Hedge Fund Regulation: What Now? When the U.S. District Court of Appeals for the District of Columbia Threw out the Security and Exchange Commission's Hedge Fund Registration Rule in June, It Appeared to Be a Victory for Those Funds Opposing the Rule, but What Will Come Next?
Collins, Daniel P., Modern Trader
The hedge fund industry fought tooth and nail against the Securities and Exchange Commission's (SEC) plan to register hedge fund advisors. In the end they lost the fight, and since then the Managed Funds Association (MFA) has aggressively moved ahead into the new world of registration to ensure that new regulations do not become onerous. It seemed to arrive at a level of comfort and acceptance of the rule.
Now with the court ruling in the Goldstein case throwing out the Hedge Fund Registration rule and the SEC deciding not to appeal it, the industry is at a strange crossroads. Remember that despite energetic opposition to the SEC's rule, when the issue was under consideration, many in the industry feared a much more intrusive rule and there was some sense of relief that the SEC didn't go further by requiring that hedge funds themselves had to register. Now instead of disappearing the issue is back on the table and there is no guarantee that what comes next will be more amenable to the industry.
Judging from the response to the ruling, all those additional regulatory possibilities are back on the table, meaning this particular ruling may not be the victory it initially appeared to be. Rep. Barney Frank, D-Mass., has sponsored a bill in the House of Representatives that would grant the SEC authority to institute the rule in the first place, and the Senate Banking Committee recently held hearings on hedge fund regulation in lieu of the Goldstein decision. And the Treasury department has hearings planned.
At the time of his appointment, industry sources speculated that new SEC Chairman Christopher Cox would not fight to uphold a rule that former SEC Chairman William Donaldson pushed through on a split vote. But Cox, in testimony before the Banking committee, did not sound prepared to let the registration issue just slip away.
"The concerns about hedge funds that the SEC enunciated when we adopted our hedge fund registration rule in December 2004 remain the same today," Cox stated. "The Commission stated that its then current program of hedge fund regulation was inadequate. With the rejection of the hedge fund rule by the Court of Appeals, I believe that is once again the case."
If that did not make clear that he intended to follow through with additional measures, he added, "We must move quickly to address the gaping hole that the Goldstein decision left. Some improvements will be possible through administrative action. Others, however, may well require legislation."
David Matteson, partner and head of the hedge fund practice group at Gardner Carton & Douglas LLP, says the result of the Goldstein decision opens up a wider range of possibilities for hedge fund regulation and moves the process into Congress. "In terms of what is going to happen, welcome to sausage making. The reality is, depending on how the process goes, the end result can be much more onerous. The results could be better or it could be worse."
However, Lisa McGreevy, VP and chief operating officer of the MFA, sees Congress playing a back up role. "This is not a congressional issue at this point. It is very much a regulatory issue. That is the message that came through loud and clear at the Senate Banking Committee hearing."
McGreevy also says that concern in Congress that U.S. markets remain competitive may favor a lighter touch. "Now with Treasury Secretary [Henry] Paulson at the helm, they are going to work very hard at making sure that we keep our capital markets attractive for investment. How you regulate market players is going to be a big piece of that."
Industry professionals have called for cooperation between the SEC and other members of the Presidents Working Group (PWG), which includes the chairman of the Commodity Futures Trading Commission (CFTC), the Federal Reserve Board chairman and the secretary of the Treasury. When the hedge funds rule was enacted it was clear that other members of the PWG opposed it. …