private equity fund needs to make a determination whether one of its banking partners needs to divest, they’ll need to look at those exemptions carefully.

CBM: Have enforcement guidelines been set yet?
CF: 
There is no single agency that’ll be responsible for enforcement, but rather it will be the five agencies that collectively passed the rule, and that’s the Fed, SEC, FDIC, CFTC and OCC.  Those five are supposed to collaborate to the extent practicable.  I think the language is “to the extent possible and practicable in coordinating examination and enforcement proceedings.”  But under current banking law, if there is a violation of any law by a banking entity, the federal banking agencies have authority to impose civil monetary penalties and engage and initiate cease and desist proceedings.

CBM: Taking all of that into account, Carl, what do you think boards, especially bank directors, need to know right now to prepare?
CF:
 I think for bank board directors it’s getting the compliance program up and running.  That’s going to take time because there’s not going to be a one-size-fits-all approach.  There is not a compliance program that you buy off-the-shelf.  It should be detailed and it be tailored to the risk profile of the institution.  And bank examiners will be looking at the compliance program very, very carefully.  So I think that’s the number one item on the banking side.

If you are a board member of a hedge fund or private equity fund, I think what you’ll want to determine is whether you have any banking entity investors, any banking partners and whether they are in a position where they might have to divest of their investment in your fund. Also, they’ll have to look to see if there are exemptions to keep them from having to fold up tent and leave.

CBM: Carl, is there any chance that between now and July of 2015 something will throw this off course—a lawsuit, new leadership in government, people filing petitions?
CF: 
That’s an excellent question.  I do think that on the regulatory side you’re not going to see any more significant changes.  You might see published interpretations come out of the agencies, but the core regulation at this point I think is not going to change.  I don’t expect any serious challenges to the constitutionality of these rules.  Certainly, as of now I haven’t heard of any lawsuits or challenges being filed with respect to the rules.  The rules themselves don’t take effect until April 1, 2014 and the conformance period ends July 21, 2015.  So it’s possible that there could be a challenge after April 1 of 2014 when the rules become effective, but as of right now there’s no indication that that might take place.
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