bart. I suppose we'll be seeing a lot of hedge fund news
and I can see the SEC will have their hands full now...]
just fwiw
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Pleasantville hedge fund manager challenges new rules
By JAY LOOMIS AND ALLAN DRURY
adrury@thejournalnews.com
THE JOURNAL NEWS
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The rules
New U.S. Securities and Exchange Commission rules that went into effect last week require most hedge fund and fund-of-funds managers not already registered as investment advisers to register. A fund manager with 15 or more investors and $30 million or more in assets must register. Those with $25 million to $30 million in assets are eligible, but not required, to register.
Registered investment advisers must keep extensive records, open those records to inspection by the SEC and have a chief compliance officer.
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Phillip Goldstein likes to think of himself as a bulldog willing to wage a fight.
For 13 years, those battles have generally been against corporate America through his $90 million hedge fund company with four employees — named, appropriately enough, Bulldog Investors — that buys stakes in underperforming companies and presses management for changes.
But lately, this bulldog from Pleasantville has generated his share of headlines for a courtroom fight against another powerful foe — Uncle Sam.
Goldstein, 61, has pursued a federal lawsuit in Washington for more than a year challenging the Securities and Exchange Commission over new regulations governing the hedge fund industry. Those new rules, which went into effect Wednesday, require that advisers to hedge funds with assets of more than $30 million register with the SEC, beef up record-keeping and open themselves up to potential SEC inspections.
Being under the close watch of government regulators is an unfamiliar feeling for hedge fund companies that previously operated in virtual secrecy, shunning publicity and offering little information to regulators and investors.
The new rules go into effect at a time when the hedge fund industry, like other pillars of the U.S. financial system, has lost some of the public's trust due to scandals. The behavior of some funds and their managers embarrassed the industry and brought calls for more government scrutiny.
"I am not suggesting that we will catch all hedge fund fraud," SEC Commissioner Roel C. Campos said recently at an industry conference, according to a transcript on the Web site. "I believe, however, that regulation will act as a deterrent to those who currently see no barriers to fraud. It also will sift out the dregs from the industry. ... Investors need a cop on the beat when it comes to hedge funds, and the SEC is here to be that watchdog."
But Goldstein, the Pleasantville hedge fund manager, said the SEC rules will do little to deter those wrongdoers intent on breaking the law, while significantly increasing costs, red tape and intrusive inspections for legitimate hedge funds.
"It is tremendous amount of money that will be spent on lawyers," Goldstein said. "Investors will pay for that indirectly, just like other costs."
In the hedge fund universe, Goldstein is a small player compared to the industry giants with luxurious homes, swimming pools and fancy cars in tony Greenwich, Conn., widely known as the hedge fund capital of the world. His background — he previously worked 25 years as a civil engineer for New York City — is also atypical of Wall Street.
But he has not been shy about taking on the SEC through a lawsuit.
"Why should we be afraid?" he said. "We have done nothing wrong. ... I felt that the SEC did not have the legal authority. They were making a law that only Congress could make. It was basically principle."
Although the court has not ruled on Goldstein's suit, he is optimistic that the decision will go his way.
"Maybe this will be my 15 minutes of fame," he said. "When people graduate from high school, someone makes a speech telling the students to go out and make a difference in the world. Most people don't. But making a difference is what we are trying to do."
In 15 years the number of hedge funds rose from 600 to more than 8,000 as assets soared from $38 billion to more than $1 trillion. Hedge funds account for 10 percent to 20 percent of trading volume in U.S. markets, according to the SEC.
The growth has triggered growing concerns about disclosure and investment practices in a notoriously secretive industry.
A blowup at a hedge fund can have bigger consequences than 15 years ago because the pool of investors has expanded beyond wealthy millionaires to those with as little as $25,000 in "fund of funds," vehicles that invest in multiple hedge funds.
Pension funds, foundations and universities have become big investors in hedge funds, whose strategies range from shorting stocks (a bet that they will go down) to playing the futures markets to taking positions in currencies.
"Nobody — neither regulators, industry groups, competing hedge funds, investment banks, nor investors — has a complete picture of the industry," said Campos of the SEC, according to the transcript. "Quite simply, the gaps in the available data regarding hedge funds as a group or even individual hedge funds provide an inadequate basis upon which an investor may evaluate the risk of an investment in such products."
The SEC has filed 51 cases alleging fraud by hedge fund advisers.
Samuel Israel III, the founder and chief executive of Stamford, Conn.-based Bayou Group hedge funds, became one of the industry's more notorious criminals when he admitted that from 1996 to 2005 he lied to investors in order to get them to put their money in the funds. The funds took in $450 million, much of which Israel and Daniel Marino, the company's chief financial officer, stole or misappropriated. Bayou even came up with a sham accounting firm, called Richmond-Fairfield Associates, and falsely claimed the firm audited the Bayou funds.
Israel, who lived in a Mount Kisco house owned by Donald Trump, pleaded guilty to three felony accounts, including mail fraud, which carries a possible 20-year sentence. He and Marino, who pleaded guilty to the same three counts and an additional count of wire fraud, are due to be sentenced in U.S. District Court in White Plains in April.
The SEC also has a lawsuit pending against Wood River Capital Management LLC, an Idaho-based hedge fund, and manager John Whittier, alleging that Whittier promised investors their money would be invested in a variety of securities but that he then accumulated large amounts of stock in EndWave, a California telecommunications company.
The SEC also said in its October court filing that Whittier started a second hedge fund, Wood River Offshore, in the Cayman Islands and told investors that it would have no more than a 9 percent position in any security. But, according to the SEC, the fund took a 98 percent position in EndWave.
Bloomberg News reported last week that the NASD, a securities regulator, is intensifying its investigation into whether giant brokerages Merrill Lynch & Co., Citigroup Inc. and UBS AG made improper hedge fund sales to individual investors.
Under the new rules, passed by the SEC in 2004, hedge fund advisers must compile information about fund returns, investments and employee backgrounds, according to Eric Rosenberg, president of LitigationProofing LLC, a litigation consultant in Mamaroneck.
"Once you are registered, anything that you have saved, the SEC has the right to review it," Rosenberg said. "It is going to take people who have never had to deal with a SEC regulatory environment and force them to comply with a variety of rules and regulations."
Janaya Moscony, an analyst at SEC Compliance Associates Inc. in Philadelphia, said the regulations are well intentioned.
"From my standpoint, if the rule can encourage the advisers who are out there to tighten their controls ... then I think that it is a good thing," Moscony said. "The majority of managers out there want to do the right thing, but there are some companies that if they are not regulated may be willing to let things slide."
Matt Will, a professor of finance at the University of Indianapolis, said he believes that the fund industry has exaggerated the cost of the rules.
"It will drive up the costs, but nominally," he said.
He said he believes that what hedge fund companies really fear is that the SEC will layer more regulations on top of this one and eventually require them to disclose their managers' compensation, profits and other information they now keep to themselves.
"They're saying, 'Yeah, this is no big deal but we know where this is going,' " Will said. "And where this is going is toward full disclosure to their investors."
Currently, fund companies give their investors the information they want to give them and no more, he said. Investors often don't find out a fund company is misbehaving until a fund become insolvent or criminal charges are filed.
Loopholes may allow some hedge fund advisers to avoid registration. If the fund adviser has fewer than 15 clients, they don't have to register. They also are exempt if they require clients to lock up their money for two years.
"The question is what will the SEC do if they find that there are a lot of managers out there trying to avoid registration," Moscony said. "The SEC has said they will have to wait to see what happens in February. ... There is a possibility that they may institute further regulations if they find (lack of compliance) is widespread."
Barry S. Seeman, the president of MMS Capital in New York, a new company that offers hedge fund advice to institutional investors and manages portfolios of hedge funds, said he does not object to the guidelines.
"If you're managing money for pension plans, if you're managing money for individuals I believe the SEC should at least have the right to have some level of scrutiny of that," he said.
Most hedge fund managers are already doing much of the record-keeping and other work the new regulations require, he said.
"Many of these guidelines are based on prudent business practices anyway," he said. "I think the first fear that managers have is the idea that they don't want another group, namely the SEC, coming into their offices once every several years and asking for a tremendous amount of information and sort of adding turmoil to their lives."
Hedge fund lawyer Irwin Latner said the SEC has pegged the cost of compliance at about $25,000 but that does not take into account the cost of hiring and paying a compliance officer or the cost of new technology systems a company may need. Though the rules do not require fund companies to hire people from outside their organizations to serve as compliance officers, many will have to do that in order to keep up with the work.
These and other expenses will make the rule more costly than the SEC estimates, he said. "It's certainly more but it will vary," he said. "I think it could easily be over six figures ($100,000) for larger firms with a lot of complex structures and technology to install."
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