Sunday, January 12, 2014

Senate Bills Aim to Fix Volcker Rule Trust Preferred Securities Write-Down

Senator Mark Kirk (R-IL), along with six other Republican Senators, introduced legislation, S. 1907, to remedy the Volcker Rule’s treatment of debt interests in trust preferred securities by clarifying that the Volcker Rule does not require financial institutions to divest collateralized debt obligations backed by trust preferred securities issued before the date the five financial regulators finalized the Volcker Rule, December 10, 2013. The bill is cosponsored by Senators Mike Crapo (R-ID), Pat Toomey (R-PA), John Barrasso (R-WY), Mike Enzi (R-WY), Jerry Moran (R-KS), and Roger Wicker (R-MS). It is a companion bill to H.R. 3819, which was introduced earlier this week by Rep. Shelley Moore Capito (R-WV), Chair of the House Financial Institutions Subcommittee and full Financial Services Committee Chair Jeb Hensarling (R-TX).

At the same time, Senator Joe Manchin (D-WV), along with Senator Wicker, introduced legislation, S.1912, to address the trust preferred securities issue. The Manchin-Wicker bill applies only to financial institutions with assets of $50 billion or less.

The legislation is needed because, as it stands, the Volcker Rule would require a number of banks to divest their holdings of collateralized debt obligations backed by trust preferred securities and write down these investments under other than temporary impairment according to U.S. GAAP accounting rules, which for many banks could result in a permanent loss of capital.

Senator Crapo, Ranking Member on the Banking Committee, said that one of the first unintended consequences of the Volcker Rule is to force community banks to divest hundreds of millions of dollars at fire sale prices and cause market disruptions in the communities they serve. He described the legislation as a targeted fix providing a simple solution to an accounting problem the financial regulators were unable to resolve in December.

While community banks had been assured that the Volker Rule would not harm or pertain to them, noted Senator Kirk, it was discovered that the final rule contained a provision that unduly and dramatically hurt a number of community banks. In the past, community and regional banks invested in debt tranches including collateralized debt obligations backed by trust preferred securities and collateralized loan obligations to attain access to capital. These instruments, once encouraged by federal financial regulators, are now being scorned and penalized for holding these instruments. Not only were these instruments once encouraged, he said, but also these debt instruments were not the cause of the financial crisis and there was no precursor in the proposed Volcker Rule released by the agencies that these instruments would be so negatively penalized.

Senator Kirk also observed that the issue dealt with by S. 1907 is not a big bank vs. small bank issue. Thus, limiting the size of financial institutions that can qualify for this exemption, as does S. 1912, hurts banks of all sizes. He said that it is inappropriate and inconsistent with the Collins Amendment, codified as Section 165 of the Dodd-Frank Act, which was intended to preserve the community bank trust preferred securities market, if an asset size limit is imposed on the banks investing in collateralized debt obligations backed by trust preferred securities. Imposing such a limit could effectively freeze out an important segment of the investor market, that is financial institutions with greater assets than the asset limit, for collateralized debt obligations holding community bank trust preferred securities.