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Fed’s Proposed Volcker Rule Changes May Benefit VC Firms

Under the Fed’s proposed loosening of banking regulation, Wall Street would be allowed to invest in venture capital funds.

The Federal Reserve Board has proposed changes to the Volcker rule that would benefit venture capital firms. 

The Fed's proposal, made May 30, opens up the possibility of banks investing in venture capital firms as limited partners, freeing them from regulation that prohibited them from contributing their own capital to VC funds. The Volcker rule is part of the Dodd-Frank Wall Street Reform and Consumer Protection Act, signed into law in 2010.

The central bank's announcement comes about one week after President Donald Trump signed a deregulation bill rolling back parts of Dodd-Frank, which had reined in Wall Street due to concern that excessive risk-taking at the largest banks could lead to another Great Recession. 

As it stands now, the Volcker Rule counts venture capital funds in the ranks of private equity firms and hedge funds, which are subject to regulations that prohibit banks from investing with them. When the Volcker Rule was initially passed in 2013, venture capital firms had hoped to be excluded from the rule.

“That was the subject of a lot of debate and advocacy at the original time of the proposal,” Mark Nuccio, a bank regulatory partner at Ropes & Gray, said by phone Thursday. He said VC firms were disappointed to be included alongside hedge funds and private equity firms. 

The Fed is seeking comment about the proposed changes for sixty days, allowing groups like the National Venture Capital Association to submit their opinions on how the regulator should tweak the rules. 

“The release asks almost 400 questions in total,” Doug Landy, banking partner at Milbank, Tweed, Hadley & McCloy, said in a phone interview Thursday.Many of them relate to covered fund side.”

[II Deep Dive: Congress Passes Bank Deregulation Bill to Roll Back Dodd-Frank]

The National Venture Capital Association says it is “pleased” to see that federal lawmakers are opening up the possibility of changing the rule. 

“Revising this part of the Volcker Rule would particularly help startups in emerging ecosystems grow and scale their businesses and subsequently create jobs in their local economies,” said Bobby Franklin, president and CEO of the Venture Capital Association, in a statement. “We look forward to working with federal regulators to make common-sense changes that will once again allow banks to seed venture capital funds in their local communities.”

The association has plans to submit a set of recommendations to the Fed during the comment period, according to the statement. In addition to venture capital funds, private equity firms and hedge funds could stand to benefit from this period of feedback. 

As part of its proposed changes to the Volcker provision, the Fed is seeking opinions about the way the proprietary trading rule, which prohibits banks from making risky bets with their own money, is implemented.

“The proprietary trading rules imposed a lot of granular trading requirements that made it hard for people to just do their jobs,” Nuccio said. “You’re trapped in a situation where you have to justify what you’re doing six ways to Sunday.”

As far as when actual changes could be made to the Volcker Rule? It will take time, according to Nuccio and Landy. Landy said the comment period will likely be extended to 90 or even 120 days, to account for people being away over the summer. 

“To think about potentially something happening by the end of the year is about the best anyone can hope for,” Nuccio said. “It wouldn’t surprise me if it took a lot longer than that.”

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