Oct. 28, 2008

The End of Deferral As We Know It: The New Rules Prohibiting the Deferral of Compensation Paid to U.S. Managers By Off-Shore Hedge Funds

On October 3, 2008, Congress enacted, and President Bush signed, legislation that will curtail deferral of compensation payable by off-shore funds to U.S. managers beginning in 2009, and require that income previously deferred be recognized no later than 2017. In a guest column, Mark Leeds and Yoram Keinan, Partner and Of Counsel, respectively, at Greenberg Traurig, LLP, offer a thorough analysis of the mechanics of the new legislation and what it means for hedge fund managers in structuring their funds and compensation arrangements.

Seeking a Way Out: Hedge Fund Investors Turning to Secondary Market to Get Out of Investments

Liquidity has become a scarce and increasingly coveted resource in the hedge fund community.  On the investor side, longer lock ups mean less liquidity of hedge fund investments; many investors would like the performance or diversification benefits of a hedge fund investment without the long lock up.  And on the manager side, investor redemptions and margin calls often require asset sales at inopportune times; all things being equal, mangers generally would prefer to select the timing of purchases and sales of assets rather than having that timing imposed on them, especially for non-investment considerations.  Secondary markets for hedge fund interests have grown in popularity of late as a method – albeit not without criticism – of reconciling the interests of hedge fund managers and investors and the pervasive need for liquidity in a tight credit environment.

Fannie Mae and Freddie Mac’s Credit Default Swaps Auction May Buttress Case Against Regulation of Derivatives

Amid renewed pressures from policy makers to increase regulatory oversight of the $55 trillion over-the-counter credit default swaps market, on Monday, October 6, buyers and sellers of Fannie Mae and Freddie Mac’s debt obligations successfully settled their counterparty exposure in an auction administered by Creditex and Markit in partnership with 13 major credit derivatives dealers.  Auctions have emerged as one of the most efficient methods of settling rights and obligations of parties in the CDS market upon the occurrence of major credit events.  According to market observers, the Fannie and Freddie auction, as well as the low-priced Lehman auction, are a clear sign that CDS markets can operate in an orderly fashion in the midst of the most pervasive financial crisis in decades.  “The process has been very orderly and the CDS market continues to function and provide liquidity,” an ISDA official told the Hedge Fund Law Report.

New Rule Requires Disclosure of Hedge Fund Short Positions to the SEC, But Not to the Public

On October 15, the Securities and Exchange Commission issued interim temporary final Rule 10a-3T, requiring hedge funds to report short positions, but providing that such positions would not be publicly disclosed.  The absence of a public disclosure requirement generally was well received by the hedge fund community, but the rule still left many hedge fund lawyers and other financial observers interviewed by the Hedge Fund Law Report speculating about the agency’s ultimate purpose in collecting the data.

Ongoing Credit Crisis is Significantly Impacting Trading of OTC Derivatives, TABB Group Study Reveals

In the face of the current credit crisis, a growing range of investment firms are trading equity derivatives.  According to a new study published by the TABB Group, a research and advisory firm, entitled “Equity Swaps and OTC Options 2008: A Buy-side Perspective,” nearly two-thirds of the 32 asset managers interviewed at buy-side firms in the U.S. trading an aggregate of $6.35 trillion dollars of assets under management say that the continuing credit crisis is having a significant impact on their trading of over-the-counter derivatives.  Moreover, more than half of U.S. asset managers have tightened their risk management processes in the aftermath of the credit crunch to guard against the counterparty failures in the equity derivatives markets.  The Study reports that as many as 57% of the buy-side firms surveyed said that the main impact of the credit crisis is an increased focus on counterparty risk.