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    Nov. 6, 2014

The First Steps to Take When Joining the Rush to Offer Registered Liquid Alternative Funds

The registered liquid alt rush continues unabated.  Since 2008, there has been a 116% increase in the number of registered liquid alternative funds (Alt Funds) and a 360% increase in Alt Fund assets.  Sponsors have now created 468 Alt Funds with $172 billion of assets.  Before stepping on the gas to join this rush, you should start by answering a simple question – is it viable for my organization to offer an Alt Fund?  In a guest article, Bibb L. Strench, Counsel in the Washington, D.C. office of Seward & Kissel LLP, addresses the chief legal and practical factors that hedge fund managers should consider in answering that question.  In particular, Strench discusses strategic eligibility, liquidity, leverage, derivatives, valuation, tax, “strategy engineering” (e.g., via use of commodity mutual funds), closed-end funds, ETFs, entry points into the registered alternative fund business (including umbrella alternative funds), registered alternative fund fees and expenses, advertising and marketing possibilities, and operational and compliance considerations.  See also “Five Key Compliance Challenges for Alternative Mutual Funds: Valuation, Liquidity, Leverage, Disclosure and Director Oversight,” Hedge Fund Law Report, Vol. 7, No. 28 (Jul. 24, 2014).

What Is the Difference Between Marketing and Reverse Solicitation Under the AIFMD?

Since the Alternative Investment Fund Managers Directive (AIFMD) took effect, a non-E.U. fund manager that wishes to market funds into the E.U. is faced with complying with the individual – and disparate – private placement regimes of the E.U. member states.  See “Navigating the Patchwork of National Private Placement Regimes: A Roadmap for Marketing in Europe by Non-EU Hedge Fund Managers That Are Not Authorized Under the AIFMD,” Hedge Fund Law Report, Vol. 7, No. 28 (Jul. 24, 2014).  Alternatively, the manager may wait passively for E.U. investors to seek out the manager, an unpredictable and fraught process known as “reverse solicitation.”  A recent program sponsored by CounselWorks provided guidance on when a manager is “marketing” in the E.U. so as to trigger compliance with the AIFMD, the steps that such a manager must take to comply with local private placement requirements, and how reverse solicitation works in various E.U. states.  See also “Application of the AIFMD to Non-EU Alternative Investment Fund Managers (Part Two of Two),” Hedge Fund Law Report, Vol. 6, No. 24 (Jun. 13, 2013); and Part One of Two.

Rules Against “Spoofing” and Other Disruptive Trading in Futures, Swaps and Options

The Dodd-Frank Act resulted in new rules on disruptive trading in futures, options and swaps.  Following Dodd-Frank, both the Commodity Futures Trading Commission (CFTC) and the CME Group Exchanges implemented their own rules to address disruptive trading.  These new rules have significant implications for pooled investment vehicles, such as hedge funds and commodity pools.  This guest article outlines new disruptive trading rules and recent cases that the CFTC, futures exchanges and U.S. Attorneys’ Offices have brought under these new rules.  The authors of this article are Thomas K. Cauley, Jr. and Courtney A. Rosen, both litigation partners in the Investment Funds, Advisers and Derivatives and Securities and Derivatives Enforcement and Regulatory practices in the Chicago office of Sidley Austin LLP, and Lisa A. Dunsky, a counsel in those practices.  For additional insight from the authors, see “Contractual Provisions That Matter in Litigation between a Fund Manager and an Investor,” Hedge Fund Law Report, Vol. 7, No. 37 (Oct. 2, 2014); and “Derivative Actions and Books and Records Demands Involving Hedge Funds,” Hedge Fund Law Report, Vol. 7, No. 39 (Oct. 17, 2014).

Greenwich Associates and Johnson Associates Annual Compensation Report Shows Strength at Traditional Asset Managers Relative to Hedge Funds

Greenwich Associates, LLC, an international research-based consulting firm in institutional financial services, in cooperation with Johnson Associates, Inc., a financial services compensation consulting firm, have issued their 2014 U.S. Asset Management Compensation Study (Report).  The Report reveals that “the asset management industry is emerging as the first choice for many financial professionals” and provides an overview of buy-side compensation, including consideration of pay differentials between hedge fund professionals and other buy-side professionals, pay mix for buy-side professionals, bonuses and commission compensation.  This article summarizes the key insights from the Report.  The HFLR has covered the authors’ compensation reports for the past three years.  See our 2013 report coverage, 2012 report coverage and 2011 report coverage.  For an in-depth look at hedge fund compensation, see “Hedge Fund Manager Compensation Survey Addresses Employee Compensation Levels and Composition Across Job Titles and Firm Characteristics, Employee Ownership of Manager Equity and Hiring Trends,” Hedge Fund Law Report, Vol. 6, No. 8 (Feb. 21, 2013).  See also “How Much Are Hedge Fund Manager General Counsels and Chief Compliance Officers Paid?,” Hedge Fund Law Report, Vol. 7, No. 28 (Jul. 24, 2014).

Valuation and Cybersecurity Best Practices for Hedge Fund Managers: An Interview with Brian Guzman, Partner and General Counsel at Indus Capital Partners, LLC (Part One of Two)

The HFLR recently conducted a detailed and expansive interview with Brian Guzman, Partner and General Counsel at Indus Capital Partners, LLC.  At a thematic level, the interview covered valuation, cybersecurity, examinations, the AIFMD, and international and tax issues.  At a granular level, the parts of the interview on valuation covered the role and composition of valuation committees; the role of fund boards in the valuation process; best practices with respect to valuation of credit derivatives, distressed debt and other illiquid assets; valuation challenges facing fund of funds managers; use and limits of third-party pricing services; testing of valuation policies and procedures; valuation disclosure; and the relevance of different regional accounting regimes in the hedge fund valuation process.  On cybersecurity, we covered the top challenges and effective strategies for addressing those challenges.  This article includes the parts of our interview on valuation and cybersecurity.  A follow-up article will cover the parts of our interview on examinations, the AIFMD and international and tax issues.  This interview was conducted in connection with (1) the Regulatory Compliance Association’s Compliance, Risk and Enforcement Symposium, which took place on November 4 in New York City – Guzman participated in this Symposium and we will cover it in subsequent issues of the HFLR – and (2) the RCA’s upcoming Regulation, Operations and Compliance (ROC) Symposium, to be held in Bermuda in April 2015.  For additional insight from Guzman, see “FCPA Compliance Strategies for Hedge Fund and Private Equity Fund Managers,” Hedge Fund Law Report, Vol. 7, No. 23 (Jun. 13, 2014); and “RCA Symposium Clarifies Current Market Practice on Side Letters, Conflicts of Interest, Insider Trading Investigations, Whistleblowers, FATCA and Use of Managed Accounts Versus Funds of One (Part One of Two),” Hedge Fund Law Report, Vol. 6, No. 24 (Jun. 13, 2013).

Are Legal Settlements Tax Deductible?  (Part One of Two)

Whether or not legal settlements, or parts of them, are tax deductible can materially affect the net economics of such settlements.  And settling entities – for example, hedge fund managers in insider trading, employment or other civil actions – can influence the deductibility of settlements through structuring, drafting of settlement agreements and other actions.  In a recent presentation, Shearman & Sterling tax partner Lawrence M. Hill provided an overview of key concepts, best practices and applicable case law bearing on the deductibility of settlements.  In particular, he discussed the differing tax treatment of the following categories of settlement amounts: compensatory damages, punitive damages, multiple damages, damages not specified as compensatory or punitive in the relevant settlement agreement, relator’s fees, legal fees, restitution, disgorgement, fines, penalties and civil forfeiture.  He also offered tips on drafting settlement agreements to maximize the proportion of settlements that validly may be characterized as deductible.  This article, the first in a two-part series, examines the law governing tax deductibility of settlements, as explained by Hill in his presentation.  The second article in the series will relay Hill’s specific guidance on taxation of damages in practice and how a company can make its case that a settlement should be deductible.  For more on tax issues relevant to hedge fund managers, see “Internal Memo Describes IRS Position on Whether Limited Partner Exemption from Self-Employment Tax Is Available to Owners of an Investment Management Company,” Hedge Fund Law Report, Vol. 7, No. 35 (Sep. 18, 2014); and “Are Compensatory Options on Offshore Hedge Fund Shares Subject to the Anti-Deferral Provisions of Internal Revenue Code Section 457A?,” Hedge Fund Law Report, Vol. 7, No. 23 (Jun. 13, 2014).

Duff & Phelps Adds Three Managing Directors to Its Transfer Pricing Practice

Global valuation and corporate finance adviser Duff & Phelps recently announced the expansion of its transfer pricing practice with the addition of three managing directors: Richard Newby and Shiv Mahalingham have joined the London office and Christopher Newman has joined the Silicon Valley office.  For insight from Duff & Phelps on transfer pricing considerations for hedge fund managers with global management company affiliates, see “What Should Hedge Fund Managers Understand About Transfer Pricing and How to Manage the Related Risks?,” Hedge Fund Law Report, Vol. 6, No. 42 (Nov. 1, 2013).

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