Hedge Funds and Mutual Funds Debate Advertising Limits
The decision by U.S. Congress to lift a ban on advertising by alternative fund providers has stirred up a battle between the alternative funds industry and its mutual funds brethren.
At issue is just how far alternative investment funds should be allowed to go in promoting themselves to investors. Mutual funds, represented by the Washington, D.C.-based Investment Company Institute, want lots of restrictions while hedge funds counter those restrictions aren't necessary. Siding with the hedge fund community are the Hedge Fund Association and Managed Funds Association, trade groups representing a broad range of hedge fund managers.
BlackRock, the world's largest asset manager with $3.68 trillion under its belt, has come out on the side of hedge funds. "Investor protection concerns are adequately addressed by existing regulatory requirements," says Barbara Novick, a co-founder and vice president at BlackRock. The firm manages more than $110 billion of alternative assets globally through hedge funds, private equity funds and funds of funds.
The recently passed JOBS Act directs the SEC to repeal the longstanding ban hedge funds faced on publicizing private securities offerings. The U.S. securities watchdog has until ninety days after the legislation was signed into law to come up with rules. President Barack Obama signed the measure on April 5 and while the element on hedge fund advertising is a small part of the legislation aimed at helping companies raise capital, it has quickly generated the most controversy.
While the Hedge Fund Association praises the premise of the JOBS Act, it wants the SEC to offer a bit more clarity on just how hedge funds can promote themselves. Ron Geffner, a member of the board of directors of the Hedge Fund Association, and partner at New York law firm Sadis & Goldberg, says that the SEC needs to explain what it means by a solicitation. "Historically it has not been clear which behavior or action would violate the prohibition against general solicitation. As a result, managers within the alternative investment industry have been hesitant to speak with the media or broadly disseminate materials regarding their business and a s a result many qualified investors are not able to learn of potentially profitable investment opportunities," he says.
Under the JOBS Act, hedge fund managers can advertise to the general public and solicit investment but they would still be restricted to selling to accredited investors. Those are typically financial institutions or wealthy people presumed to be sophisticated investors. Until now, hedge fund managers have typically relied on word of mouth and been prohibited from broadly soliciting investors or advertising their private offerings to the general public. Hedge funds were only allowed to market to accredited investors with whom they had an existing relationship and even when money came in, managers had to review the potential client's financial situation to make certain it met the criteria as an accredited investor. The limitations pretty much whammied hedge funds from advertising, speaking with the press or at conference events.
The HFA presented its stance to the SEC in a letter which followed one written by Paul Schott Stevens, president of the ICI, the trade group representing over 13,000 funds with over $13 trillion in assets. In his letter Stevens argues that alternative funds should be subject to the same if not more stringent guidelines as mutual funds. The ICI also wants the SEC to ban hedge funds from advertising their performance until rules are established governing how they calculate their returns. Mutual funds are prohibited from making misleading or incomplete claims to investors or exaggerating management skills in marketing materials. They also must follow a precise methodology for reporting performance in advertisements.
Private fund advertising is susceptible to fraud, says Stevens, because such funds often pursue investment strategies that are "opaque" or invest in securities that are difficult to value or relatively illiquid. The ICI also wants a bank on advertising hedge fund performance and recommends the SEC to raise the income and net worth thresholds for people that meet the definition of accredited investor.
Written by Chris Kentouris, Editor-in-chief (Chris can be contacted through Chris.Kentouris@hotmail.com)