Due Diligence

Hedge Funds Get Legit, Deadline for Switch to State Regulation Is Set

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Hedge-Fund-InvestingHedge funds have long resisted registering with regulators because they worried that disclosing their investment strategies and holdings would allow copycats to exploit their advantages out of the market. But the day they feared has come. As mandated under Dodd-Frank legislation passed last year, the SEC adopted rules in late June that will amend the Investment Adviser’s Act of 1940 to require hedge funds and private equity funds to register with the regulator. That means they’ll become subject to oversight, rules and examination for the first time, and have new reporting requirements. Will the industry stop making lots of money for wealthy investors now that regulators are breathing down their necks? Probably not. The SEC isn’t even asking them to disclose specific investing strategies or holdings, in any case.

The only things they will have to report to the SEC are the following:

*Basic organizational and operational information about each fund they manage, such as the type of private fund that it is (e.g., hedge fund, private equity fund, or liquidity fund), general information about the size and ownership of the fund, general fund data, and the adviser's services to the fund.

*Identification of five categories of “gatekeepers” that perform critical roles for advisers and the private funds they manage (i.e., auditors, prime brokers, custodians, administrators and marketers).

The SEC is also going to ask all investment advisers, including wealth managers and asset managers, to start reporting the following: The types of clients they advise, their employees, and their advisory activities, and any business practices that might present significant conflicts of interest (such as the use of affiliated brokers, soft dollar arrangements and compensation for client referrals).

Preparing For The Big Switch

The SEC also adopted Dodd-Frank mandated rules today that will require the approximately 3,200 investment advisers with between $25 million and $100 million in assets under management to switch to state regulation from SEC regulation. During the first quarter of 2012, SEC registered investment advisers will be required to declare that they are eligible to remain registered with the SEC. Investment advisers who will no longer remain eligible for SEC registration will have until June 28, 2012 to complete the switch to state registration. Those advisors located in states that don’t perform examinations (Minnesota, New York and Wyoming) will not be subject to this switch.

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