Hedge Funds Latest Regulatory Victim

By Lisa Valentine

The Obama administration has delivered its expected proposal that all independent advisers to hedge funds and other pools of private capital such as venture capital and private equity funds register with the SEC. The administration has set a threshold of $30 million of assets under management – chump change, really – for registration.

MFA Backs Proposal

The proposal isn’t a surprise: the administration has been discussing requiring hedge funds to register with the SEC since it released its Regulatory Reform Agenda. What is somewhat surprising that the Managed Funds Association (MFA) is backing the proposal.

In remarks to the Subcommittee on Securities, Insurance and Investment, the Committee on Banking, Housing, & Urban Affairs, and the U.S. Senate, Dinakar Singh, speaking on behalf of the MFA, said, “MFA and its members support the Administration’s proposal to require the registration of investment advisers to all private pools of capital, subject to a limited exemption for the smallest investment advisers with a de minimis amount of assets under management.” He did not suggest an amount.

Singh did add though that these regulations should apply to all private investment firms and not single out hedge fund managers. He noted that issues such as short selling and insider trader are not specific to hedge fund managers, and that all market participants should be under increased scrutiny.

$30 Million Threshold

Is $30 million in assets under management the correct minimum to require registration? Probably not. It’s quite a low number and enforcement means that a number of smaller advisers will be unduly burdened with the costs associated with regulatory compliance. This could have a detrimental impact and force some smaller firms out of business.

Thankfully, Singh suggested that a distinction be made between retail investors and “sophisticated investors” and that regulations for funds sold to the retail market should be more robust than the funds sold to private investors. To put the same regulatory restrictions on private offerings as public offerings would be potentially harmful to the hedge fund industry.

Not Worth the Effort

This is all a lot of brouhaha for a financial product that only accounts for a small percentage of the financial services market and did not play much of a role in the financial crisis. Hedge funds, noted Singh, have about $1.5 trillion under assets, less than the three largest mutual fund companies combined.

In fact, the U.S. Treasury never once points its finger at hedge funds for having a large impact on the financial meltdown. At most, it stated “deleveraging of [hedge funds, private equity fund, and venture capital funds] contributed to the strain on the financial markets.” Assistant Treasury Secretary Michael Barr stated yesterday “hedge funds do not appear to have been at the center of the current crisis.”

As part of the proposal, hedge funds that are “large, leveraged, or interconnected that they pose a threat to financial stability” will fall under even more regulation, said Barr. These funds will be regulated as Tier 1 Financial Holding Companies (FHCs) and as such, be subjected to bank regulations under the newly proposed National Bank Supervisor, a newly created agency (of course) that combines the Office of Thrift Supervision (OTS) and the Office of the Comptroller of the Currency (OCC).

Is this just an example of regulatory reform, whether we need it or not? We’ve got an administration in place that won the November election on a platform of “Change.” Change can be good, but when so much else about our financial regulatory system needs to change, doesn’t it make more sense to go after bigger fish than hedge funds?

In his speech, Barr noted that, “[Hedge] funds continue to present unknown risks, and that lack of transparency is no longer tenable.” Especially since Obama is often compared with FDR, Barr’s statement brings to mind FDR’s famous quote, “The only thing we have to fear is fear itself.” Let’s not let fear drive regulatory reform.