Tag Archives: hedge fund investment advisor

Net Capital Requirement for State Registered Hedge Fund Managers

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Overview of Net Capital Requirement and Bond Alternative

Hedge fund managers who need to register as investment advisors in their state of residence often have to deal with the net capital requirement issue.  Usually there will be two separate net capital requirements for the investment advisor (meaning the fund’s management company) depending on the nature of the advisor’s business:

Advisors with Discretionary Authority – $10,000
Advisors with Custody – $35,000

[Note: these requirements do not usually apply to forex hedge fund managers unless such managers are also registered as investment advisors.]

Generally all state-registered hedge fund managers will have discretionary authority of the hedge fund’s investments so most advisors will need to maintain the $10,000 requirement.  Also, most hedge fund managers will also be deemed to have “custody” of the fund assets because they will either have direct access to the hedge fund’s bank account or because they will directly deposit their management fees from the fund’s brokerage account.  Accordingly, most state-registered hedge fund managers will need to maintain the more burdensome $35,000 net capital requirement.  There is no requirement to combine the $10,000 with the $35,000 for managers with both discretionary authority and custody – in these situations the manager will only need to maintain the $35,000.

Investment Advisor Bond

As an alternative to maintaining a firm net capital according to the rules above, some states will allow hedge fund managers to post a bond in the required amount instead.  Not all states will allow a manager to post a bond instead, so you should be sure to talk with your hedge fund attorney or compliance professional before you begin the process of securing a bond.

Securing the Bond

There are a number of groups out there that can underwrite these sorts of bonds for the money managers.  The fees for such bonds will be anywhere from $250 to $1,000, depending on a number of factors including the credit history of the managing member of the fund management company.  It will generally take anywhere from a few days to a couple of weeks to secure the bond and from there, the manager will likely need to show proof to the state securities division that the bond has been secured in the appropriate amount.

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Please contact us if you have any questions or would like to start a hedge fund.  Other related hedge fund law articles include:

Bart Mallon, Esq. runs Hedge Fund Law Blog and has written most all of the articles which appear on this website.  Mr. Mallon’s legal practice is devoted to helping emerging and start up hedge fund managers successfully launch a hedge fund.  Cole-Frieman & Mallon LLP will also help state based Investment Advisors to register with their state securities division.  If you are a hedge fund manager who is looking to start a hedge fund or an investment advisor looking to register, please call Mr. Mallon directly at 415-296-8510.

Form U4 and Form U5 Amendments

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NASAA Requests Comments on Proposed Changes

Form U4 is the form used by Investment Advisory firms to register investment advisor representatives with their firm.  It is also used by broker-dealers to register reps with their firms.  Form U5 is used by both IA and BD firms to terminate a representative’s employment with such firm.  While I have not reviewed the changes to the forms in depth, the summary discussion (reprinted below) sounds reasonable.  We may be submitting comments on these proposals in the future as we discuss with other industry participant – please let us know if you have strong thoughts one way or another on the proposed changes.

The press release and discussion are both reprinted below.  For more information, please visit the NASAA site here.   Please also review our recommended articles at the very bottom of this page.

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Notice for Request for Comment on Amendments to Forms U4 and U5 and Proposed Guidance for Filings by Investment Adviser Representatives

The NASAA CRD/IARD Steering Committee and the CRD/IARD Forms and Process Committee have worked with FINRA, regulators, and representatives of the financial services industry in developing amendments to the Form U4 and Form U5.

The proposed changes have been published by both FINRA and the SEC for public comment.  On May 13, 2009, the SEC approved the proposed changes. NASAA is now publishing the amended forms for further review and comment by its members and other interested parties in anticipation of adoption of the revised forms by the NASAA membership.

In addition, this notice includes suggested guidance for states in responding to inquiries regarding the impact of the revisions on filings by investment adviser representatives.

The comment period begins June 9, 2009, and will remain open for 14 days. Accordingly, all comments should be submitted on or before June 23, 2009.

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NOTICE FOR REQUEST FOR COMMENT ON AMENDMENTS TO THE UNIFORM APPLICATION FOR SECURITIES INDUSTRY REGISTRATION OR TRANSFER (FORM U4), THE UNIFORM TERMINATION NOTICE FOR SECURITIES INDUSTRY REGISTRATION (FORM U5), AND PROPOSED GUIDANCE FOR FILINGS BY INVESTMENT ADVISER REPRESENTATIVES.

The NASAA CRD/IARD Steering Committee and the CRD/IARD Forms and Process Committee have worked with FINRA, regulators, and representatives of the financial services industry in developing amendments to the Form U4 and Form U5.  The proposed changes have been published by both FINRA and the SEC for public comment.  On May 13, 2009, the SEC approved the proposed changes.  NASAA is now publishing the amended forms for further review and comment by its members and other interested parties in anticipation of adoption of the revised forms by the NASAA membership.

In addition, this memo includes suggested guidance for states in responding to inquiries regarding the impact of the revisions on filings by investment adviser representatives.

Questions or comments regarding the revised forms should be directed to the following individuals:
Melanie Lubin
Office of the Attorney General
Division of Securities
200 Saint Paul Place
Baltimore, Maryland 21202-2020
(410) 576-6360
[email protected]

Pam Epting
Office of Financial Regulation
200 East Gaines Street
Tallahassee, Florida 32399-0372
(850) 410-9819
[email protected]

Joseph Brady
NASAA
750 First Street, NE
Suite 1140
Washington, DC 20002
202-737-0900
[email protected]

The comment period begins June 9, 2009, and will remain open for fourteen (14) days.  Accordingly, all comments should be submitted to the individuals noted above on or before June 23, 2009.

Summary of Proposed Changes to Registration Forms

The SEC recently approved amendments for Forms U4 and U5 (“the Forms”).  These changes fall into the following categories.

  1. Willful Violations.  Additional questions have been added to Form U4 in order to enable regulators to identify more readily individuals and firms subject to a particular category of statutory disqualification pursuant to Section 15(b)(4)(D) of the Exchange Act.
  2. Revision to Arbitration and Civil Litigation Question.  Changes were made to the text of the question on the Form U4 regarding disclosure of arbitrations or civil litigation to elicit reporting of allegations of sales practice violations made against a registered person in arbitration or litigation in which that person was not named as a party to the arbitration or litigation.
  3. Revision to Monetary Threshold.  The monetary threshold for reporting settlements of customer complaints, arbitrations or civil litigation on the Forms has been raised from $10,000 to $15,000.
  4. Date and Reason for Termination.  The definition of “Date of Termination” in the Form U5 has been revised in order to enable firms to amend the “Date of Termination” and the “Reason for Termination” subject to certain conditions.
  5. Technical Amendments.  Certain technical and clarifying changes were made to the Forms.

The SEC approved these amendments effective May 18, 2009, except the new disclosure questions regarding willful violations, which become effective 180 days later on November 14, 2009.  Firms will be required to amend Form U4 to respond to the new disclosure questions the first time they file Form U4 amendments for registered persons after May 18, 2009, at which time they may provide provisional “no” answers.  However, firms must provide final answers to the questions no later than November 14, 2009.

Revisions Regarding Willful Violations.

The amendments modify the Forms to enable regulators to query the CRD system to identify persons who are subject to disqualification as a result of a finding of a willful violation.  Specifically, the amendments add additional questions to existing Questions 14C and 14E on Form U4.  Question 14C, which inquires about SEC and Commodity Futures Trading Commission (CFTC) regulatory actions, adds three new questions regarding willful violations.  Similarly, Question 14E, which concerns findings by a self-regulatory organization, adds three identical questions.  The Form U4 Regulatory Action Disclosure Reporting Page (DRP) will continue to elicit specific information regarding the status of the events reported in response to these questions.

Adding new disclosure questions to Form U4 requires firms to amend such forms for all their registered persons. To ensure that firms have appropriate time to populate the forms accurately, the SEC delayed the effective date for the new regulatory action disclosure questions for 180 days until November 14, 2009. This schedule will provide firms with up to 180 days from the release date to answer the regulatory action disclosure questions.  Additionally firms, at their discretion, can file provisional “no” answers to the six new regulatory action questions during the 180-day period between the release date and the effective date.  During this time, the regulatory action disclosure questions will appear in the CRD system in a manner designed to indicate that such questions are not effective until 180 days from the release date and that any answers provided in response to such questions are provisional until such time as those questions become effective.  Any “no” answers filed in response to the new regulatory action disclosure questions during such 180-day period that are not amended before November 14, 2009, will become final, and the firm and subject registered person will be deemed to have represented that the person has not been the subject of any finding addressed by the question(s).  If a firm determines that a registered person must answer “yes” to any part of Form U4 Questions 14C or 14E, the amendment filings must include completed DRP(s) covering the proceedings or action reported.

With respect to Form U5, the amendments did not alter Question 7D (Regulatory Action Disclosure), but added new Question 12C to the Form U5 Regulatory Action DRP. As of May 18, 2009, firms that answer “yes” to Question 7D on Form U5 will be required to provide more detailed information about the regulatory action in Question 12C of the DRP.  For regulatory actions in which the SEC, CFTC or an SRO is the regulator involved, Question 12C requires firms to answer questions eliciting whether the action involves a willful violation. These questions correspond to the questions added to the Form U4.  A firm will not be required to amend Form U5 to answer Question 12C on the DRP and/or add information to a Form U5 Regulatory Action DRP that was filed previously unless it is updating a regulatory action that it reported as pending on the current DRP.

Revisions to the Arbitration and Civil Litigation Disclosure Question.

The Forms have been revised to require the reporting of allegations of sales practices violations made against registered persons in a civil lawsuit or arbitration in which the registered person is not a named party.  Specifically, Question 14I on Form U4 and Question 7E on Form U5 were amended to require the reporting of alleged sales practice violations made by a customer against persons identified in the body of a civil litigation complaint or an arbitration claim, even when those persons are not named as parties. The new questions apply only to arbitration claims or civil litigation filed on or after May 18, 2009. A firm is required to report a “yes” answer only after it has made a good-faith determination after a reasonable investigation that the alleged sales practice violation(s) involved the registered person.

Revisions to the Monetary Threshold.

The current monetary threshold for settlements of customer complaints, arbitrations or litigation was set in 1998 and has not been adjusted since that time.  The changes to the Forms include raising the existing reporting threshold from $10,000 to $15,000 to reflect more accurately the business criteria (including the cost of litigation) firms consider when deciding to settle claims. This change is reflected in Question 14I on Form U4 and Question 7E on Form U5.

Revisions Regarding “Date of Termination” and “Reason for Termination.”

Revisions to Form U5 provide that the date to be provided by a firm in the “Date of Termination” field is the “date that the firm terminated the individual’s association with the firm in a capacity for which registration is required.”  The amendments further clarify that, in the case of full terminations, the “Date of Termination” provided by the firm will continue to be used by regulators to determine whether an individual is required to requalify by examination or obtain an appropriate waiver upon reassociating with a firm.  Revisions to Form U5 also clarify that the relevant SRO or jurisdiction determines the effective date of termination of registration. The rule change also permits a firm, as of May 18, 2009, to amend the “Date of Termination” and “Reason for Termination” fields in a Form U5 it previously submitted, but in such cases it requires the firm to provide a reason for each amendment. To monitor such amendments, including those reporting terminations for cause, FINRA will notify other regulators and the broker-dealer with which the registered person is currently associated (if the person is associated with another firm) when a date of termination or reason for termination has been amended. The original date of termination or reason for termination will remain in the CRD system in form filing history.

Technical Revisions.

The Forms were amended to make various clarifying, technical and conforming changes generally intended to clarify the information elicited by regulators and to facilitate reporting by firms and regulators. For example, the amendments eliminated as unnecessary certain cross-references in the Forms.  Additionally, certain “free text” fields were converted to discrete fields.  The amendments also add to Section 7 of Form U5 (Disclosure Questions) an optional “Disclosure Certification Checkbox” that will enable firms to affirmatively represent that all required disclosure for a terminated person has been reported and the record is current at the time of termination. Checking this box will allow the firm to bypass the process of re-reviewing a person’s entire disclosure history for purposes of filing Form U5 in situations in which disclosure is up to date at the time of the person’s termination.  The amendments make additional technical changes to the Forms. For example, they incorporate the definition of “found” from the Form U4 Instructions into the Form U5 instructions; provide more detailed instructions regarding the reporting of an internal review (conducted by the firm); and clarify how an individual may file comments to an Internal Review DRP.

Guidance Regarding U4 Filings for Investment Adviser Representatives.

As explained above, the questions added to items 14C and 14E have been approved by the SEC but the effectiveness of the questions has been delayed until November 14, 2009.  The questions currently appear on the form in a manner designed to indicate that they are not currently effective.  Further, the answers to the questions currently default to “no” and will continue to do so until they become effective later this year unless a filer manually selects a “yes” answer.  The delayed effective date coupled with the default “no” answer is a temporary accommodation in order to give filers an opportunity to determine the appropriate answers to the new questions.

The CRD/IARD Steering Committee has received inquiries regarding how investment adviser representatives should respond to these questions.  It is the Steering Committee’s recommendation that state and territorial securities regulators handle the filings for investment adviser representatives in the same manner as broker-dealer agents who file on or after May 18, 2009.  That is, investment adviser representatives should be allowed to file provisional responses to the questions contained in 14C and 14E on the Form U4 until such time as the questions become effective on November 14, 2009.

Forms.

Copies of the revisions as approved by the SEC are attached.

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Please contact us if you have any questions or would like to start a hedge fund. Other related hedge fund law articles include:

Proposed Amendments to the Investment Advisers Act: SEC Requests Feedback

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The Securities and Exchange Commission (SEC) is proposing certain amendments to the custody rule under the Investment Advisers Act of 1940 and related forms. Due to the complexity of the various impositions placed on industry professionals by the proposed amendments, the SEC is formally requesting feedback from industry professionals regarding the impact of the new legislation.

Specifically, the amendments address Rules 206(4)-2 and 204-2, and Forms ADV and ADV-E. The amendments are summarized in the bullet points below:

Rule 206(4)-2: All registered investment advisers:

  • must have a reasonable belief that a qualified custodian sends quarterly account statements directly to the advisory clients
  • must undergo an annual surprise audit examination by an independent accountant
  • is presumed to have custody over any clients’ assets that are maintained by the advisers ‘related persons’, so long as those assets are in connection with the advisory services
  • must obtain or receive an annual internal control report, if the adviser also acts as a qualified custodian over client assets
  • must inform the SEC within one business day of finding any material discrepancies during an audit examination

Rule 204-2: All registered investment advisers:

  • must maintain a copy of an internal control report for five years from the end of the fiscal year in which the internal control report is finalized

Form ADV:  All registered investment advisers:

  • must report all related persons who are broker-dealers and to identify which, if any, serve as qualified custodians with respect to client funds
  • must report the dollar amount of client assets and the number of clients of which he/she has custody
  • must identify and provide detailed information regarding the accountants that perform the audits/examinations and prepare internal control reports

Form ADV-E: All PCAOB-registered accountants:

  • must file Form ADV-E with the SEC within 120 days of the completion of the audit examination
  • must submit Form ADV-E to the SEC within four business days of his/her resignation, dismissal from, or other termination of the engagement, accompanied by a statement that includes details of the resignation

All comments to the proposed amendments must be received by the SEC on or before July 28, 2009.  Please contact us if you have any questions on the above proposed amendments or would like to start a hedge fund.  Additionally, we will be submitting our comments to the SEC with regard to the proposed amendments and would like to know what you think as well – please comment below.

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For further information regarding the proposed amendments, please refer to the more detailed abstract below.  The full text of the proposed rules can be found here.

SEC Proposed Custody Amendments Abstract

The Securities and Exchange Commission (SEC) is proposing certain amendments to the custody rule under the Investment Advisers Act of 1940 and related forms, with the intent to enhance the protections afforded to clients’ assets under the Advisers Act when an advisor has custody of client funds or securities. These amendments are proposed as a response to a number of recent enforcement actions against investment advisors alleging fraudulent conduct, including misappropriation or other misuse of investor assets.  Specifically, the amendments address Rules 206(4)-2 and 204-2, and Forms ADV and ADV-E. Due to the complexity of the various impositions placed on industry professionals by the proposed amendments, the SEC is formally requesting feedback from industry professionals regarding the impact of the new legislation.

Rule 206(4)-2, also known as the ‘custody rule’, seeks to protect clients’ funds and securities in the custody of registered advisers from misuse or misappropriation by requiring advisers to implement certain controls. The current rule requires registered advisers to maintain their clients’ assets in separate identifiable accounts with a qualified custodian, such as a broker-dealer or bank. Presently, advisors may comply with the rule by either a) having a reasonable belief that a qualified custodian sends quarterly account statements directly to the advisory clients or alternatively b) the advisor sending his/her own quarterly account statements to clients and undergoing an annual surprise audit examination by an independent public accountant. Similarly, an adviser to a pooled investment vehicle may currently comply with the rule by having the pool audited annually by an independent public accountant and distributing the audited financials to the investors in the pool within 120 days of the end of the pool’s fiscal year.

The proposed amendments to Rule 206(4)-2 aim to codify both of the above mentioned compliance alternatives by requiring  that all registered advisers having custody of client assets must a) have a reasonable belief that a qualified custodian sends quarterly account statements directly to the advisory clients and b) undergo an annual surprise examination.  The amendments also explicitly state that an adviser is presumed to have custody over any clients’ assets that are maintained by the advisers ‘related persons’, so long as those assets are in connection with the advisory services. The SEC additionally proposes that if an independent qualified custodian does maintain client assets, but rather the advisor or a related person him/herself serves as a qualified custodian for the client, then the advisor must obtain or receive from the related person an annual internal control report which would include a) an opinion from an independent public accountant registered with the Public Company Accounting Oversight Board (PCAOB), and b) a description of the relevant controls in place relating to custodial services and the objectives of these controls, as well as  the accountant’s tests of operating effectiveness and the test results. Lastly, the newly amended rule would also require the adviser and the accountant to inform the SEC within one business day of finding any material discrepancies during an examination that may assist in protecting advisory client assets. Together, these revisions to Rule 206(4)-2 are designed to strengthen the controls relating to the advisors’ custody of client assets and deter advisors from fraudulent activity.

Rule 204-2, governing record maintenance, presently requires that investment advisors obtain or receive a copy of an internal control report from its related person.  The proposed amendment to this rule would additionally require the advisor to maintain the copy for five years from the end of the fiscal year in which the internal control report is finalized. This amendment to Rule 204-2 is designed to further implement safeguards to protect clients’ assets and offset custody-related risks.

Form ADV, which outlines the data to be reported to the SEC by investment advisors, has also been amended to provide the SEC with additional data and more complete information from the perspective of the advisor. Currently, Item 7 of Part1A requires advisers to report on Schedule D of Form ADV each related person that is an investment adviser, and permits advisers to report the names of related person broker-dealers.  The new amendment modifies Item 7 to require an advisor to report all related persons who are broker-dealers and to identify which, if any, serve as qualified custodians with respect to client funds. Similarly, Item 9 of Part1A currently requires advisers to report whether they or a related person have custody of client funds. The new amendment to Item 9 requires an adviser to report the dollar amount of client assets and the number of clients of which he/she has custody. Other reporting duties to be implemented under the new amendments include: a) whether a qualified custodian sends quarterly account statements to investors in pooled investment vehicles managed by the adviser, b) whether these account statements are audited, c) whether the adviser’s clients’ funds  are subject to a surprise examination and the month in which the last examination commenced, and d) whether an independent PCAOB-registered accountant prepare an internal control report when the adviser is also acting as a qualified custodian for the clients’ funds. Schedule D of Form ADV would also be amended to require additional reporting duties of the adviser, including: a) identifying the accountants that perform the audits/examinations and prepare internal control reports, b) providing information about the accountants including address, PCAOB registration, and inspection status, c) indicating the type of engagement (audit, examination, or internal control report), and d) indicating whether the accountant’s report was unqualified.  These proposed amendments to Form ADV are designed to allow the SEC to better monitor compliance with the requirements of Rules 206(4)-2 and 204-2 and better assess the compliance risks of an adviser.

Form ADV-E, which outlines the data to be reported to the SEC by designated accountants, has also been amended to provide the SEC with additional data and more complete information to the SEC from the perspective of the accountant. Currently, the rule requires this form to be filed within 30 days of the completion of the examination, accompanied by a certificate confirming that the accountant completed an examination of the funds and describing the nature and extent of the examination. The SEC proposes to amend this rule governing Forms ADV and ADV-E to extend the grace period within which the forms must be submitted to a period of 120 days from the time of the examination. Based on SEC observations, an adviser’s surprise examination may sometimes continue for an extended period of time, warranting this extension. Additionally, the amendment requires that the accountant submit Form ADV-E to the SEC within four business days of his/her resignation, dismissal from, or other termination of the engagement, accompanied by a statement that includes a) the date of such resignation, dismissal or termination, b) the accountant’s name, address and contact information, and c) an explanation of any problems relating to examination scope or procedure that contributed to such resignation, dismissal or termination. This proposed amendment to Form ADV-E is designed to provide the SEC with the information necessary to further evaluate the need for an examination to determine whether the clients’ assets are at risk.

The SEC strongly urges investment advisors, public auditors/accountants, and related professionals in the field of securities and investments to review the proposed amendments to the Advisers Act and submit relevant feedback that may assist the Commission in analyzing the effectiveness, efficiency, and feasibility of the proposed amendments as well as the possible impact of these new legislative measures on the global marketplace. While all proposed amendments are designed to provide additional safeguards to client funds or securities under adviser custody, the potential ramifications of their enforcement is currently being assessed. Comments may be submitted in electronically via the Commission’s internet comment form (http://www.sec.gov/rules/proposed.shtml), via e-mail to [email protected], or via the Federal eRulemaking Portal (http:/www.regulations.gov). Paper comments can be sent in triplicate to Elizabeth M. Murphy, Secretary, Securities and Exchange Commission, 100 F Street, NE, Washington, DC 20549-1090. All comments to the proposed amendments must be received by the SEC on or before July 28, 2009.  All submissions must refer to File Number S7-09-09, and will be made available to the public via the Commission’s Internet Website: http://www.sec.gov/rule/proposed.shtml.

SEC Chairman Discusses Potential New IA Custody Rules

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Hedge Fund Advisors May be Impacted

Yesterday SEC Chairman Mary Schapiro discussed many new SEC initiatives in a speech given to the Society of American Business Editors and Writers.  One of the new initiatives involves those advisors who have “custody” of client assets.  With respect to such advisors, Shapiro said:

I anticipate that this proposal will include a consideration of “surprise” examinations by a certified public accountant, and a requirement that investment advisers undergo third-party compliance audits.

The tone of the speech was that of a new gunslinger who has come into town to clean up – in addition to the new custody provisions, she discussed regulatory reform and giving SEC examiners more room to initiate investigations.  Many of the ideas expressed in the speech may be worrisome to investment advisors and investors because the initiatives are likely to add significantly to the operating costs of hedge fund managers who are registered as investment advisors.  Additionally, registered managers may face increase inquiries into their business by nosy SEC examiners which will not go over well within the industry.

Below I have reprinted what I thought were important or interesting parts of the speech; the full text can be found here.

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Speech by SEC Chairman:
Address to the Society of American Business Editors and Writers

by

Chairman Mary L. Schapiro
U.S. Securities and Exchange Commission
SABEW Annual Conference 2009
Denver, Colorado
April 27, 2009

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Policies/Rules:

Enforcement has been the most visible program at the SEC in recent history. But the financial crisis teaches us that there are policy and regulatory gaps that the SEC must also address.

Again, if investors are to have confidence in the ratings assigned to securities, that corporate boards are working on behalf of stockholders, that investment advisers are not running Ponzi schemes, that money market funds won’t break the buck, then the SEC needs to be pushing forward a real agenda of reform.

Let me just highlight a few of these:

…

Custody:

In response to major investment scams — such as Madoff — and a rash of Ponzi schemes, we will be considering two proposals as part of a package of initiatives designed to better assure the safekeeping of investor assets.

In short order, the Commission will consider a proposal to strengthen the controls applicable to investment advisers with custody of client funds and securities. I anticipate that this proposal will include a consideration of “surprise” examinations by a certified public accountant, and a requirement that investment advisers undergo third-party compliance audits.

Also, as part of this package, I have asked the staff to draft a Commission requirement that a senior officer from broker-dealers and investment advisers with custody certify that controls are in place to protect investor assets.

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Reforming the Landscape:

As a result, there is significant debate about regulatory reform — not about whether it should happen, but about what form it will take. You might say the train has left the station, but no one quite knows for sure where it will come to stop.

Whatever form it takes, I support the view that there is a need for system-wide consideration of risks to the financial system and to create mechanisms to reduce and avert such systemic risks.

But, at the same time, I believe that any reform must not — and cannot — compromise the quality of our capital markets or the protection of investors.

If we cannot show investors that we are looking out for their interests as much as the interests of the financial institutions — then we will have little success in restoring confidence.

Investors need to see that we are going after those who engage in wrongdoing. They need to see that we are forcing companies to be truthful and transparent in their reporting. They need to see that we are limiting risk in areas where substantial risk is not what they’re buying. And, they need to see that we’re rooting out fraud.

In short, they need an agency that’s there for them — and primarily them. They need an independent agency that exists not just to protect Wall Street, but to protect Main Street.

By offering that to investors, we can help to restore confidence.

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In addition, I have streamlined our enforcement procedures by no longer requiring full Commission approval to launch an investigation. And, I’ve eliminated the need for full Commission approval before negotiating a settlement with a corporate defendant.

Before these directives, enforcement attorneys will tell you that they worried about red lights at every turn — now they see green.

Additionally, I brought on a consulting firm to assess and revamp the way we handle the nearly 1 million tips and complaints we get each year. Because we do not have unlimited resources we cannot pursue every lead — we get about 2,000 every day. But we can do a better job ensuring that each tip lands on the right desk and that the person reviewing it has the necessary skills.

Further, we are looking at improving our training programs and hiring new skill sets — from financial analysis to experts in complex trading strategies. It’s all an effort to keep pace with the fraudsters and the ever-changing financial concoctions of the day.

For me, the progress cannot be fast enough.

When I review the pipeline of cases I see how much we are confronting.

  • We have approximately 150 active hedge fund investigations, some of which include possible Ponzi schemes, misappropriations, and performance smoothing.
  • We have about two dozen active municipal securities investigations possibly involving offering frauds; arbitrage-driven fraud; public corruption; and price transparency.
  • And, we have more than 50 current investigations involving Credit Default Swaps, Collateralized Debt Obligations and other derivatives-related investments.

… and that’s just a small slice.

Please contact us if you have a question on this issue or if you would like to start a hedge fund.  If you would like more information, please see our articles on starting a hedge fund.  Other related hedge fund law articles include:

SEC Hedge Fund Registration Exemption – Section 203(b)(3) and Rule 203(b)(3)-1

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Exemption from the Registration Provisions of the Investment Advisors Act

We have discussed the SEC hedge fund registration exemption many times before, but we have not addressed it directly.For most management companies with a single hedge fund client, registration is actually a relatively easy and straightforward process.  Once hedge fund managers are registered as investment advisors with the SEC there are certain recordkeeping requirements for the hedge fund manager, but the requirements are not onerous (for more information, please see ).

Notwithstanding the above, many managers will choose to remain unregistered for a variety of different reasons and those managers will typically rely on the hedge fund registration exemption found in Section 203(b)(3) of the Investment Advisors Act of 1940.  The exemption and the rule underlying the exemption is detailed in full below. Continue reading →

Oregon Hedge Funds – Investment Advisor Issues

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Questions and Answers on Oregon Investment Advisor Registration For Hedge Funds

Some states will provide a good source of information to start up hedge fund managers which details whether the hedge fund manager will need to register as an investment adviser in the state of residence.  The following resource is from the Oregon Division of Finance and Corporate Securities and answers common questions that potential Oregon hedge fund managers would have regarding the Oregon investment advisor registration requirements.

Specifically this set of questions and answers shows us that there is no de minimis rule which would allow managers to escape investment advisor registration in Oregon; the Q&A also details the notice filing requirements in Oregon.  Even though SEC registered investment advisors will not need to register with the state securities division, the firm will need to “notice file” and pay a filing fee and investment advisor representatives of the firm will usually need to have the Series 65 and the investment advisory firm will need to pay a filing fee for the representative.  Continue reading →

California Investment Advisor Exemption for Certain Hedge Fund Managers

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In the article Connecticut Hedge Fund Registration Exemption, we discussed that certain states like Connecticut provide administrative orders allowing hedge fund managers an exemption from the registration provisions under certain circumstances.

Similarly certain states have provided a similar exemption to hedge fund managers through the securities commission rule making process.  For example, California Rule 260.204.9 provides that hedge fund managers are exempt from registration with the California Securities Commission if (i) the manager has $25 million or more in assets under management and (ii) has less than 15 clients (a hedge fund counts as a single client).  As with all exemptions from investment advisor registration, the hedge fund manager must make sure that it does not hold itself out as an investment advisor.  The California Rule also provides an exemption for managers of venture capital funds. Continue reading →