The American Bankers Association (ABA) announced its support for legislation that would permit community banks to continue to hold collateralized debt obligations (CDOs) backed by Trust Preferred Securities (TruPS). If passed, community banks may avoid a reduction in capital levels due to losses related to divestitures of these securities.
On Jan. 9, 2014, Sens. Mark Kirk (R-Ill.), Mike Crapo (R-Idaho), Jerry Moran (R-Kan.), Pat Toomey (R-Pa.), John Barrasso (R-Wyo.), Mike Enzi (R-Wyo.), and Roger Wicker (R-Miss.) introduced Senate Bill 1907. The bill would amend the Bank Holding Company Act (BHCA) to clarify that nothing in the Volcker Rule should be construed to require the divestiture of any CDOs backed by TruPS or debt securities of collateralized loan obligations (CLOs) if such CDOs or CLOs were issued before Dec. 10, 2013. Currently, the BHCA, as amended by the Volcker Rule, prohibits banking entities from having an ownership interest in, or certain relationships with, a covered fund (such as hedge funds or private equity funds) unless an exception applies. Without the proposed legislation, certain CDOs backed by TruPS or CLOs may be within the Volcker Rule’s definition of a covered fund. Banking entities are required to restructure and limit their investments in and relationships with covered funds, including securitizations of non-loan assets. A divestiture of many CDOs backed by TruPS or CLOs acquired before the financial crisis could result in significant losses and a corresponding reduction in capital levels.
Community banks should examine their ownership interests in covered funds to determine whether those interests include CDOs backed by TruPS and evaluate the potential impact on capital levels due to any sale of these securities.
The McGuireWoods community banking team will continue to monitor this legislation and inform clients of future ABA announcements regarding the Volcker Rule.