Hedge Fund Street

To register or not to register! – The battle between SEC and Hedge Funds continues

When SEC passed it’s ‘need to register’ mandate, little did it know what was in the offing. While there were some who had voluntarily registered even before the ruling was passed, there are others who have not done so even after the deadline has passed. There are some who are contesting the rule in the court of law. Then there are those who have conveniently bypassed not coming into the loop by following one or the other exclusion criteria.

Since the government amended its Investment Advisors Act of 1940, some 962 hedge fund managers have registered. Registration implies that not only do the funds have to disclose their current trading status to the government now; they have to continue to do this month after month. Not only does it cost a lot of money and time, the law is expected to cause a lot of continued inconvenience to the hedge funds who are used to working in complete secrecy. Some rough estimates of money involved are in the range of $45,000 to $300,000.

Some hedge funds like New York based hedge fund Bulldog Investors have taken SEC to court for its act. There are some who feel that there is quite a good chance that the SEC may have to take back its rule. Therefore there exists at this point of time, a lot of confusion regarding who is registering and who is not. Those who are against the rule argue that the SEC lacks both the expertise as well as the infrastructure to play the role of a superintendent of the industry. Hedge funds are very specialized in their functioning and use diversified strategies. These may more often than not be difficult to comprehend by the inspectors at SEC. This may lead to a lot of misunderstanding and unnecessary harassment of the funds.

There are some hedge funds that have put their house in order in accordance with the norms laid down by SEC. They have however refrained from actually registering with the authority. Take the case of Boston based Weiss Asset Management. The fund has managed to convince its clients to keep their money locked in for a period of 25 months. This makes it eligible to not necessarily register with the commission. There are other parameters that enable the hedge fund to escape registration. Some of these are maintaining a client base of less than 15 investors and managing less than $30 million. They can also be excluded if they refrain from raising new funds.

SEC on the other hand argues that the process of registration is very important. SEC maintains that by ensuring that the fund managers register with it and comply with the directives, it will be able to cut down the instances of fraud. The commission representative said that the industry is full of fraudulent hedge finds. At one point at least 400 funds were being investigated by the law for possible frauds.

By insisting that the funds comply with the directives, the commission hopes to bring this number considerably down. However, many opposed to the rule argue that this action is highly unlikely to bring out instance of a pending fraud. The inspectors are unlikely to find the hints of a fraud in the making because of the complex nature of the funds. All the paper work may be flawless there by showing that the fund is prim and proper in its functioning. The investors may also have a false sense of security just because the fund is registered with SEC. This may lead to more harm than good. MSN reports:

“To emphasize the effect hedge funds can have on the market, McFarland described one unnamed fund responsible for, on average, around 5 percent of the daily trading on the New York Stock Exchange”

The future of Hedge fund fees is bright!!

One would assume that with the growing number of hedge funds, there would be some undercutting in the fees charged by the fund managers. This is not what the reality is. Most funds continue to charge 2% of asset as asset management fees and 20% of profits as their performance fees. The fee charged by the hedge fund mangers is often referred to as ‘2 and 20’.

The fund managers find this quite a justified price for the profits that they generate. Industry experts say that this is due to the hedge fund market being more of a sellers market than that of buyers. Also what is witnessed is that hedge funds that have a combination of long and short strategies charge more than their long-only counterparts. In fact Renaissance Technology Corp., charges a 5 percent management fee and 44 percent of the returns for its Medallion fund. This fund is now officially closed for outside investors. Reuters reports:

"They hold all the cards," said Merrill Lynch managing director David Barrett, who introduces hedge funds to investors through the investment bank's $19 billion fund of funds. "There is continually massive demand for consistent performers."

Canadian Hedge Fund industry is flourishing despite Portus setback

When the Portus Alternative Asset Management Inc scandal broke out, there were quite a few who had declared death of the Canadian hedge fund industry. The players have proved other wise. Toronto-based hedge fund administrator SGGG Fund Services Inc for instance had 35 clients way back in 2003. Today it boasts of over 130 clients. The firm also expects at least 20 new hedge funds to come up in the first half of 2006.

SGGG’s total client base accounts for almost 85% of the entire Canadian Hedge Fund industry. To further drive home the point, the company’s client base has over $2 billion asset under management. Furthermore, none of its clients has closed doors and gone home. This definitely does not indicate death or even a slowdown of the industry.

James McGovern, managing director and chief executive of Arrow Hedge Partners states that the Portus fiasco has in no way dampened the spirit of hedge funds in Canada. Mc Govern is also chairman of the Canadian arm of the Alternative Investment Management Association (AIMA).

Andrew McCreath who is the head of Toronto based Waterfall Investments also shares this view. He proves this by giving the example of his own fund. Waterfall Investments was formed in May 2003 with $5 million as its asset base. Today it has almost $200 million under management. This is quite a feat considering that the fund is not even 2 years old.

The fund had been posting a strong return which in turn is pulling in more assets. Waterfall's offshore fund based on December data, has a compound annualized return of 27.4%. The fund also has the distinction of generating 98% of its returns as alpha. Alpha returns are those that are not generated due to the market. This is therefore a better indication of the funds investment skills.

The other trend that is encouraging for the industry per se is that larger and more established funds are pulling in more of the assets. This is indicative of an investor base that is looking for an infrastructure, a risk committee, governance, and also what kind of succession planning there is within the hedge fund. The hedge fund industry is therefore far away from slow down, let alone closure. Canada reports:

“One nice thing is that the people we brought on board maybe one or two years ago, who have gone through that kind of time of a building up a track record, are starting to see the bigger cheques come through the door for investment now," he said.