The Volcker Rule (Dodd-Frank Section 619) prohibits banking entities from engaging in proprietary trading (trading for their own account) and from owning or sponsoring hedge funds or private equity funds ('covered funds'), with limited exceptions. The rule is jointly enforced by the Federal Reserve, OCC, FDIC, SEC, and CFTC.
The Volcker Rule was enacted as Section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (2010), named for former Federal Reserve Chairman Paul Volcker, who proposed the prohibition following the 2008 financial crisis. The rule's premise: banks that benefit from federal deposit insurance and Fed backstops should not take speculative proprietary trading risks that could endanger the institution and taxpayers. The Rule prohibits banking entities from: (1) Proprietary trading — buying or selling financial instruments for the banking entity's own account with the intent of profiting from short-term price movements, rather than facilitating customer transactions or managing risk. (2) Acquiring or retaining ownership interests in, sponsoring, or having material relationships with 'covered funds' — hedge funds, private equity funds, and similar structures defined under the Investment Company Act. Permitted activities include: market making (providing liquidity to customers with reasonably expected customer demand), underwriting (facilitating security issuances), risk-mitigating hedging, trading in U.S. government obligations, trading on behalf of customers (agency trading), and certain insurance company activities. The five regulators (Federal Reserve, OCC, FDIC, SEC, CFTC) jointly administer the Volcker Rule and issued a major 2020 revision that simplified compliance requirements for smaller banking entities and clarified the 'accounting prong' test for identifying proprietary trading. See the Federal Reserve's Volcker Rule resources at federalreserve.gov/supervisionreg/volcker-rule.htm and the OCC's guidance at occ.gov/topics/supervision-and-examination/bank-operations/volcker-rule/index-volcker-rule.html. For small business owners, the Volcker Rule is relevant context when understanding why community banks avoided certain investment activities post-2010 — it reshaped how bank capital is deployed toward commercial lending versus trading.
The 2020 Volcker Rule revision significantly reduced compliance burden for smaller banking entities. Banks with trading assets under $1B have a rebuttable presumption of compliance and minimal reporting requirements. The rule's main practical impact is on large banking entities (over $10B in trading assets) that engage in significant capital markets activities.
Proprietary trading is buying or selling for the bank's own account to profit from short-term market movements — banned. Market making is maintaining inventory to fill customer buy/sell orders, with positions sized to meet reasonably expected customer demand — permitted. The distinction is intent and use: trader inventory sized for customers vs. speculative bets for the bank's account.