Oct. 24, 2014

The Five Chief Regulatory Risks of Hedge Fund Manager Office Sharing Arrangements and Six Strategies for Mitigating Them (Part Two of Three)

This is the second article in our three-part series on hedge fund manager office sharing arrangements.  For managers, sharing office space has the allure of efficiency and cost saving, but it comes with real regulatory and operating risk.  This article enumerates the five primary risks of office sharing and discusses six proven strategies for mitigating those risks.  The first article in this series defined office sharing, outlined its mechanics and catalogued the four primary business reasons for office sharing by hedge fund managers.  The last article in this series will cover allocation of costs and risks, the role of prime brokers in office sharing arrangements and how managers sharing office space should negotiate on-site due diligence visits from institutional investors.  See “Evolving Operational Due Diligence Trends and Best Practices for Due Diligence on Emerging Hedge Fund Managers,” Hedge Fund Law Report, Vol. 7, No. 15 (Apr. 18, 2014).

Two Recent Enforcement Actions Elucidate the SEC’s Perspective on Principal Transactions

There may be compelling and legally plausible reasons for a hedge fund manager to trade with one of its funds or accounts, but such a trading structure involves an inherent conflict of interest: the manager has a legal fiduciary duty to act in the best interests of its clients, but a presumptive desire to get the best deal for itself.  Section 206(3) of the Investment Advisers Act seeks to balance the potential value of principal trades and the inherent conflict – it permits such transactions, but subject to safeguards.  See “When and How Can Hedge Fund Managers Engage in Transactions with Their Hedge Funds?,” Hedge Fund Law Report, Vol. 4, No. 45 (Dec. 15, 2011).  A pair of recently settled enforcement actions clarifies the SEC’s perspective on principal transactions.  In particular, the actions speak to the circumstances in which principal transactions are and are not permissible, the policies and procedures that should govern such transactions, the practicability of blanket ex ante consent and similar dynamics.  This article describes the facts and analysis in the relevant SEC orders, and extracts four practical lessons for hedge fund managers from them.  See also “How Can Hedge Fund Managers Structure Their Compliance, Reporting and Disclosure Systems to Avoid Allegations of Principal Trading Rule Violations?,” Hedge Fund Law Report, Vol. 2, No. 36 (Sep. 9, 2009).

What Do the Investor Advisory Committee’s Recommendations Mean for the Future of Marketing of Hedge Funds to Natural Persons?

Section 911 of the Dodd-Frank Act established the Investor Advisory Committee (IAC) to advise the SEC on regulatory priorities, investment management regulation, trading strategies, fee structures, disclosure effectiveness, investor protection and market integrity.  The IAC consists of representatives of institutional investors, hedge fund managers, industry groups and other investor constituencies.  See “Operational Due Diligence from the Hedge Fund Investor Perspective: Deal Breakers, Liquidity, Valuation, Consultants and On-Site Visits,” Hedge Fund Law Report, Vol. 7, No. 16 (Apr. 25, 2014).  The IAC commenced operations in 2009, and in the intervening years has tackled issues including general solicitation, fiduciary duty for broker-dealers and legislation to fund investment adviser examinations.  On the IAC’s efforts with respect to fiduciary duty, see “For Hedge Fund Managers, How Would a Statutory Definition of ‘Fiduciary Duty’ Affect the Scope of the Duty and the Standard for Breach?,” Hedge Fund Law Report, Vol. 2, No. 34 (Aug. 27, 2009).  Most recently, the IAC made five recommendations for revising the definition of “accredited investor” as it relates to natural persons that invest in private offerings, including private offerings of interests in hedge funds.  See “Best Practices for Ensuring That Only Accredited Investors Participate in Publicly Advertised Private Offerings by Hedge Funds (Part Two of Three),” Hedge Fund Law Report, Vol. 7, No. 39 (Oct. 17, 2014).  While the hedge fund investor base is increasingly institutional, natural persons continue to comprise an important source of capital, especially for startup or early-stage managers.  For more on fundraising for start-up managers, see “Sidley Partners Discuss Trends in Hedge Fund Seed Deals, Governance, Succession, Estate Planning and Tax Structuring (Part Two of Two),” Hedge Fund Law Report, Vol. 7, No. 37 (Oct. 2, 2014).  This article provides a detailed discussion of those five recommendations and includes insight from Skadden partner Anastasia T. Rockas and Shipman & Goodwin partner Peter J. Bilfield on what the recommendations portend for marketing of hedge funds to natural persons.

Former SEC Deputy Director James R. Burns Joins Willkie

Willkie Farr & Gallagher LLP recently announced that James R. Burns, former Deputy Director of the SEC’s Division of Trading and Markets, will join the firm as a partner on November 1, 2014.  Burns will practice in Willkie’s Asset Management Group and will be based in the Washington, D.C. office, where he will join, among others, Barry Barbash, former Director of the SEC’s Division of Investment Management and Co-Chair of the Group.  See “RCA Enforcement, Compliance and Operations 2014 Symposium Offers Insight from Top SEC Officials on Custody, Conflicts, Broker Registration, Alternative Mutual Funds and the JOBS Act (Part One of Two),” Hedge Fund Law Report, Vol. 7, No. 22 (Jun. 6, 2014) (describing the operations and purposes of the SEC’s Division of Trading and Markets).  Burns’ practice will focus on counseling investment managers and broker-dealers on all aspects of their business, including regulatory, compliance and enforcement matters.  For insight from Willkie attorneys, see “SEC No-Action Letter Suggests That There May Be Circumstances in which Recipients of Transaction-Based Compensation Do Not Have to Register as Brokers,” Hedge Fund Law Report, Vol. 7, No. 7 (Feb. 21, 2014); “Investment Research and Insider Trading on ‘Outside Information’,” Hedge Fund Law Report, Vol. 4, No. 29 (Aug. 25, 2011).

Mourant Ozannes Welcomes Tim Morgan to Jersey Funds Practice

Offshore law firm Mourant Ozannes has appointed English solicitor and Jersey advocate Tim Morgan as a partner in its funds practice.  For insight from Mourant, see “The Cayman Islands Weavering Decision One Year Later: Reflections by Weavering’s Counsel and One of the Joint Liquidators,” Hedge Fund Law Report, Vol. 5, No. 36 (Sep. 20, 2012); “Recent Cayman Islands Developments Impacting Fund Governance, Master Fund Registration and the Insolvency Regime: An Interview with Neal Lomax, Simon Dickson and Simon Thomas of Mourant Ozannes,” Hedge Fund Law Report, Vol. 5, No. 23 (Jun. 8, 2012).

Christopher Roman and Nick Thornton Join Fried Frank’s International Tax Practice

Fried, Frank, Harris, Shriver & Jacobson LLP recently announced that Christopher Roman has joined its New York office and Nick Thornton has joined its London office.