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No Relief in 2012 for Hedge Funds as Regulations Continue to Impact Industry

December 8, 2011

As appeared in Hedge Funds Review

2011 has seen the passing of the AIFM Directive, the implementation of key aspects of Dodd-Frank and a number of other key regulatory initiatives in the EU and the US that affect funds, their managers, advisors and promoters in a fundamental way. As a result, industry participants are evaluating their fund structures and business arrangements to ensure compliance with the new regimes. In addition, management groups are in tandem considering tax efficient structures to mitigate the effects of higher UK rates.

As the firm has been recently advising, hedge funds can expect continued regulatory changes in the coming year. Following a December 6, 2011 Investment Funds Round-up hosted by Kaye Scholer’s London office, Hedge Funds Review published an article about some of the issues discussed.

According to Investment Funds Partner Tim Spangler, who presented at the event along with Investment Funds Partner Simon Firth, Securities Partner Katherine Mulhern and Tax Partner Daniel Lewin, "There has been a tremendous sea change in the past 18 months from an off-grid regime to a system where all fund managers are regulated at some level.”

Tim opined that the change is a positive one for Europe-based fund of hedge funds (FoHF) managers. "For funds of funds looking at US managers, they are more able and willing to speak to you in the language you understand about compliance, regulations and their relationship with the regulator. It will help bring US fund managers more in line with European jurisdictions and other leading jurisdictions around the world," he said.

Simon Firth was quoted on the continuing use of offshore centres, which he explained has not been derailed by the AIFM directive. "Offshore centres have geared up for mutual reporting and information sharing with EU member states. Nevertheless, there have been some headline redomiciliations, for example from Cayman to Ireland," he said.

"We are increasingly seeing management group structures with onshore EU holding companies, often established in Malta. This enables an escape route from the UK, for example to Switzerland, using the same holding company structure," he added.

Firth and Spangler also discussed the recent Cayman Islands court judgment on Weavering, which Firth said could result in a move towards a US mutual fund structure, with more independent advisement of the board. "In the US mutual funds have boards of directors and a percentage of the directors are independent. A significant majority have a separate law firm advising directors. I don't think this will become common practice for hedge funds but it is good if there is a dispute," Spangler added.

In terms of his outlook for 2012, Spangler observed a higher level of optimism and activity in the US than the mood he’d observed in London in the past few days. ”There is interest in new funds and investors are spending time working on emerging managers. They understand that new managers are important for a portfolio. In 2012 there will be a desire by US-based limited partners and institutional investors to allocate to new funds," he predicted.

Spangler concluded by discussing the potential challenge, for US-based managers, which could be created by possible changes by the Congress and the SEC to the private placement rules. "If Congress does attempt to differentiate between different types of issuers,” he explained, “hedge funds and private equity funds could be left under the current regime, while fundraising is liberalised for traditional operating companies. It is not clear yet what Congress will do, but if operating companies and businesses are able to take part in a more liberal structure, an appropriate question would be whether the new capital would be soaked up by them. At this stage it is not clear how significant that will be.”

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