Recent Volcker Rule FAQ offers relief to foreign fund managers
The five US Volcker agencies – the Federal Reserve Board, the Securities and Exchange Commission, the Office of the Comptroller of the Currency, the Commodity Futures Trading Commission and the Federal Deposit insurance Corporation – have jointly issued Frequently Asked Questions number 14 (FAQ14), which substantially provides the relief that managers of foreign funds have been seeking for many months and puts foreign public funds on the same footing as US mutual funds as regards the Volcker 'banking entity' definition.
All foreign funds, including regulated, publicly-available funds that are comparable with US mutual funds (such as UCITS), originally fell under the definition of 'covered fund'. After extended discussions with foreign officials and managers of foreign funds, the US authorities provided an exclusion to the definition of covered funds for regulated public foreign funds that are widely-held.
However, anything not within the definition of covered funds falls to be considered under the Volcker “banking entity” definition, which is widely-drawn. It includes any 'affiliate' of a banking entity, where affiliate is defined as including any company that controls, is controlled by or is under common control with another company. Therefore, if an investment management “banking entity” is found to 'control' a foreign fund, the fund would become a 'banking entity'. This has a number of repercussions, in particular it restricts seeding activity.
The new FAQ 14 provides that a qualifying foreign public fund shall not be deemed to be a banking entity as a result of the governance relationships it has with the sponsoring banking entity so long as, after an appropriate seeding period, the sponsoring banking entity owns less than 25 percent of the foreign public fund’s outstanding voting shares. This allows the fund manager to continue to provide investment advice, commodity trading advice, administration and other services to the fund, in compliance with relevant regulations in the fund’s jurisdiction.
AQ 14 does not provide any relief for those foreign funds that do not qualify for the foreign public fund exclusion from covered fund status, such as alternative investment funds (AIFs). Therefore, there remains the potential for AIFs to be considered banking entities because of their governance structure. In the worst case, this could mean that the AIFs would be deemed to be banking entities and would need to comply with the requirements of the ‘trading outside the United States’ (TOTUS) exemption from the proprietary trading restrictions. It is possible for AIFs that are controlled by non-US banking entities to comply with TOTUS, but AIF managers need to consider the position of their funds.
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