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SEC unveils rules for oversight of alternative asset managers


The Securities and Exchange Commission voted by a 4 to 1 majority on Friday to propose new rules to strengthen its oversight of investment advisers and fill key gaps in the regulatory landscape, notably by bringing managers of hedge funds and other alternative investments under its aegis.

 The SEC’s proposed rules would implement provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act that became law earlier this year, and that notably provide the authorisation to require advisers to hedge funds and other private funds to register with the SEC.
In 2004 the SEC introduced a controversial rule requiring hedge fund managers to register, but an appeal court agreed with a lawsuit brought by hedge fund manager Philip Goldstein that the regulator did not have the authority to impose the rule. The Dodd-Frank provides the SEC with the necessary authority.
The new rules will also require reporting by certain advisers that are exempt from SEC registration, increase to USD150m the asset threshold above which advisers are required to register with the SEC, define ‘venture capital fund’ and provide clarity regarding certain exemptions to investment adviser registration.
The SEC has also proposed amendments to existing rules that would require disclosure of greater information by investment advisers and the private funds they manage, as well as changes to the regulator’s ‘pay-to-play’ rule under advisers may use paid intermediaries to solicit business from-public-sector entities on their behalf.
“The enhanced information envisioned by these proposed rules would better enable both regulators and the investing public to assess the risk profile of an investment adviser and its private funds,” says SEC chairman Mary Schapiro (pictured).
The SEC is seeking public comment on the proposed rules for a period of 45 days following their publication in the Federal Register.
The Dodd-Frank Act generally extends the registration requirements under the Investment Advisers Act to the advisers of private funds, such as hedge funds and private equity funds. It also gives regulatory responsibility for smaller investment advisers – those with less than USD100m in assets under management – to state securities authorities.
Up to now, the SEC says, advisers to private funds have been able to avoid registering with the Commission because of an exemption that applies to advisers with fewer than 15 clients — an exemption that counted each fund as a client, as opposed to each investor in a fund, even though those advisers could be managing money on behalf of hundreds of investors.
Title IV of the Dodd-Frank Act eliminated this private adviser exemption, meaning that many previously unregistered advisers will be subject to the same registration requirements, oversight and other requirements that apply to other SEC-registered investment advisers.
The SEC says that to enhance its ability to oversee investment advisers to private funds, it is considering requiring advisers to provide additional information about the private funds they manage.
Under the proposed rules, advisers to private funds would have to provide basic organisational and operational information about the funds they manage, such as the amount of assets held by the fund, the types of investor in the fund, and the services provided by the adviser.
They would also have to identify five categories of ‘gatekeepers’ that perform critical roles for advisers and the funds they manage, namely auditors, prime brokers, custodians, administrators and marketers. These requirements are designed to help identify practices that may harm investors, deter fraud, and facilitate earlier discovery of potential misconduct.
In addition, the SEC has proposed other amendments to the adviser registration form that would require all registered advisers to provide more information about their advisory business, including about the types of clients they advise, their employees, and their advisory activities, business practices that might present conflicts of interest, such as the use of affiliated brokers, soft dollar arrangements and compensation for client referrals, and about their non-advisory activities and their financial industry affiliations.
Private fund advisers may not need to register if they qualify for one of three exemptions from registration: advisers solely to venture capital funds, advisers solely to private funds with less than USD150 million in assets under management in the US, and foreign advisers without a place of business in the US and less than USD25m in assets from US clients and private fund investors, which should number fewer than 15.
The first two categories of adviser may still be required to provide the SEC with basic identifying information for the adviser, its owners and affiliates, information about the private funds the adviser manages and about other business activities that might entail significant risk to clients, and any disciplinary history of the adviser and its employees that might reflect on their integrity.
Since 1996, regulatory responsibility for investment advisers has been divided between the SEC and the states, primarily based on the amount of money an adviser manages for its clients.
The Dodd-Frank Act raises the threshold for SEC registration from USD25m to USD100m by creating a new category called ‘mid-sized advisers’ subject to state registration that manage between USD25m and USD100m. As a result, around 4,100 of the current 11,850 registered advisers will switch from registration with the SEC to state regulators.
Venture capital funds are defined as private funds that only invest in equity securities of private operating companies to provide primarily operating or business expansion capital (as opposed to buying out other investors), short-term US Treasury bills or cash; is not leveraged and portfolio companies may not borrow in connection with the fund’s investment; offer a significant degree of managerial assistance, or controls its portfolio companies; and does not offer redemption rights to its investors. Under a proposed grandfathering provision, existing funds that make venture capital investments would generally be deemed to meet the proposed definition.

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