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    Sep. 10, 2015

Operational Considerations of Hedge Fund Audit Holdbacks (Part One of Two)

When an investor seeks to redeem from a hedge fund, the fund manager must often expeditiously pay the investor’s redemption proceeds based on the then-current net asset value (NAV) of the fund.  See “Structuring, Valuation, Fee Calculation and Other Legal and Accounting Considerations in Connection with Hedge Fund General Redemption Provisions, Lock-Up Periods, Side Pockets, Gates, Redemption Suspensions and Special Purpose Vehicles,” Hedge Fund Law Report, Vol. 3, No. 43 (Nov. 5, 2010).  However, despite a manager’s best efforts to value the fund appropriately, adjustments to the fund’s NAV after the fact may result in corresponding revisions to the redemption proceeds to which the redeeming investor actually was entitled.  To guard against such situations, hedge funds typically employ audit holdback provisions so that the fund can retain a portion of a redeeming investor’s redemption proceeds until the fund’s annual audit is finalized.  This article, the first in a two-part series, analyzes the mechanics of audit holdbacks; considers common variables in such provisions; and evaluates potential alternatives to audit holdback structures.  The second article will discuss the prevalence of holdbacks in the hedge fund industry; investor response to such provisions; and considerations for hedge fund managers in crafting audit holdback terms.  For more on holdbacks, see “Soft Lock-Ups Help Hedge Fund Managers Reconcile the Goals of Stable Capital and Investor Liquidity,” Hedge Fund Law Report, Vol. 3, No. 45 (Nov. 19, 2010).

Redeemed Investors Have Priority With Respect to Payment from Liquidating Cayman Islands Hedge Fund

A recent decision of the Grand Court of the Cayman Islands has provided much-needed clarity on the rights of redeemed but unpaid investors in an insolvency scenario and the circumstances in which a liquidator of a Cayman Islands company may alter investors’ rights to receive distributions.  The decision confirms that investors who have been redeemed pursuant to the company’s articles of association are entitled to be paid those redemption proceeds ahead of unredeemed investors, and that distributions to unredeemed investors must be made in accordance with Cayman Islands law.  In a guest article, Peter Hayden, Rocco Cecere and Christopher Levers of Mourant Ozannes discuss the ruling, including the case’s background, matters considered by the Court and the impact of the decision on the hedge fund industry.  For additional insight from the firm, 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); and “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).  For discussion of other recent Cayman Islands cases, see “Cayman Islands Decision Highlights Three Questions That May Affect the Enforceability of Fund Side Letters,” Hedge Fund Law Report, Vol. 8, No. 21 (May 28, 2015); and “Cayman Court of Appeal Overturns Decision Holding Weavering Fund Directors Personally Liable,” Hedge Fund Law Report, Vol. 8, No. 8 (Feb. 26, 2015).

ESMA Clarifies MiFID II Trading Suspension, Reporting and Notice Obligations Which Could Affect Hedge Funds

The European Securities and Markets Authority has published draft implementing technical standards (ITS) required under the recast Markets and Financial Instruments Directive (MiFID II) and seeks public comments on them.  The three draft ITS address procedures for suspending or removing financial instruments from trading venues (or lifting a suspension); reporting by data reporting services providers; and aggregated position reporting for commodity derivatives, emission allowances and related derivatives.  The procedures are relevant to hedge fund managers trading in securities affected by these obligations.  This article examines the background to each group of ITS and sets out the key propositions contained therein.  For more on MiFID II, see, “ESMA Releases Final Report on MiFID II Technical Standards for Hedge Fund Management Firms,” Hedge Fund Law Report, Vol. 8, No. 28 (Jul. 16, 2015); and “MiFID II Expands MiFID I and Imposes Reporting Requirements on Asset Managers, Including Non-E.U. Asset Managers,” Hedge Fund Law Report, Vol. 8, No. 21 (May 28, 2015).  For another recent proposal, see “ESMA Recommends Extension of the AIFMD Passport for Hedge Fund Managers and Funds in Certain Non-E.U. Jurisdictions,” Hedge Fund Law Report, Vol. 8, No. 31 (Aug. 6, 2015).

J.P. Morgan Analyst, Friends and Family Hit with Civil and Criminal Charges for Insider Trading

Insider trading remains a key area of interest for the SEC and DOJ.  Even though recent court decisions have scaled back – at least for the time being – those agencies’ expansive views of liability for trading on inside tips, every emerging fact pattern helps hedge fund managers understand the continually evolving insider trading doctrine.  See “Government Petition to Supreme Court for Review of Newman/Chiasson Reversal Provides Insight into Prosecutorial View of Insider Trading,” Hedge Fund Law Report, Vol. 8, No. 32 (Aug. 13, 2015).  The SEC recently filed charges against a J.P. Morgan analyst and two friends who allegedly traded on material nonpublic information regarding pending acquisitions.  The analyst, who worked in the J.P. Morgan division that advised on those acquisitions, allegedly provided information to a close friend; that friend and another friend then allegedly traded on that information, individually and through brokerage accounts of family members, reaping nearly $600,000 in illicit trading profits.  The DOJ is pursuing parallel criminal charges against all three defendants.  This article summarizes the alleged insider trading scheme, the SEC’s specific charges and the relief it is seeking.  For more on the current insider trading enforcement climate, see “Recent Cases Reduce the Impact of Newman on Insider Trading Enforcement,” Hedge Fund Law Report, Vol. 8, No. 18 (May 7, 2015).

Certain Hedge Funds and Their Managers Face Looming Form BE-180 Filing Requirement

Every five years, the Bureau of Economic Analysis (BEA) of the U.S. Department of Commerce conducts a benchmarking survey of financial services transactions between U.S. and foreign persons.  A U.S. “financial services provider” – a term that encompasses hedge funds and their managers – that purchased more than $3 million of specified financial services from, or sold more than $3 million of such services to, foreign persons in fiscal 2014, is required to file BEA Form BE-180.  A firm notified of the survey by the BEA is also required to complete and file portions of the form even if it is not otherwise obligated to do so.  This article summarizes the filing requirements, the information required to be provided and the fund-specific guidance provided by the BEA.  Hedge fund managers may also be subject to reporting on BEA Forms BE-10, BE-11 and BE-13, which track direct investments in U.S. and foreign businesses.  See “Swiss Hedge Fund Marketing Regulations, BEA Forms and Form ADV Updates: An Interview with Proskauer Partner Robert Leonard,” Hedge Fund Law Report, Vol. 8, No. 9 (Mar. 5, 2015); and “Certain Hedge Fund Managers and Funds That Engage in Foreign Transactions Will Need to File Form BE-11 Imminently,” Hedge Fund Law Report, Vol. 5, No. 26 (Jun. 28, 2012).

Central Counterparty Liquidation Period May Be Shortened Under EMIR to Conform to U.S. Regime

The European Securities and Markets Authority (ESMA) recently proposed changes to liquidation time horizons that central counterparties (CCPs) use for certain financial instruments under the European Market Infrastructures Regulation (EMIR).  Citing the possibility of regulatory arbitrage arising from differences with the U.S. CCP regime, ESMA seeks to shorten the liquidation period for non-OTC financial instruments.  This article discusses the legislative background and rationale for ESMA’s review and summarizes ESMA’s considerations, queries and proposals.  ESMA is seeking comments from CCPs, their clearing members and clients, including hedge funds.  For more on EMIR clearing obligations, see “E.U. Commission Publishes Regulations Setting Forth Clearing Obligations for Hedge Funds and Other Counterparties,” Hedge Fund Law Report, Vol. 8, No. 32 (Aug. 13, 2015); and “Comparing and Contrasting EMIR and Dodd-Frank OTC Derivatives Reforms and Their Impact on Hedge Fund Managers,” Hedge Fund Law Report, Vol. 6, No. 36 (Sep. 19, 2013).  For more on EMIR generally, see “EMIR Offers Three Models of Asset Segregation to Fund Managers That Trade OTC Derivatives,” Hedge Fund Law Report, Vol. 8, No. 15 (Apr. 16, 2015).

Sigma Analysis & Management Welcomes Megan Vesely

Toronto-based investment management and research firm Sigma Analysis & Management has announced the appointment of Megan Vesely as general counsel.  She will provide legal advice on a variety of business and regulatory issues, including cross-border matters and corporate development in the financial services industry.  Vesely’s expertise includes federal and state trial experience, combined with presentations and publications addressing the impact of the Dodd-Frank Act on U.S. and foreign entities.

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