“Regulation of Hedge Funds – a Challenging New World”

“Regulation of Hedge Funds – a Challenging New World” WAISC 2010 9th Annual World Alternative Investment Summit Canada NIAGARA FALLS, CANADA MARIANNE K. SMYTHE SEPTEMBER 13 – 15, 2010

Adviser Registration Once upon a time, investment advisers with business in the United States, had to register with the Securities and Exchange Commission, unless . . . .

Private Adviser Exemption from Registration • They managed money for fewer than fifteen (15) clients and none of those clients was a registered investment company (the “private adviser exemption”); or

Intrastate Exemption • They and all their clients were located in a single state (the “intrastate exemption”), or

Foreign Adviser Exemption • They were located offshore (the foreign adviser exemption); or

Family Office Exemption • The clients were members of a family group (the family office exemption).

Exemptions from Registration Now, these exemptions are going, going, going . . . .

Exemptions from Registration . . . . gone!

Exemptions from Registration One year from July 21, 2010, thanks to the “Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010,” these exemptions will be . . .

Exemptions from Registration DEAD!!

Exemptions from Registration Well, maybe not altogether dead!

Exemptions from Registration Nothing is ever that simple that comes out of Washington, D.C.

Exemptions from Registration • In truth, now an adviser will need an advanced degree to determine whether it needs to register with the SEC.

Exemptions from Registration • There are many friendly lawyers who will be more than happy to help an adviser wander through the thicket.

Exemptions 101 • Four different criteria: MONEY LOCATION TYPE OF FUND FAMILY TIES

Money!! Short summary: Manage $$1.0 million or more, you register with the SEC -- Unless all your clients are private funds in which case, If you manage $1.5 million or more you register with the SEC.

Money – Again! SO • Does the adviser manage $100 million or more? If yes, • Unless, all the advisers clients are private funds? If so, does the adviser manage $150 million or more? If yes, • REGISTER with SEC !! • REGISTER with SEC!!

Money – Again! • REGISTER with state(s) in which the adviser does business!! • D0es the adviser manage less than $100 million (or $150 million if all the clients are private funds)? If yes,

Money – Again Are you with me so far? • If the adviser manages $100 million or more than it must register with the SEC –unless all its clients are private funds (i.e., no separate accounts), in which case the adviser does not have to register with the SEC unless it manages $150 million or more. Advisers whose money thresholds do not require registration with the SEC will register with the relevant state.

Location, Location, Location!! • Where the adviser does its managing also matters. • If the adviser has a place of business in the United States . . REGISTER with the SEC!!! UNLESS . . . .

Location – Intrastate Exemption • The adviser is eligible or consigned to the intrastate exemption. • But wait!! Didn’t we just learn that the intrastate exemption was eliminated? • Oh my, that’s why we’re having such fun!!

Location – Intrastate Exemption • Remember, previously, if all an adviser’s clients were in a single U.S. state, and the adviser was also located in that state, the adviser did not have to register with the SEC.

Location – Intrastate Exemption • Now -- money matters, not location!! • $100/$150 million under management, the SEC is your destiny – even if all the clients are in a single state.

Location – Intrastate Exemption • Except, the Dodd-Frank Act offers relief to advisers with less under management who thus would have to register with fifteen (15) or more states. These advisers will be permitted to register with the SEC.

Location – Foreign Adviser Exemption • Dodd—Frank seeks to capture advisers who have waded offshore to manage money.

Location – Foreign Adviser Exemption Such advisers will have to register with the SEC unless during the preceding 12 months the adviser: • Has had assets under management attributable to U. S clients of less than $25,000,000, or such higher amount as the SEC may fix by rule; • Has had fewer than 15 clients in the United States; and

Location – Foreign Adviser Exemption • Has neither held itself out generally to the public in the United States as an investment adviser, nor acted as an investment adviser to any registered investment company or business development company.

Location – Foreign Adviser Exemption AND, one more IMPORTANT thing . . . . For the purposes of counting the number of clients and client assets, an adviser that manages a private fund, has to “look through” that fund to determine if there are U.S. investors in the fund.

Location – Foreign Adviser Exemption • This last point is a GREAT example of why you all need lawyers.

Location – Foreign Adviser Exemption Counting fund clients as clients: • YES for counting the dollar amount of assets (under $25g); • YES for counting the number of clients (fewer than 15).

Location – Foreign Adviser Exemption • NO!!!!! for treating a client of a fund as a client of the adviser for the purposes of the anti-fraud provisions of the Investment advisers Act of 1940.

Location – Foreign Adviser Exemption Here is what Congress said – in plain English!!! (really) • The Commission may not define the term ‘client’ for purposes of paragraphs (1) and (2) of section 206 to include an investor in a private fund managed by an investment adviser, if such private fund entered into an advisory contract with such adviser.’’

Type-of-Fund Issues for Registration • General Rule: Advisers to “private funds” have to register with the SEC unless they qualify for a state or foreign exemption. • So, the next question is . . . .

Type of Fund What is a “PRIVATE FUND?” • A private fund is an investment fund that would be required to register as an investment company under the Investment Company Act of 1940, except that the fund is exempt from registration because it has 100 or fewer investors, or it has 500 or fewer qualified investors.

Type of Fund Issues for Registration • Most hedge funds, venture capital funds and family funds are private funds. • The Dodd-Frank bill offers exemption from registration for two types of private funds – Venture Capital Funds and Family Funds. To paraphrase from George Orwell, in “Animal Farm” . . . .

Type of Fund Issues for Registration • ALL FUNDS ARE PRIVATE, BUT SOME ARE MORE PRIVATE THAN OTHERS . . . . ..

Dodd-Frank Exempts Two Types of Private Fund • The SEC has one year from July 21 to promulgate rules defining those terms. There will be intense discussion about the meaning of the term “venture capital fund”.

Obligations of Registrants • The next question is . . . . • SO WHAT? What is the big deal about registration?

Obligations of Registrants The first obligation . . . REGISTER!! • That means filing a form ADV with the SEC. • The SEC has just announced “improvements” to the form.

Obligations of Registrants • Registration requires the adviser, among other things to have: • A written compliance program; • A chief compliance officer; • A code of ethics; • An insider trading policy; AND . . . .

Obligations of Registrants -- Recordkeeping Toujours – Paperwork!! • The records required to be kept include the usual records relating to customer circumstances and goals. The Dodd-Frank Act expands the recordkeeping requirements to include:

Obligations of Registrants --Recordkeeping • Counterparty identity and credit risk • Trading and investment positions • Types of assets held • Leverage

Obligations of Registrants --Recordkeeping • AUM • Valuation practices and policies • Liquidity • Brokerage practices • Systemic risk indicators • Side letters AND

Obligations of Registrants --Recordkeeping • Such other information as the Commission, in consultation with the Council, determines is necessary and appropriate in the public interest and for the protection of investors • or for the assessment of systemic risk, which may include: • the establishment of different reporting requirements for different classes of fund advisers, based on the type or size of private fund being advised.

Recordkeeping The records must be: • Maintained; • Filed with the SEC when required; • Available for . . . .

Obligations of Registrants--Inspections Inspections – on site! A thoroughly enjoyable experience!!

Nothing is Ever Quite Clear

Nothing is Ever Quite Clear • Advisers that are not required to register because they manage only venture capital funds may still be required to keep certain records as prescribed by the SEC.

Studies • If at first you don’t succeed, try try the outfield!! • Oooops – sorry.

Studies If at first you don’t succeed – order a STUDY!!!

“Regulation of Hedge Funds – a Challenging New World”