Mar. 7, 2013

How Should Hedge Fund Managers Approach the Identification, Prevention, Detection, Handling and Correction of Trade Errors? (Part One of Three)

Trade errors can paralyze even the most seasoned hedge fund managers, both because of the potential magnitude of the financial losses, and because of the urgency with which such errors must be addressed and resolved.  As a result, it is imperative that hedge fund managers adopt a plan as well as policies and procedures designed to prevent, detect, quickly resolve and document trade errors.  Unfortunately, regulatory guidance concerning the handling of trade errors is scant, and hedge fund managers have been challenged to formulate their own measures for addressing trade error issues.  With this in mind, the Hedge Fund Law Report is publishing this three-part series designed to assist hedge fund managers in navigating the myriad legal, investment and operational challenges posed by trade errors.  This first installment discusses the challenge of defining a trade error; a manager’s legal obligations relating to the handling of trade errors; and policies and procedures that managers should implement to prevent, detect, resolve and document trade errors.  The second installment in this series will outline specific strategies to prevent trade errors; detect trade errors after trade execution; report trade errors once identified; resolve trade errors; and calculate losses resulting from trade errors.  The third installment in this series will discuss allocation of losses and gains resulting from trade errors among a manager and its clients; limitations on the allocation of trade error losses; documentation of trade errors; whether managers can obtain insurance to cover losses resulting from trade errors; and common mistakes managers make in handling trade errors.

How Can Hedge Fund Managers Identify and Navigate Pitfalls Associated with the JOBS Act’s Rollback of the Ban on General Solicitation and Advertising?

The Jumpstart Our Business Startups Act (JOBS Act) provisions allowing general solicitation and general advertising in private offerings (JOBS Act Marketing Provisions), upon becoming effective, will profoundly change how hedge fund managers can market their funds.  Before taking advantage of the JOBS Act Marketing Provisions, however, hedge fund managers should be aware of a number of potential pitfalls.  First, hedge fund managers may be prohibited from engaging in general solicitation and general advertising if they rely on exemptions from registration under certain Commodity Futures Trading Commission rules, or under certain state and federal investment adviser laws.  Second, hedge fund managers that are able to take advantage of the provisions need to be aware of several potential compliance issues under the Investment Advisers Act of 1940, including issues that arise when using social media, publicly available websites and publicly advertised performance history.  In a guest article, Adam Gale, a Member in the New York office of Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C., identifies potential regulatory pitfalls associated with reliance on the JOBS Act Marketing Provisions and provides some recommendations to address compliance issues in connection with reliance on the JOBS Act Marketing Provisions.

Ropes & Gray Partners Share Insights Gleaned from Successfully Navigating Presence Examinations with Hedge Fund Manager Clients

On October 9, 2012, the Office of Compliance Inspections and Examinations (OCIE) of the SEC announced that it was going to conduct “focused, risk-based examinations of investment advisers to private funds that recently registered with the [SEC]” (Presence Exams).  See “OCIE Warns Newly Registered Hedge Fund Advisers to Watch Out for ‘Presence Examinations,’” Hedge Fund Law Report, Vol. 5, No. 39 (Oct. 11, 2012).  On February 12, 2013, three partners at Ropes & Gray LLP presented a webinar entitled “SEC Presence Exams – Issues for Hedge Fund Managers,” to share their experience on how OCIE has conducted Presence Exams; their perspectives on hot-button areas of SEC investigations; and their tips for navigating a Presence Exam successfully.  This article summarizes the key points from the webinar.  See also “SEC’s National Examination Program Publishes Official List of Priorities for 2013 Examinations of Hedge Fund Managers and Other Regulated Entities,” Hedge Fund Law Report, Vol. 6, No. 9 (Feb. 28, 2013).

Former OCIE Chief Lori Richards and other PwC Partners and Managers Discuss the Mechanics of the AIFMD and Its Impact on Marketing by U.S. Hedge Fund Managers

The first phase of the European Union’s (EU’s) Alternative Investment Fund Managers Directive (AIFMD) must be implemented by July 23, 2013.  It will have a significant impact on how non-EU alternative investment fund managers market their funds in the EU.  The AIFMD will affect hedge fund managers that are based in the EU; that have EU operations; or that market their services in the EU.  However, uncertainty remains as to the precise regulations that individual EU member states will adopt and how those regulations will affect non-EU managers who wish to market their funds in the EU.  On February 11, 2013, PricewaterhouseCoopers LLP (PwC) presented a webcast on the AIFMD entitled “AIFMD: How does this impact U.S. investment advisers?”  The webcast was geared to U.S. alternative investment fund managers and provided insight into the implementation of the AIFMD.  In addition to giving a short overview of the AIFMD, the panelists discussed the impact of the AIFMD on U.S. managers who wish to market their funds in the EU; the consequences of being subject to the full AIFMD regime; and the timeline for AIFMD implementation.  This article summarizes the key points from the webcast.

Recently Published SEC Risk Alert Reveals Significant Deficiencies in Custody Practices of Hedge Fund Managers and Other Investment Advisers

On March 4, 2013, the SEC staff published a Risk Alert addressing custody-related compliance gaps that the Office of Compliance Inspections and Examinations uncovered in numerous recent examinations of registered investment advisers, including hedge fund managers.  The SEC identified custody-related compliance issues in approximately one-third (approximately 140) of recently-conducted examinations of registered advisers, and some cases were referred to the Division of Enforcement for further action.  Hedge fund managers should pay close attention to the deficiencies highlighted in the Risk Alert as many directly impact on their businesses, operations and compliance practices.  This article highlights those deficiencies that are particularly relevant for hedge fund managers.  See also “How Does the SEC Approach Custody Issues in the Course of Examinations of Hedge Fund Managers?, Hedge Fund Law Report, Vol. 5, No. 18 (May 3, 2012).

SEC Charges Hedge Fund Manager and its Principals with Defrauding Investors in Connection With an Undisclosed Restructuring of Feeder Funds to Favor Largest Investor

A recently filed SEC enforcement action – along with a criminal indictment based on the same facts – demonstrates the continued focus of regulators and prosecutors on undisclosed preferential treatment of certain hedge fund investors.  See, e.g., “SEC Charges Philip A. Falcone, Harbinger Capital Partners and Related Entities and Individuals with Misappropriation of Client Assets, Granting of Preferential Redemptions and Market Manipulation,” Hedge Fund Law Report, Vol. 5, No. 26 (Jun. 28, 2012).

KPMG Brings New Hedge Fund and Private Equity Expertise to Its Alternative Investment Funds Practice in New York and Los Angeles

On March 5, 2013, KPMG LLP, the U.S. audit, tax and advisory firm, announced that it is adding two federal tax managing directors to its Alternative Investment Funds practice: Nancy Chan at its Los Angeles office and Nader Karimi at its New York office.  For insight from KPMG on the structure of the hedge fund industry, see “Survey by AIMA and KPMG Identifies the Key Drivers of the Bifurcation of the Hedge Fund Industry Between Larger and Smaller Managers,” Hedge Fund Law Report, Vol. 5, No. 21 (May 24, 2012).

Liam Butler Appointed as Head of Northern Trust Hedge Fund Services, Europe

On March 6, 2013, Northern Trust announced that it has appointed Liam Butler as head of Northern Trust Hedge Fund Services in Europe.  For insight from Northern Trust executives, see “Don Muller and Joshua Satten of Northern Trust Hedge Fund Services Discuss the Impact of OTC Derivatives Reforms on Hedge Fund Managers,” Hedge Fund Law Report, Vol. 6, No. 6 (Feb. 7, 2013).