Oct. 25, 2012

Key Considerations for Hedge Fund Managers in Evaluating the Use of Cloud Computing Solutions (Part Two of Two)

Technology solutions can significantly enhance a hedge fund manager’s ability to operate more effectively and efficiently.  However, they also raise the expectations of fund investors and regulators and can be costly to implement, particularly for early-stage managers with little launch capital and limited office space.  As a result, many managers have opted for cloud solutions, which provide online access to powerful technologies, applications and services that heretofore were only available to managers with significant capital, space and dedicated staff, hardware, networks and software.  Nonetheless, cloud solutions are not without their risks, which fund managers should evaluate and address when choosing and using a cloud computing solution.  This article is the second installment in a two-part series addressing the issues hedge fund managers should consider when evaluating and using cloud computing solutions.  The first article outlined cloud computing services; key differences between different cloud computing solutions; what tasks hedge fund managers use the cloud to perform; and the benefits and risks of cloud solutions.  See “Key Considerations for Hedge Fund Managers in Evaluating the Use of Cloud Computing Solutions (Part One of Two),” Hedge Fund Law Report, Vol. 5, No. 40 (Oct. 18, 2012).  This article discusses how to evaluate the various cloud computing solutions and providers; describes best practices in creating and implementing policies and procedures for using cloud solutions; and identifies common mistakes made by hedge fund managers in selecting and using cloud solutions.  See also “What Concerns Do Mobile Devices Present for Hedge Fund Managers, and How Should Those Concerns Be Addressed? (Part Three of Three),” Hedge Fund Law Report, Vol. 5, No. 17 (Apr. 26, 2012).

CFTC Grants Temporary Relief from CPO and CTA Registration to Certain Hedge Fund Managers that Trade Swaps

The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) established a comprehensive new regulatory framework for swaps and security-based swaps which would bring many market participants within the ambit of CFTC regulation, including requiring numerous entities to register with the CFTC.  See “Do You Need to Be a Registered Commodity Pool Operator Now and What Does It Mean If You Do?  (Part Two of Two),” Hedge Fund Law Report, Vol. 5, No. 19 (May 10, 2012).  Hedge fund managers were principally concerned that the inclusion of swaps as “commodity interests” would cause their hedge funds to be treated as “commodity pools,” which in turn could subject the hedge fund manager to compliance and registration obligations as a commodity pool operator (CPO) or a commodity trading advisor (CTA).  This concern was amplified when the CFTC and SEC jointly adopted rules refining the definition of the term “swap” and related terms, on August 13, 2012.  Specifically, the August 13 rules required hedge fund managers to determine whether their swaps-related activities would subject them to CFTC regulation and require them to register as a CPO or CTA by October 12, 2012, the effective date of the rules.  In light of the complexity of the definitions and the business arrangements to which the definitions applied, many hedge fund managers struggled to arrive at a conclusive determination.  See “CFTC Issues Responses to Frequently Asked Questions Concerning Registration Exemption Eligibility and Compliance Obligations for Commodity Pool Operators and Commodity Trading Advisors,” Hedge Fund Law Report, Vol. 5, No. 32 (Aug. 16, 2012).  Fortunately for managers grappling with this issue, on October 11 and 12, 2012, the CFTC issued two no-action letters relevant to the registration obligations of hedge fund managers that trade swaps.  This article summarizes the key practical points arising out of the two no-action letters for hedge fund managers that trade foreign exchange and other swaps and foreign exchange forwards.

SEC Charges Fund Sponsor Yorkville Advisors and Its Principals with Fraud in Connection with Valuation of Fund Assets

Valuation remains squarely in the crosshairs of the SEC’s enforcement division, as evidenced by the complaint filed on October 17, 2012 by the SEC against hedge fund sponsor Yorkville Advisors LLC (Yorkville), its principal and its chief operating officer.  The case is the seventh arising out of the SEC’s Aberrational Performance Inquiry.  See “Hedge Fund Managers with Unexplained Aberrational Performance Are More Likely to Become Targets of SEC Enforcement Actions,” Hedge Fund Law Report, Vol. 4, No. 44 (Dec. 8, 2011).  This article summarizes the factual background, claims and relief sought by the SEC in this action.

Lehman Sues J.P. Morgan over Allegedly “Inflated” Claims under Derivative Contracts and Improper Setoffs

Lehman Brothers Holdings Inc. and three of its subsidiaries (together, Lehman) have commenced an adversary proceeding in the Lehman bankruptcy against JPMorgan Chase & Co. and several of its subsidiaries (together, J.P. Morgan) that were counterparties to various derivative contracts with Lehman.  Lehman’s bankruptcy constituted a default under those derivative contracts, allowing the J.P. Morgan counterparties to terminate the contracts early and submit claims for amounts allegedly owed by Lehman.  The Lehman entities are now challenging the claims filed by J.P. Morgan in the bankruptcy, attacking them in two ways.  This article summarizes Lehman’s complaint and includes insight from Solomon J. Noh, a partner in the Bankruptcy & Reorganization Group at Shearman & Sterling LLP, on valuing terminated derivatives, cross affiliate setoff and related matters.

Pitfalls and Solutions in Trading Shares in Corporate Hedge Funds in Liquidation in the Cayman Islands

When redemptions in the shares of hedge funds are suspended, including in situations where the determination of net asset value is suspended, trading in those fund shares nonetheless commonly occurs in a secondary market, with investors typically seeking to exit a fund position to cap their losses, and more speculative investors seeking to purchase positions in the hope of a better return if the fund emerges from its financial difficulties.  However, in the Cayman Islands, if the fund’s difficulties give rise to a voluntary liquidation, any transfer of shares made after the commencement of the liquidation will be void unless sanctioned by the liquidators.  Sellers, buyers and liquidators need to know how transfers of hedge fund shares made after the commencement of a voluntary liquidation may be preserved.  In a guest article, Christopher Russell and Jeremy Snead, partner and associate, respectively, at Appleby (Cayman), highlight the pitfalls associated with such transactions and solutions for preserving these arrangements.

CFTC Interpretive Guidance Takes the View That Certain Securitization Vehicles Are Not Commodity Pools, Even Though They Use Swaps

Prior to the Dodd-Frank Act, few considered securitization vehicles commodity pools.  But after the Dodd-Frank Act – and, in particular, after passage of various CFTC rules governing swaps trading – a question has arisen in the structured finance world as to whether certain securitization vehicles that use swaps are commodity pools.  The answer matters because if such securitization vehicles are commodity pools, the vehicles would be subject to CFTC regulation and their operators would be subject to CFTC registration (unless an exemption is available).  In turn, CFTC regulation is complicated and CFTC registration can be onerous.  See, e.g., “So You Don’t Want to Take the Series 3 Exam?  Alternatives to the General Proficiency Requirement for Associated Persons of Commodity Pool Operators and Commodity Trading Advisors,” Hedge Fund Law Report, Vol. 5, No. 37 (Sep. 27, 2012).  Accordingly, the American Securitization Forum (ASF) and The Securities Industry and Financial Markets Association (SIFMA and, together with ASF, Applicants) recently requested guidance from the CFTC’s Division of Swap Dealers and Intermediary Oversight concerning these issues.  This article summarizes the interpretive guidance provided by the CFTC in response to the Applicants’ request.  Also, this article includes insight from Sidley Austin partner Jonathan Miller on the guidance and its implications for the registration and filing obligations (including potential Form PF filing obligations) of operators of securitization vehicles.

Attorney David Y. Dickstein Joins Katten’s New York Financial Services Practice as a Partner

On October 22, 2012, Katten Muchin Rosenman LLP announced that David Y. Dickstein has joined the firm as a partner in its Financial Services Practice in New York.

Mintz Levin Grows Fund Formation Practice with Addition of Adam Gale

On October 23, 2012, Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. announced that Adam Gale has joined the firm as a member in the Corporate & Securities Section.