The Volcker Rule prohibits a banking entity from sponsoring or investing in a hedge fund or private equity fund, subject to certain exceptions. The proposed regulations expand the definitions of “hedge fund” and “private equity fund” to include commodity pools and certain non-U.S. counterparts of covered funds. These additions present a number of questions and may lead to unintended consequences. Additionally, the proposed regulations codify the Volcker Rule’s statutory exemptions, including exceptions related to permitted funds, permitted risk-mitigating hedging and non-U.S. activities of non-U.S. banking entities. The proposed regulations also specify several permitted activities, such as bank-owned life insurance separate accounts, certain corporate organization vehicles that may otherwise be included in the definition of a “covered fund” and debt collection in the ordinary course. The agencies have requested public comment on all aspects of the proposed covered fund regulations, and both the volume of the questions posed by the regulators and the uncertainty that remains in these sections leads us to expect changes in or further guidance on the final rule.

I. Key Provisions

The proposed regulations prohibit any banking entity from “sponsoring” a “covered fund,” or acquiring or retaining “as principal” any “ownership interest” in a covered fund, subject to certain exceptions. The proposed regulations define these and other key terms as follows:

Covered Fund

1. an issuer that relies on the Section 3(c)(1) or 3(c)(7) exclusions from the definition of investment company under the Investment Company Act of 1940, as amended (the Investment Company Act);

2. a commodity pool;

3. an issuer organized or offered outside of the U.S. that would, if organized or offered in the United States, satisfy Clause 1 or Clause 2 above; or

4. any similar fund as may be designated by rule.