Illiquid Funds

Federal Reserve Board Provides New Details on Volcker Rule’s Illiquid Funds Requirements

On December 12, 2016, the Federal Reserve Board announced additional details regarding how banking entities may seek an extension to conform their investments in a narrow class of funds that qualify as “illiquid funds” to the requirements of Section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, commonly known as the Volcker Rule. An illiquid fund is defined by the statute as a fund that is “principally invested” in illiquid assets and holds itself out as employing a strategy to invest principally in illiquid assets.

The Volcker Rule 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 Dodd-Frank Act permits the Board, upon an application by a banking entity, to provide up to an additional five years to conform investments in certain legacy illiquid funds where the banking entity had a contractual commitment to invest in the fund as of May 1, 2010. The five-year extension for certain legacy illiquid funds is the last conformance period extension that the Board is authorized to provide banking entities under the statute.

According to the guidelines adopted by the Board, firms seeking an extension should submit information, including details about the funds for which an extension is requested, a certification that each fund meets the definition of illiquid fund, a description of the specific efforts made to divest or conform the illiquid funds, and the length of the requested extension and the plan to divest or conform each illiquid fund within the requested extension period.

The Board expects that the illiquid funds of banking entities will generally qualify for extensions, though extensions may not be granted in certain cases – for example, where the banking entity has not demonstrated meaningful progress to conform or divest its illiquid funds, has a deficient compliance program under the Volcker Rule or where the Board has concerns about evasion.

The Board consulted with staffs of the other agencies charged with enforcing the requirements of the Volcker Rule, and the agencies plan to administer their oversight of banking entities under their respective jurisdictions in accordance with the Board’s conformance rule and the attached guidance.