Shhh. Don’t tell anyone.
The financial overhaul bill being hammered out by the House and Senate this week won’t meaningfully impact hedge funds, and may even help them.
Hedge fund managers and execs know this, which is why they have mostly kept a low profile while hot button issues like regulating OTC derivatives trading, removing Wall Street firms from the swaps business, creating a consumer protection agency and implementing the so-called Volcker rule received most of the attention.
And I doubt you will hear a peep from hedge funds now that the two Congressional groups agreed to require both private firms and hedge funds to register, mostly since it was widely expected.
According to published reports, it looks like firms with less than $150 million will be exempt, the threshold favored by the House. The Senate’s bill had a $100 million hurdle.
The bill also is likely to exempt venture capital funds, family offices and those firms managing less than $150 million.
According to published reports, those firms that will have to register will be required to establish formal compliance policies, hire a compliance officer, face a higher level of disclosure of information, such as agreements made with investors in side letters or portfolio company valuations; and face regular inspections by the SEC, which can last a few days or even a few months.
Sounds onerous? Depends upon who you speak with. First of all, keep in mind that 55 percent of hedge funds are already registered, including most large firms that want to cater to institutional investors. And industry luminaries have endorsed this policy for years, suggesting that if resisters go offshore, so be it.
Compliance policies? Compliance officers? Many of the mid-size and large firms already have extensive compliance and risk management departments. And the Bernie Madoff scandal and the 2008 market meltdown virtually required most firms to make sure they have tough compliance programs.
Sure, the some smaller firms will have to scramble to build compliance operations. That’s not a bad thing. After all, for the past year or two many hedge fund experts have been predicting that the bigger firms with the compliance departments and other internal controls will be favored by the increasing number of institutional investors, who returned to hedge funds after the meltdown quicker than they returned to private equity funds.
In fact, Man Group and GLG cited the desire to be even larger as one of the many reasons for their merger announcement last month.
Registration would also boost the credibility of the smaller hedge funds, which for the past two years have had an even tougher time raising money in general.
As for disclosure, hedge fund managers’ line in the sand issue is being required to publicly disclose investment positions in more detail than they are already required to do. However, the bill — and even the most anti-hedge fund politician — is not going near this issue.
Meanwhile, certain provisions that could wind up in the final financial overhaul bill could benefit hedge funds.
For example, if the Volcker rule — which would ban proprietary trading for many Wall Street firms — does in fact get into the final bill, it could potentially help hedge funds, since they won’t have to compete with firms that are much better capitalized than they are.
Derivatives trading could become cheaper too if most OTC trades must be brought to clearinghouses or exchanges, and especially if the major banks must divest their swap trading operations. This is because the increased transparency would result in better price discovery (Yes, I buy the Gary Gensler argument).
The upshot: If I were a hedge fund manager, I would look at what is shaping up to be the final financial overhaul bill and quietly thank Washington for not making it much worse — the reward for not posing systemic risk or requiring a bailout during the recent market meltdown.
