Section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (which embodies the so-called Volcker Rule) will impose significant limits on the ability of banks and their affiliates (each, a "banking entity" or "BE") to engage in proprietary trading and to own or sponsor hedge funds when it comes into effect in July of 2012.* Nonetheless, while the headlines about the Volcker Rule have focused consistently on the details of those limitations, there are many current U.S. bank activities with respect to hedge funds that will still be permitted under the Volcker Rule. These permitted activities include offering customers access to third-party hedge funds via dedicated feeder funds (or dedicated stand-alone funds). Under the new regulatory regime, however, it will be more difficult for a BE to organize and seed a hedge fund than it will be to merely act as an advisor, and both activities will be subject to significantly greater compliance burdens and regulatory scrutiny than has previously been the case.

Ownership and Sponsorship Prohibition

If a BE is providing only investment management or other services to a fund, that activity does not violate the primary Section 619 hedge fund-related prohibition, which is triggered only by ownership or sponsorship: "a banking entity shall not . . . acquire or retain any equity, partnership, or other ownership interest in or sponsor a hedge fund or a private equity fund." Such advisory activity will now, however, give rise to a new compliance requirement (the Covered Transaction Prohibition) whereby neither the BE nor any of its affiliates can enter into any transaction with the feeder fund (or any fund controlled by the feeder fund) that would be a "covered transaction" for a bank under Section 23A of the Federal Reserve Act (i.e., a transaction involving an extension of credit) if the fund was an affiliate of the bank. (The only exception to the Covered Transaction Prohibition is a narrow one for prime brokerage services offered to an underlying hedge fund.) Transactions that would not be "covered transactions" are permitted, but only subject to compliance with Section 23B (even if the relevant BE is not itself a bank).