Author Archives: Hedge Fund Lawyer

Rule 203A-5 – IA Registration Transition Rules

Proposed Rule 203A-5 Pursuant to Dodd-Frank Act

The SEC has proposed certain new rules as well as amendments to existing rules under the Investment Advisers Act as a result of the Dodd-Frank Act. The following proposed new rule 203A-5 provides that (i) SEC registered investment advisers must report their AUM to the SEC by August 20, 2011 and (ii) if such advisers are at that time below the threshold for SEC registration, the adviser must withdraw from SEC registration by October 19, 2011 (and generally be registered with the state in which the adviser’s maintains its principle office and place of business).

The full proposed revised rule is reprinted below.

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§ 275.203A-5 Transition rules.

(a) Every investment adviser registered with the Commission on July 21, 2011 shall file an other-than-annual amendment to Form ADV (17 CFR 279.1) no later than August 20, 2011 and shall determine its assets under management based on the current market value of the assets as determined within 30 days prior to the date of filing the Form ADV.

(b) If an investment adviser registered with the Commission on July 21, 2011 would be prohibited from registering with the Commission under section 203A(a)(2) of the Act (15 U.S.C. 80b-3a(a)(2)), and is not otherwise exempted by § 275.203A-2 from such prohibition, such investment adviser shall withdraw from registration with the Commission by filing Form ADV-W (17 CFR 279.2) no later than October 19, 2011. During this period while an investment adviser is registered with both the Commission and one or more state securities authorities, the Act and applicable State law will apply to the investment adviser’s advisory activities.

(c) If, prior to the effective date of the withdrawal from registration of an investment adviser on Form ADV-W, the Commission has instituted a proceeding pursuant to section 203(e) of the Act (15 U.S.C. 80b-3(e)) to suspend or revoke registration, or pursuant to section 203(h) of the Act (15 U.S.C. 80b-3(h)) to impose cipro dosage terms or conditions upon withdrawal, the withdrawal from registration shall not become effective except at such time and upon such terms and conditions as the Commission deems necessary or appropriate in the public interest or for the protection of investors.

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Bart Mallon, Esq. is a hedge fund lawyer and providers legal services to hedge fund managers through Cole-Frieman & Mallon LLP. He can be reached directly at 415-868-5345.

Rule 203A-1 – Switching to or from SEC IA Registration

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Proposed Rule 203A-1 Pursuant to Dodd-Frank Act

The SEC has proposed certain new rules as well as amendments to existing rules under the Investment Advisers Act as a result of the Dodd-Frank Act. The following proposed new rule 203A-1 will replace existing Rule 203A-1. The new rule will provide state and SEC registered investment advisers with information on the time requirements for switching between the registration status. The full proposed revised rule is reprinted below.

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§ 275.203A-1 Switching to or from SEC registration.

(a) State-registered advisers—switching to SEC registration. If you are registered with a state securities authority, you must apply for registration with the Commission within 90 days of filing an annual updating amendment to your Form ADV reporting that you are eligible for SEC registration and are not relying on an exemption from registration genuine viagra online under sections 203(l) or 203(m) of the Act (15 U.S.C. 80b-3(l), (m)).

(b) SEC-registered advisers—switching to State registration. If you are registered with the Commission and file an annual updating amendment to your Form ADV reporting that you are not eligible for SEC registration and are not relying on an exemption from registration under sections 203(l) or 203(m) of the Act (15 U.S.C. 80b-3(l), (m)), you must file Form ADV-W (17 CFR 279.2) to withdraw your SEC registration within 180 days of your fiscal year end (unless you then are eligible for SEC registration). During this period while you are registered with both the Commission and one or more state securities authorities, the Act and applicable State law will apply to your advisory activities.

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Bart Mallon, Esq. runs the hedge fund law blog and provides hedge fund registration and compliance services to managers through Cole-Frieman & Mallon LLP. He can be reached directly at 415-868-5345.

SEC Proposes New IA and Hedge Fund Registration Rules

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Seeks Public Comment on Proposed Regulations

On November 19, the SEC released proposed rules with respect to the new hedge fund registration requirement under the Dodd-Frank act. The major proposals include the following:

Rules with respect to the manner and process of registration of hedge fund and private equity fund managers.
Reporting requirements for registered hedge fund and other private fund managers. This will include:
- Basic organizational and operational information about the funds they manage, such as information about the amount of assets held by the fund, the types of investors in the fund, 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).
Reporting requirements for non-registered private fund managers (including venture capital funds). This will include:
- Basic identifying information for the adviser and the identity of its owners and affiliates.
- Information about the private funds the adviser manages and about other business activities that the adviser and its affiliates are engaged in that present conflicts of interest that may suggest significant risk to clients.
- The disciplinary history of the adviser and its employees that may reflect on their integrity.
- Exempt reporting advisers would file reports on the Commission’s investment adviser electronic filing system (IARD), and these reports would be publicly available on the Commission’s website.
Defining the term “venture capital fund” and the term “foreign private adviser”.
Providing guidance on SEC to state registration for managers who will no longer be allowed to register with the SEC due to increase in registration asset threshold

We will have the opportunity to fully review these proposals over the next few days and will be providing a report on the proposed regulations and will outline the comments we intend to send to the SEC. Public comments on the proposal will be due to the Commission in early January 2011.

The SEC summary of the proposed regulations can be found discount viagra soft gels here. The full texts of the two sets of proposals are below:

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Bart Mallon, Esq. runs the hedge fund law blog and provides registration and hedge fund compliance services to managers through Cole-Frieman & Mallon LLP. He can be reached directly at 415-868-5345.

GSEC to Stop Clearing for Small Hedge Funds

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According to a recent Bloomberg article, and a couple of my recent clients, Goldman Sachs Execution and Clearing (GSEC) will no longer act as the custodian and clearing agent for most small hedge funds with less than $5 million in AUM. As a quick background, smaller funds which do not have the minimum asset size or strategy to establish a direct relationship a major prime broker will generally establish an account with a mini-prime broker. The mini-prime broker will act as the relationship manager and will interface with the fund manager while the fund assets will be custodialized at the major prime broker.

This move will only affect the very small fund launches and will limit the mini-primes that small funds can use as some mini-primes only execute through GSEC. Current funds utilizing GSEC are not likely to be affected, but those funds which are just now establishing their accounts with GSEC should discuss this issue with their contact at the mini-prime.

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Bart Mallon, Esq. runs the hedge fund law blog and provides registration and compliance services to hedge fund managers through Cole-Frieman & Mallon LLP, a hedge fund law firm. He can be reached directly at 415-868-5345.

NFA Forex Alert

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NATIONAL FUTURES ASSOCIATION

FOREX INVESTOR ALERT

OCTOBER 18, 2010

New Forex Rules Become Effective on October 18

On August 30, the Commodity Futures Trading Commission (CFTC) issued its final rules regarding retail off-exchange foreign currency (forex) trading in the United States. The rules, which become effective on October 18, 2010, have far-reaching implications for all forex investors in the United States.

The rules require, with certain exceptions, any firm acting as a counterparty to certain retail forex transactions to register as a Retail Foreign Exchange Dealer (RFED) or Futures Commission Merchant (FCM). In addition, the rules require, with certain exceptions, any individual acting as a forex solicitor, account manager or pool operator to register with the CFTC as Introducing Brokers (IBs), Commodity Trading Advisors (CTAs) or Commodity Pool Operators (CPOs) or as an associated usa pharmacy cheapest viagra person of one of these entities and become Members of NFA.

Effective October 18, all CFTC-registered forex firms and individuals will be subject to CFTC regulations and NFA rules covering every aspect of their business, including recordkeeping, promotional material and sales practices.

Investors can check the registration status of any forex firm through NFA’s Background Affiliation Status Information Center (BASIC) available on the Association’s website (www.nfa.futures.org). BASIC contains current and historical registration information concerning all current and former CFTC registrants, including name, business address and registration history.

BASIC also provides information concerning disciplinary actions taken by NFA, the CFTC and all the U.S. futures exchanges. If you are researching a firm, you should also conduct a background check of all the individuals listed as principals of the firm. Sometimes the firm will have no disciplinary history, but one or more of the principals may have been disciplined while working at other firms.

Forex investors can register complaints with NFA against any CFTC-registered firm or individual either by telephone or through NFA’s website.

In addition, investors who believe that they have been treated unfairly by their forex firm have the ability to file an arbitration claim with NFA. In most cases, arbitration is mandatory for all NFA Members and Associates required to be registered with the CFTC. NFA arbitration provides an effective and cost-efficient method for the settlement of futures and forex-related disputes.

For additional information, contact NFA’s Information Center at 1-800-621-3570 or (312) 781-1410.

NFA is a self-regulatory organization subject to oversight by the CFTC. NFA’s primary mission is to protect investors and safeguard market integrity.

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Cole-Frieman & Mallon LLP is a law firm and provides legal support and forex registration and compliance services to forex managers. Bart Mallon, Esq. can be reached directly at 415-868-5345.

SEC Proposes "Family Office" Definition

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In Section 409 of Dodd-Frank Act, Congress required the SEC to define “family office” for the purpose of exempting such groups from the registration requirements under the Advisers Act. Section 409 provides that any definition the SEC adopts should be “consistent with the previous exemptive policy” of the SEC and recognize “the range of organizational, management, and employment structures and arrangements employed by family offices.”

The public will have the ability to comment on the SEC’s proposed rule until November 18, 2010. After that time the SEC will take public comments into consideration and then promulgate a final rule sometime thereafter.

The SEC notice can be found here and we have also provided a link to the full Proposed Family Office Rule.

The proposed definition is reprinted below in full.

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§ 275.202(a)(11)(G)-1 Family offices.

(a) Exclusion. A family office, as defined in this section, shall not be considered to be an investment adviser for purpose of the Act.

(b) Family office. A family office is a company (including its directors, partners, trustees, and employees acting within the scope of their position or employment) that:

(1) Has no clients other than family clients; provided that if a person that is not a family client becomes a client of the family office as a result of the death of a family member or key employee or other involuntary transfer from a family member or key employee, that person shall be deemed to cialis price in canada be a family client for purposes of this section 275.202(a)(11)(G)-1 for four months following the transfer of assets resulting from the involuntary event;

(2) Is wholly owned and controlled (directly or indirectly) by family members; and

(3) Does not hold itself out to the public as an investment adviser.

(c) Grandfathering. A family office as defined in paragraph (a) above shall not exclude any person, who was not registered or required to be registered under the Act on January 1, 2010, solely because such person provides investment advice to, and was engaged before January 1, 2010 in providing investment advice to:

(1) Natural persons who, at the time of their applicable investment, are officers, directors, or employees of the family office who have invested with the family office before January 1, 2010 and are accredited investors, as defined in Regulation D under the Securities Act of 1933;

(2) Any company owned exclusively and controlled by one or more family members; or

(3) Any investment adviser registered under the Act that provides investment advice to the family office and who identifies investment opportunities to the family office, and invests in such transactions on substantially the same terms as the family office invests, but does not invest in other funds advised by the family office, and whose assets as to which the family office directly or indirectly provides investment advice represents, in the aggregate, not more than 5 percent of the value of the total assets as to which the family office provides investment advice; provided that a family office that would not be a family office but for this subsection (c) shall be deemed to be an investment adviser for purposes of paragraphs (1), (2) and (4) of section 206 of the Act.

(d) Definitions. For purposes of this section:

(1) Control means the power to exercise a controlling influence over the management or policies of a company, unless such power is solely the result of being an officer of such company.

(2) Family client means:

(i) Any family member;

(ii) Any key employee;

(iii) Any charitable foundation, charitable organization, or charitable trust, in each case established and funded exclusively by one or more family members or former family members;

(iv) Any trust or estate existing for the sole benefit of one or more family clients;

(v) Any limited liability company, partnership, corporation, or other entity wholly owned and controlled (directly or indirectly) exclusively by, and operated for the sole benefit of, one or more family clients; provided that if any such entity is a pooled investment vehicle, it is excepted from the definition of “investment company” under the Investment Company Act of 1940;

(vi) Any former family member, provided that from and after becoming a former family member the individual shall not receive investment advice from the family office (or invest additional assets with a family office-advised trust, foundation or entity) other than with respect to assets advised (directly or indirectly) by the family office immediately prior to the time that the individual became a former family member, except that a former family member shall be permitted to receive investment advice from the family office with respect to additional investments that the former family member was contractually obligated to make, and that relate to a family-office advised investment existing, in each case prior to the time the person became a former family member; or

(vii) Any former key employee, provided that upon the end of such individual’s employment by the family office, the former key employee shall not receive investment advice from the family office (or invest additional assets with a family office-advised trust, foundation or entity) other than with respect to assets advised (directly or indirectly) by the family office immediately prior to the end of such individual’s employment, except that a former key employee shall be permitted to receive investment advice from the family office with respect to additional investments that the former key employee was contractually obligated to make, and that relate to a family-office advised investment existing, in each case prior to the time the person became a former key employee.

(3) Family member means:

(i) the founders, their lineal descendants (including by adoption and stepchildren), and such lineal descendants’ spouses or spousal equivalents;

(ii) the parents of the founders; and

(iii) the siblings of the founders and such siblings’ spouses or spousal equivalents and their lineal descendants (including by adoption and stepchildren) and such lineal descendants’ spouses or spousal equivalents.

(4) Former family member means a spouse, spousal equivalent, or stepchild that was a family member but is no longer a family member due to a divorce or other similar event.

(5) Founders means the natural person and his or her spouse or spousal equivalent for whose benefit the family office was established and any subsequent spouse of such individuals.

(6) Key employee means any natural person (including any person who holds a joint, community property, or other similar shared ownership interest with that person’s spouse or spousal equivalent) who is an executive officer, director, trustee, general partner, or person serving in a similar capacity of the family office or any employee of the family office (other than an employee performing solely clerical, secretarial, or administrative functions with regard to the family office) who, in connection with his or her regular functions or duties, participates in the investment activities of the family office, provided that such employee has been performing such functions and duties for or on behalf of the family office, or substantially similar functions or duties for or on behalf of another company, for at least 12 months.

(7) Spousal equivalent means a cohabitant occupying a relationship generally equivalent to that of a spouse.

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NFA Issues NTM Regarding Retail Forex

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In a Notice to Members (NTM) issued today, the NFA provides guidance to certain players in the retail forex markets. The NTM discusses some issues which the NFA levitra online cheap has received inquiries about. The guidance by the NFA is based on consultations with the CFTC staff.

The NFA has done a nice job of helping forex managers with the registration process and has also held a forex registration and compliance workshop recently. The full notice is reprinted below.

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Notice to Members I-10-21

October 13, 2010

NFA offers guidance on CFTC’s final forex regulations

The Commodity Futures Trading Commission’s (CFTC) final Forex regulations are effective on October 18, 2010. NFA staff has received a number of inquiries from Members seeking further guidance and clarification on certain requirements. Based on further consultation with CFTC staff on Friday, October 8th, this Notice provides additional guidance on the following areas:

Risk Disclosure Statement Required by CFTC Regulation 5.5

CFTC Regulation 5.5 prohibits FCMs, RFEDs, and in the case of an introduced account, IBs from opening a retail Forex account until the FCM, RFED or IB has provided the customer with the required disclosure statement, along with the most recent quarterly customer account performance information, and obtained a signed acknowledgement of receipt of the disclosure document from the customer. Firms are not required to provide this disclosure statement to, or obtain the disclosure document acknowledgement from, a customer who opened an account prior to October 18, 2010 (existing customers). Additionally, firms are not required to provide the most recent quarterly customer account performance information to existing customers unless the customer requests the information.

Qualifying Institutions for Holding Assets Equal to Retail Forex Obligation

CFTC Regulation 5.8 identifies the financial entities that may be used to hold assets equal to the total amount owed to U.S. customers for Forex transactions. Assets may only be held in the U.S. or a money center country defined in Regulation 1.49. Qualifying institutions in the U.S. are limited to U.S. regulated banks or trust companies, SEC registered broker-dealers that are also members of FINRA and CFTC registered FCMs that are also members of NFA. Qualifying Institutions in a money center country are limited to banks or trust companies with regulatory capital in excess of $1 billion; broker-dealer or FCM equivalents with regulatory capital in excess of $100 million; and FCMs registered with the CFTC and members of NFA. RFEDs are not a qualifying entity for holding these assets. However, pursuant to CFTC Regulation 5.7, funds held at an RFED may be included as a current asset for minimum net capital purposes.

IB, CPO and CTA Registration

Otherwise regulated entities set forth in Section 2(c)(2)(B)(ii)(II)(aa), (bb), (ee) or (ff) of the Commodity Exchange Act do not have to be registered in the appropriate capacity with the CFTC in order to solicit retail Forex orders, manage retail Forex accounts or operate a retail Forex pool. This includes an otherwise regulated entity, such as a broker-dealer, that introduces retail Forex business to an FCM or RFED.

Other Registration Issues

Every firm that is required to be registered as an FCM, RFED, IB, CPO or CTA in connection with its Forex activity must be approved by NFA as a Forex firm. NFA Members are prohibited from engaging in retail Forex transactions with these firms unless the firm has received this designation. In addition, Forex firms must have at least one principal who is registered as an Associated Person (AP) and is approved as a Forex AP. All individuals who solicit retail Forex business or who supervise that activity must have taken and passed two exams — the National Commodity Futures Examination (Series 3) and the Retail Off Exchange Forex Examination (Series 34), which is a new exam focusing exclusively on Forex-related questions. However, individuals who were registered as APs, sole proprietors or floor brokers on May 22, 2008, do not need to take the Series 34 exam unless there has been a two year gap in their registration since that date.

Anyone needing additional information on these regulations should contact Sharon Pendleton (312-781-1401 or [email protected]) or Lauren Brinati (312-781-1215 or [email protected]).

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Other related hedge fund law articles:

Bart Mallon, Esq. runs the hedge fund law blog and provides forex registration and compliance services to forex managers through Cole-Frieman & Mallon LLP. He can be reached directly at 415-868-5345.

NFA Forex Registration/Compliance Workshop | Las Vegas September 25, 2010

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(www.hedgefundlawblog.com)

Overview of Forex Registration & Compliance Issues

By Bart Mallon, Esq.

In preparation for the implementation of the new retail forex regulations, the NFA recently conducted a retail forex registration and compliance workshop in Las Vegas at the Trader’s Expo. The workshop covered a number of topics which the NFA views as especially important for forex managers. I attended the workshop and the following discussion is based on my notes of the conference as well as collateral material provided by the NFA.

This overview will cover the various sessions throughout the day including:

Registration
General Compliance
Net Capital, Recordkeeping & Reporting Requirements
Discussion/ Individual Consultations

[Note: this article currently only has the summary of the registration session. I will be adding the additional summaries directly to this page over the next few days.]

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Registration Session

Firm Registration & Exemption Requirements

This first part discusses the various registration categories and the potential exemptions and other pertinent information.

RFED & FCMs

These are entities which execute forex trades for managers. We will not go into the registration and compliance requirements for these groups in this overview and will instead focus on forex managers and introducing brokers.

Commodity Trading Adviser (CTA)

Definition: a firm which is compensated for providing advice with respect to forex transactions, usually by having power of attorney (POA) to trade a client’s account held at an FCM or RFED. Groups that provide individualized advice without a POA may also be considered to be a CTA.
Exemptions: a firm is exempt from CTA registration if the firm (i) provides advice to less than 15 people over the past 12 months and (ii) does not generally hold itself out to the public as a CTA. Managers should note that this exemption is narrowly construed by the CFTC and that very few forex managers will fit within the exemption. This exemption is self-executing and so the firm will not need to make a filing with the CFTC or NFA if they are claiming this exemption. There are additional exemptions which are available but not often used by most forex managers.
Costs:
- Firm – $200 non-refundable registration fee
- APs/Principals – $85 registration fee (for each individual)
- NFA Membership Fee – $750 (yearly)
- Exam Fess – varies with respect to exam
Principal/AP Requirement: each firm must have at least one Principal listed and at least one Associated Person registered with the firm (see discussion below). Each Principal and AP will need to have (i) fulfilled the proficiency (exam) requirements and (ii) provided the NFA with fingerprint cards for the FBI background check.
Disclosure Documents: CFTC regulations require each forex CTA disclosure document to include the following information:
- Basic Background Information on the CTA
- Information on the Trading Program
- Discussion of the Risk Factors
- Discussion of Conflicts of Interest
- Litigation Information (see NFA Litigation Statement Requirement)
- Certain Performance Reports
- Supplemental information
Timing: with respect to the actual registration of the entity and the Principals/APs, this can usually be done quickly. In most cases, after all fees have been paid and a Principal has submitted fingerprint cards and has completed all necessary exam requirements, the registration will be complete in about two days. While the registration is done quickly, the disclosure document acceptance process can be lengthy. For a normal CTA it will usually take about 5-10 weeks to get the document accepted, however this will depend on a number of items including the NFA examiner you are assigned and the work load of the NFA.

Commodity Pool Operator (CPO)

Definition: a firm which is compensated for providing advice to a pooled investment vehicle. The investment vehicle (colloquially known as a “hedge fund”) is deemed to be a “commodity pool” and the firm providing advice is the operator or CPO.
Exemptions: there are a number of CPO exemptions which are potentially available for forex managers. We have detailed these requirements before in our list of CPO exemptions.
Costs:
- Firm – $200 non-refundable registration fee
- APs/Principals – $85 registration fee
- NFA Membership Fee – $750 (yearly)
- Exam Fess – varies with respect to exam
Principal/AP Requirement: same as above.
Disclosure Documents: the requirement is generally the same as for CTAs. However, CPO disclosure documents are usually much longer and deal with a number of other federal laws. CPO disclosure documents must be drafted by an attorney.
Timing: generally timing will be similar to the above.

Guaranteed Introducing Broker

Definition: generally a firm which introduces client accounts to an FCM or RFED. These brokers might include groups that license EA software and receive per trade compensation from a broker. A guaranteed IB is a firm which only introduces to one FCM or RFED and who enters into a guarantee agreement with the FCM or RFED.
Exemptions: generally there are no exemptions. Firms should note that the exact manner in which the firm is compensated (e.g. for use of the EA software) may make a difference in whether the firm will need to be registered wellbutrin buy as an introducing broker with the NFA.
Costs:
- Firm – $200 non-refundable registration fee
- APs/Principals – $85 registration fee
- NFA Membership Fee – $750 (yearly)
- Exam Fess – varies on exams (see below)
- Other – written guarantee agreement with the FCM or RFED must be executed prior to registration
Principal/AP Requirement: same as above.

Independent Introducing Broker

Definition: definition is same as above, except an independant IB may introduce to any number of FCMs or RFEDs and does not need to enter into a guarantee agreement. The independent IB will need to maintain a certain net capital.
Exemptions: generally there are no exemptions. As above, the manner of compensation will determine whether the firm is an IB.
Costs:
- Firm – $200 non-refundable registration fee
- APs/Principals – $85 registration fee
- NFA Membership Fee – $750 (yearly)
- Exam Fess – varies on exams (see below)
Other: must maintain net capital of $45,000 subject to CFTC regulations. NFA rules require an extra $5,000 buffer.
Principal/AP Requirement: same as above.

Discussion of Principals and Associated Persons

Principals

Principals generally mean persons who meet any of the following:

Certain title: Director, President, usually any “Chief” role
Ownership: generally owners with 10% or more interest, including owners which are entities and owners of those entities (there are also look-through rules for entities)
Other: Individuals with management and supervisory authority

Associated Person

Generally any partner, officer, employee, consultant, or agent (or any natural person occupying a similar status or performing similar functions), in any capacity which involves:

the solicitation of funds, securities, or property for participation in a commodity pool or
the supervision of any person or persons so engaged.

Firms should note that while the definition of AP does not include a person who acts solely as a trader, the NFA highly recommends that such persons become registered as APs. If a firm decides that such person does not need to register with the NFA, the firm must be extra careful that the trader does not perform any functions of an AP. This will likely be an issue which the NFA will examine closely during any audit.

Other Important Discussion Items

Soliciting Clients after October 18, 2010

Forex managers who currently are managing client accounts but are not registered with the NFA, will need to be registered by the October 18th deadline and continue to manage accounts for current clients. However, these managers will not be able to accept new money from existing clients or new clients until the disclosure document is accepted by the NFA.

Managers with a Disciplinary History

Individuals who have certain criminal or regulatory issues in their background will need to make sure that they are able to produce records of the issue. For persons with these issues, the NFA will require full records and will review those records prior to deciding whether to allow the person to register as an AP. For more information, please see our discussion of registration issues for managers with disciplinary history.

Heightened Supervisory Procedures

Many forex managers and introducing brokers will need to implement heightened supervisory procedures because they will have Principals/APs which were either subject to prior NFA disciplinary actions or worked for firms subject to NFA disciplinary actions. Almost every single forex broker has been subject to NFA disciplinary actions so persons who come from these firms will need to be aware of this fact and firms may need to augment their employee base to fit within certain guidelines. This issue will most likely be identified by NFA staff during the registration process and may delay a registration.

Branch Office

Firms which have more than one office must designate a main office. All of the other offices will be deemed to be banch offices and each of these branch offices will need to have a branch office manager (who has passed the Series 30 exam).

Firms often wonder whether a home office will count as a branch office. Generally, it will depend on the exact facts of the situation, but if any person is acting as an AP at the home office, then it will be deemed to be a branch office.

While it does not cost extra to have a branch office, firms must make sure that they institute certain oversight procedures with respect to the branch office. This means that compliance policies and procedures must be implemented. This is likely to be another issue which the NFA will examine closely during an audit.

For more information, please see our article on the NFA Branch Office Designation.

Forex Exams

Overview – we have discussed the various exam requirements for forex managers a number of times. For full information, please see our overview of the forex exams. We also have specific information on the Series 3 exam, Series 30 exam, and how to pass the Series 34 exam.

Grandfather Provisions – For persons who were registered on May 22, 2008 as an AP (and have remained continuously registered as an AP with the CFTC), such persons will not be required to pass the Series 34 exam prior to providing advice to customers with respect to forex transactions.

Discretionary Waiver – some persons who would normally be required to complete the proficieny requirements may be able to apply for a waiver of the requirements from the NFA. Such waiver is rarely granted. For more information, please see NFA Rule 402.

Overview of Registration Process

At this point during the presentation the NFA staff took us completely through the registration process on the NFA’s online registration system. In general the process is fairly straightforward and the NFA has provided a number of resources on their website which are designed to help managers navigate the process. In general the process includes the following steps:

Obtain Security Manager Access
Pay Registration Fees
Complete Form 7-R for Firm Application
Complete Form 8-R for all Principals and APs

General Compliance Session

[To be forthcoming…]

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Other related hedge fund law articles:

Bart Mallon, Esq. runs the hedge fund law blog and provides forex registration and compliance services to forex managers through Cole-Frieman & Mallon. He can be reached directly at 415-868-5345.

SEC Rulemaking Agenda for Hedge Fund Registration

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Timeline for Proposed & Final Manager Registration Rules Released

The Dodd-Frank bill requires the SEC and CFTC to propose and promulgate final rules with respect to a number of important areas for investment managers. As we have seen, significant time has already been devoted to trying to develop a framework for OTC derivatives clearing. Over the next couple of months, however, hedge fund and private equity fund managers will begin to see how the registration and hedge fund compliance process will proceed under the new laws and regulations.

The SEC has released a timeline for implementing the provisions under Dodd-Frank. While the SEC discusses a number of the major rule making initiatives, below we have only reprinted the items relating to investment adviser registration. We have also provided some of our thoughts on these items. [Note: section numbers reference the Dodd-Frank act.]

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October

§409: Propose rules defining “family office”

This definition will be important because “family offices” are not required to register as investment advisers with the SEC. Family offices which manage the assets of numerous families will need to pay special attention to the proposed rule because it is possible that the SEC may not provide such offices with an exemption or exclusion from the registration provisions.

See SEC Proposes “Family Office” Definition on Hedge Fund Law Blog

Novemeber – December 2010 (planned)

§§407 and 408: Propose rules implementing the exemptions from registration for advisers to venture capital firms and for certain advisers to private funds

Private equity fund advisers are going to be carefully reviewing this provision to see if there is any way to escape SEC registration. Depending on the scope of the definition of “venture capital,” managers to private equity funds may be able to find a way to fall outside of registration.

§410: Propose rules and changes to forms to implement the transition of mid-sized investment advisers (between $25 and $100 million in assets under management) from SEC to State regulation, as provided in the Act

This will be an important provision for a number of managers who are currently registered with the SEC. Both the SEC and the states want to see an easy and seemless transition from SEC to state registration and there will need to be significant coordination between the SEC, NASAA, the states and FINRA (which runs the investment adviser registration depository).

§418: Propose rules to adjust the threshold for “qualified client”

Changes to the definition of “qualified client” will require hedge fund managers to revise their fund offering documents. Additionally, currently unregistered private equity fund managers should note that they will be subject to the qualified client regulations (i.e. performance fees or the carried interest may be charged only to an investors who fall within the definiton of qualified client). Accordingly, private equity fund managers may need to start thinking about revising their offering documents and/or begin requesting more information from their investors with respect to net worth.

§413: Propose rules to revise the “accredited investor” standard

The SEC has already promulgated guidance with respect to the accredited investor standard which states that an investor’s equity in a primary residence does not count toward the net worth requirement. It is likely that the proposed rules will mirror the guidance.

§926: Propose rules disqualifying the offer or sale of securities in certain exempt offerings by certain felons and others similarly situated

NASAA has lobbied hard to have the ability to have greater control over Regulation D offerings if the promoters of the offerings have previous been subject to certain regulatory or criminal proceedings. Any proposed provision would likely limit the ability of such promoters to offer securities to investors without first going through a rigourous process with each of the states where the securities are sold.

§§404 and 406: Propose (jointly with the CFTC for dual-registered investment advisers) rules to implement reporting obligations on investment advisers related to the assessment of systemic risk

Investment managers with a large amount of AUM will likely be subject to increased reporting requirements to the SEC. The SEC (and the CFTC) will likely use this information (potentially in conjunction with other government agencies) to determine the risk the manager poses to the financial system. It is expect that most, if not all, of the information to be provided to the SEC and CFTC under this provision will not be available to the public, even under a FOIA request.

§913: Report to Congress regarding the study of the obligations of brokers, dealers and investment advisers

NASAA has been fighting for a uniform fiduciary standard for brokers and investment advisers. After the Dodd-Frank act was signed into law, the SEC solicited comments from the public on whether there should be a uniform fiduciary standard. The SEC has already received a large number of comments on this very important issue.

§914: Report to Congress regarding the need for enhanced resources for investment adviser examinations and enforcement

The SEC needs more resources. Ultimately the lack of proper funding for this agency will likely lead to the creation of a self regulatory organization for investment managers similar to FINRA for broker-dealers. This is a separate subject which we intend to discuss in future posts.

§919B: Complete study of ways to improve investor access to information about investment advisers and broker-dealers

It will be interesting to see what additional information that the SEC would like advisers to give investors. The Form ADV and Part 2 are publicly available to investors through the SEC’s Advisor Search tool. Additionally, the SEC recently changed the format of Part 2 to provide more information to investors about investment managers.

April – July 2011 (planned)

During this time the SEC will be adopting finalized rules (taking into account public comments on the proposed rules) with respect to the following matters:

reporting obligations on investment advisers related to the assessment of systemic risk
exemption from registration for advisers to venture capital firms
“family office” definition
transition of mid-sized investment buy cialis soft online advisers (between $25 and $100 million in assets under management) from SEC to State regulation
“qualified client” definition
“accredited investor” definition
disqualifying Regulation D offerings by certain felons

Additionally, the SEC may decide to propose rules during this time based on the §913 study conducted on the obligations of brokers, dealers and investment advisers

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Other related hedge fund law articles:

Bart Mallon, Esq. runs the hedge fund law blog and provides registration and compliance services to hedge fund managers through Cole-Frieman & Mallon LLP, a leading hedge fund law firm. He can be reached directly at 415-868-5345.

Recap of San Francisco CFA Hedge Fund Event

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SF Managers Talk About Starting a Hedge Fund

On September 16, members of the San Francisco investment management community gathered at the Ritz-Carlton to listen to four hedge fund managers talk about their experiences starting a hedge fund. The event was sponsored by the San Francisco CFA society. The event sold out prior to the event and the attendees seemed to be mostly CFA charterholders and other future hedge fund managers. The moderaters, two CFA charterholders, asked pre-prepared questions to the managers and opened the panel up to questions from the audience at the end.

The following are some of my notes from the event. Each bullet point is a talking point from an individual manager who I have chosen not to identify as I do not have their direct permission. Since these are notes, I am paraphrasing the thoughts of the managers and I may have modified the comments slightly so they make sense in the context of this post. Many of the points below are quite good and focus on the business and operational matters of running a fund which are very important.

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Is there a certain background that is helpful to be a hedge fund manager?

MBA and CFA charterholder are good designations to have, but it is also about experience and attitude – being able to jump into a new and difficult situation is important.
Being a manager is about differentiation and having a distinct strategegy. Whatever is different in your background is what you should emphasize (e.g. Ph.D). You should put out your qualifications and background.
A CFA is not a necessity, but you should differentiate yourself because there are so many funds out there.
A manager does not need to have a cookie-cutter background. Managers should emphasize what will help them to outperform other managers.

It is common for successful hedge fund managers to start at a large firm, build a reputation and then start a fund – what are your thoughts?

It does help to go that route because investors know the manager and have worked with the manager previously.
Most people who are very successful do come from large firms. However, launching a hedge fund now is different than it was in the 90s post market crash and Madoff.

What motivated you to start your own hedge fund? Was it the glamour, money, challenge?

Professional challenge – liked the work but thought that “I could do better.” It is also fun to run a company and be an entrepreneur. Glamour is irrelevant.
Glamour is irrelevant. The personal challenge is a central part. Being able to make your own schedule and be your own boss is important. Being able to determine the course that the fund will take is important.
There is no glamor in being a start-up fund manager. Motivation came from knowing that you can offer something to investors that they can’t get from other groups.
The motivation was that it is intellectually challenging and it is rewarding to run your own business.

How do you transition from being an employee to being an employer?

For one manager, it was easy because they cam from a small firm (6-7 people). The key is that you need to be the master of everything – trading, researching, marketing, etc.
For another manager who came from a larger firm, he had a range of duties at the previous firm so it was a relatively easy transition.

What is your investment process, edge and benchmark?

Long/short absolute returns. Don’t benchmark.
Benchmark against the HFR Long-short equity index. However, the index is not always a good indicator because of survivorship bias. The HFR is also usually long-biased.
Benchmarks usually provide an idea of what would be a low-cost beta for investors. For the particular stategy, it would be the Goldman Commodities Index.

Did you go it alone as a manager or do you have a team?

It really depends on your situation. For us (team with 2 principals), we worked together for 10 years and liked working together so it was natural to start the fund together. We started as two persons at my house planning things out. We slowly started hiring people we knew previously and gradually built out the team. We needed help on the business and operations side.
I went alone by choice. Other people didn’t have the capital to go 2-3 years without a salary. You need to know if you can afford to be in a start-up.
I went out on my own because of the investment process – it is systematic so there is not a need to have other people. About 9 months in, I had to hire someone to do marketing and investor relations.
I stated on my own and then hired people. You have to hire people you like and want to work with. Other hires came later and for various reasons.

With respect to compensation – how do you divide profits with the team?

There is a certain percentage which is devoted to profit-share with the employees. Profits outside of that are divided by the two principals of the management company 50/50.
It is difficult to figure out the compensation because the principal is the one who really puts everything on the line. Generally you would give a small portion of the management company to employees and then let that grow over time.
Compensation depends on the facts of the situation. Each negotiation is different.

Did you invest your own capital in your fund?

Yes
Yes. Also had investments in the beginning from the father and father-in-law.
Most start-up manager have their own capital invested in the fund in addition to family and friends.
Yes – about 70% of non-retirement assets in the fund.

Who do you get to invest in your fund at the beginning?

Friends and family; those who know you well and trust you are more likely to invest. Also, people in the industry who know you and your background are usually good groups to help.
People who you have worked with in the past. Also, talk to everyone including capital raisers.

How do you get high net worth investors to invest in your fund?

There are two routes – (1) find large institutions to invest large amounts or (2) be really good at shaking hands and developing personal relationships. If you can develop good personal relationships this is great because the money is usually sticky. Institutions are tough – you’re checking boxes, on phone calls, etc. Also, the people who work at institutions move from allocator to allocator so you can get into the situation where you are talking to an institution for a while and then you essentially get dropped because your point person moves jobs. One reason LinkedIn is such a good tool is that you can always keep up with where a person goes.

How do you get in front of investors?

Beg, plead, try to get others to vouch for you, cold call.

Follow-up: what is the batting average for cold calls?

Very low – 1 out of 50. If you do get money, it is a process. My two biggest clients came from short meetings with the right people. It was serendipitous, but perseverance is key.

How much time do you spend trying to raise assets?

30 to 35% of the time.
It is tough to do everything. Portfolio management takes say 60%, sales and marketing takes 60% of your time. Now I hired a marketer to take weight off. There are a ton of investors out there – probably 100 people in Silicon Valley with a million or more – but not all will invest…
Maybe 20% of the time is devoted to fundraising.

What about 3rd party marketers?

You should be aware of the selling agreement. You want to be careful with respect to scope – you don’t want them to send you a phone book of potential investors.
3rd party marketers are good because they are doing something that I cannot do or do not have the time to do.
With respect to how much you pay these groups, it will usually be 20% of all revenues that are attributable to the assets they bring in – it is better to get 80% of something instead of 100% of nothing.
I’ve had both good and bad experiences with these groups.

The common statement is that if an investor doesn’t bite in 2 days then they won’t invest – is this true?

No, I’ve had a group that has been receiving my monthly statements for a long time but eventually they invested.
Some institutional investment cycles take years. If you are a new firm they are not just going to invest right away. It is worth it to keep up the communications with these groups.
Sometimes you have investors who say they will invest and then get sidelined. Sometimes you have someone who pops up out of the blue.

What is the length of the investment cycle for a high net worth investor versus an institutional investor?

Yes, high net worth investors will likely invest sooner. RFP (request for proposal) – if you don’t know what this means – learn it.
With respect to institutions, they look not only at return risks, but the persons who make the investment decisions are also concerned about losing their job. There is an asymmetrical risk-reward system for these people. No one gets fired for buying IBM and this is why some managers will continue to get money (e.g. the guys from LTCM and Brian Hunter).

Dedicated sales person?

I am not a good salesperson so I needed someone who could do this for me – I took it too personally.

Do you have thoughts on seed money?

We thought about it and in this environment, it is helpful. Right now you are competing for capital with funds which are now open (and which have traditionally been closed to new capital). Having a seed investor allows you to get on the radar and the seeder can be a reference, provide credibility and also do initial due diligence (which will also be completed by institutional investors). It is similar to ventural capital where it is worth giving up some economics for a change in the trajectory of your group. With respect to fees, it will really depends on the facts of your situation and there are no standard terms. Some seed deals range from 20-30% of revenue.
Different seeders have different economics.
Generally a good rule of thumb will be 1% (of the management company equity) for each million they invest in the fund, but again it depends.
The market is in the seeder’s favor, not the manager’s.

What is the hardest question you’ve been asked when raising money?

The big issue that many managers have when raising money is that their presentation is too long – manager’s need to sharpen their focus.

Where are you domiciled, what are your fees?

Standard fee structure and organizational structure.
Started with a stepped or graduated performance fee where the investors benefit, but it was too complicated. The investor actually wanted something standard.
We went with a standard fee structure and have a Cayman master-feeder. Terms are standard. Managers sometimes spend too much time with structure – just go with the standard.
In addition to a fairly standard structure, the manager also does separately managed accounts (SMAs) for investors who want increased liquidity and transparency. The common saying is that the manager will charge what the market can bear.

Audience Questions

Would you be affected if Congress changes the tax rate on the carried interest?

For us it is not a big deal because we do not have long term capital gains in our structure.
For our program (futures/commodities), there is 60/40 taxation so tax on the carried interest is not really an issue.

With respect to due diligence, has it changed recently?

People take due diligence seriously and it can take a long time to complete.
Watch out for the “toxic allocator” that asks for way too much information. Be careful with your time and ask yourself if what is being requested is reasonable or just wasting your time.
The allocators who say that they “meet with everyone” are probably not worth your time. Many institutions require the person who is making investment decisions to meet with a certain amount of managers – many times these persons know who they are going to allocate to, but need to meet their meeting quota.
One good issue that was discussed during the due diligence process was the succession plan. For a one-man management company, having a succession plan in place makes good business sense and makes investors comfortable.

What is the minimum amount you take in a separately managed account?

5 million. You’ve got to take into account the hassle associated with SMAs and your bandwidth. Other institutions will also ask you how many SMAs you are managing.
Smaller amount, but that is because economics and business are different.

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Other related hedge fund law articles:

Hedge Fund Articles – this is a compilation of some of the more important articles on this site with respect to structuring a fund, operational matters and fund raising.
How to Start a Hedge Fund
Summary of Hedge Fund Laws

Cole-Frieman & Mallon LLP, a hedge fund law firm, sponsors the Hedge Fund Law Blog. Bart Mallon, Esq. can be reached directly at 415-868-5345.