Investment Management Industry News Summary - June 2009

Investment Management Industry News Summary - June 2009

Publications

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

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International Organization of Securities Commissions Publishes Recommendations on Hedge Fund Regulation Oversight

June 26, 2009 10:07 AM  

On Monday, the International Organization of Securities Commissions’ (IOSCO) Technical Committee published Hedge Funds Oversight: Final Report. The report enunciates six high-level principles to enable securities regulators to address the regulatory and systemic risks posed by hedge funds in their own jurisdictions while supporting a globally consistent approach.

The six principles are:

Hedge funds and/or hedge fund managers/advisers should be subject to mandatory registration. The report recommends a risk-based and proportional approach to regulation, however, focused on systemically important and/or higher risk managers — for example, a de minimis cut-off for regulation, or a lower level of regulation below such a cut-off.

1. Hedge fund managers/advisers that are required to register should be subject to ongoing regulatory requirements regarding:

  • Organizational and operational standards, including a risk management function and a strong compliance function;
  • Conflicts of interest and other conduct of business rules;
  • Disclosures to investors; and
  • Prudential regulation (e.g. capital requirements).

2. Prime brokers and banks that provide funding to hedge funds should be subject to mandatory registration and regulation, and should have appropriate risk management systems and controls to monitor their counterparty credit risk exposures to hedge fund.

3. Hedge fund managers and prime brokers should provide information to the relevant regulator for systemic risk purposes including the identification, analysis and mitigation of systemic risks.

4. Regulators should encourage and take account of the development, implementation and convergence of industry “good practices.”

5. Regulators should have the authority to cooperate and share information with each other where appropriate to facilitate effective oversight of globally active managers and/or funds and to help identify systemic risks and other risks arising from the activities or exposures of hedge funds, with a view to mitigating those risks across borders.

The principles are meant to address the regulatory and systemic risks posed by hedge funds. The report emphasizes that any regulatory measures require strong collective global application, as the hedge fund industry is highly global and mobile. It remains to be seen to what extent regulators will diverge in their implementation of these recommendations.

The report is found at:

www.iosco.org/library/pubdocs/pdf/IOSCOPD293.pdf.
 

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

Division of Investment Management Issues No-Action Letter Regarding Investment Company Participation in Term Asset-Backed Securities Loan Facility (“TALF”)

June 26, 2009 10:01 AM  

On June 19, 2009, the Division of Investment Management stated that it would not recommend enforcement action against registered closed-end or open-end investment companies under Section 18 of the Investment Company Act, if they participate in the TALF without treating the borrowing as a senior security representing indebtedness for purposes of compliance with Section 18. The Division also stated it would not recommend enforcement action under Section 17(f) of the Investment Company Act as to the custody arrangements necessitated by the TALF requirements.

Section 18 restricts the ability of registered investment companies to issue or sell any class of “senior security.” Under that section, the SEC and the Division have attempted to regulate investment company use of leverage, both in the form of direct borrowings and in the form of derivative instruments.

Although the Division’s letter provides welcome clarification regarding the custodial arrangements under TALF, the letter greatly limits the ability of registered investment companies to take advantage of the nonrecourse borrowings available under TALF. The Division insisted that the investment companies segregate liquid assets in an amount equal to the outstanding principal and interest on TALF loans in a manner similar to that it has required for reverse purchase agreements. Under the letter, the value of the segregated assets must be marked-to-market daily and additional liquid assets must be segregated whenever the total value of the segregated assets falls below the amount of the obligations under TALF loans. This segregation effectively requires asset coverage of at least 200%. Thus, registered investment companies will not be able to use TALF borrowings to the same extent as many other investors. Some industry participants had hoped that the Division would take a more flexible position, given the nonrecourse nature of TALF borrowings. The letter serves to highlight the difficulties and inconsistencies in the current regulatory treatment of investment company use of various types of economic leverage in investing.

http://www.sec.gov/divisions/investment/noaction/2009/franklintempleton061909.htm
 

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

SEC Chairman Schapiro Testifies Concerning Regulation of Over-The-Counter Derivatives

June 26, 2009 9:56 AM  

On June 22, 2009, Chairman Schapiro testified before the Senate Subcommittee on Securities, Insurance, and Investment of the Committee on Banking, Housing, and Urban Affairs concerning the regulation of over-the-counter derivatives. Schapiro recommended that Congress subject securities-related OTC derivatives to the federal securities laws, giving the SEC authority to regulate these products regardless of how they are traded, whether on an exchange or OTC, and regardless of how they are cleared. Chairman Schapiro suggested this would be relatively simple to implement by changing the definition of “security” to expressly include securities-related OTC derivatives, and removing the current express exclusion of swaps from that definition. Securities-related OTC derivatives would include equity derivatives and credit and other fixed income derivatives. In addition, the SEC would continue to regulate those types of OTC derivatives that have always been considered securities, such as OTC security options, certain OTC notes (including equity-linked notes), and forward contracts on securities. Primary responsibility for all other OTC derivatives would rest with the Commodity Futures Trading Commission.

Under the SEC’s approach, OTC derivatives dealers in securities-related OTC derivatives would be subject to supervision and regulation by the SEC. The SEC would have authority to establish capital requirements, business conduct standards, record-keeping and reporting requirements, and standards for the segregation of customer funds and securities for all securities-related OTC derivatives dealers and other firms with large counterparty exposures in securities-related OTC derivatives. To reduce duplicate supervision and regulation, OTC derivatives dealers that are banks would be subject to supervision by their federal banking regulator.

Trading markets and clearing organizations for securities-related OTC derivatives would be subject to registration requirements as exchanges and clearing agencies. The conditional exemption from exchange registration the SEC provided under Regulation ATS would be available to trading systems for securities-related OTC derivatives. The regulatory regime for securities clearing agencies would ensure that central counterparties for securities-related OTC derivatives impose appropriate margin requirements and other necessary risk controls. The SEC already has taken several actions to help further the centralized clearing for OTC derivatives, including exempting three central counterparties from the requirement to register as securities clearing agencies. The exemptions are temporary and subject to conditions intended to ensure that important elements of SEC oversight apply, such as recordkeeping and SEC staff access to examine clearing facilities.

Chairman Schapiro addressed how to regulate those OTC derivative contracts that may be ineligible for central clearing. She suggested the possible solution of imposing margin and capital requirements on the participants in customized transactions to reflect the risks they pose to market systems generally and acknowledged that this is an area in which the various regulators could consult with any systemic risk agency that Congress might establish.

For more information, please see:

http://www.sec.gov/news/testimony/2009/ts062209mls.htm
 

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

SEC Charges Two Investment Advisers in Ponzi Schemes

June 26, 2009 9:45 AM  

On June 24, 2009, the SEC charged a Massachusetts money manager for conducting a Ponzi scheme in which he promised investors their money would be pooled into a fund that he would invest on their behalf for expected annual returns of 20 percent with minimal risk to their capital. The adviser provided false account statements and tax forms to investors showing artificially inflated account balances and concealing that he did no securities trading at all for several years and suffered substantial losses on investments that he did make. The SEC alleges that from 2001 through April 2008, the adviser fraudulently obtained at least $15.9 million and ultimately caused investors to lose at least $6.69 million through misappropriation and trading losses. The Massachusetts adviser agreed to settle the SEC’s claims.

That same day, the SEC charged a California adviser and two entities he controls for operating a Ponzi-like scheme through five hedge funds. The adviser told investors that he had developed an investment strategy involving the purchase and sale of covered call options and that the hedge funds relied on this strategy to generate returns ranging from 30 to 48 percent per year. In reality, the adviser did not generate the returns he claimed to have made and instead, used investor principal to pay purported returns until the scheme collapsed. The SEC alleges that the adviser and his entities raised $14.7 million from more than 200 investors over three and a half years.

In both cases, the SEC’s complaint alleges violations of Section 17(a) of the Securities Act of 1933, Section 10(b) of, and Rule 10b-5 under, the Securities Exchange Act of 1934, and Section 206 of, and Rule 206(4)-8 under, the Investment Advisers Act of 1940. The complaint seeks permanent injunction, disgorgement of ill-gotten gains and prejudgment interest, and civil monetary penalties.

For more information, please see:

http://www.sec.gov/litigation/litreleases/2009/lr21102.htm  

http://www.sec.gov/litigation/litreleases/2009/lr21101.htm
 

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

SEC Votes to Propose Rule Amendments for Money Market Funds

June 26, 2009 9:31 AM  

On June 24, 2009, the SEC voted unanimously to propose amendments to Rule 2a-7 and other rules under the Investment Company Act of 1940. Although the SEC has not yet published the amendments, based on the discussion at its open meeting, it appears that the amendments largely would be consistent with recent recommendations of the Investment Company Institute’s Money Market Working Group. The SEC voted to propose:

  • Limiting money market funds to investing only in securities of the highest credit quality, thus prohibiting investment in so-called “second tier” securities.
  • Shortening the weighted average maturity limit to 60 days (the current limit is 90 days); the Money MarketWorkingGroup had recommended a 75 day weighted average maturity limit. 
  • Adding a new 120 day weighted average life limit that would limit funds’ investment in longer-term floating rate securities.
  • Requiring that money market funds have certain minimum percentages of their assets in cash or securities that can be readily converted to cash to pay redeeming investors. 
  • Requiring money market funds to perform periodic “stress tests” on fund portfolios to determine their ability to withstand market turbulence. 
  • Requiring monthly reporting of portfolio holdings within two business days of the end of the month and requiring that portfolio holdings be posted on the fund websites. 
  • Requiring money market funds to have the capability to process purchases and redemptions at a price other than $1 per share. 
  • Permitting money market funds whose net asset value has fallen below $1, or “broken the buck,” to suspend redemptions while liquidating assets.
  • Expanding the circumstances under which affiliates could buy distressed securities from money market funds without having to seek no-action relief.

Finally, the SEC is seeking comment on other issues related to money market funds that may lead to more regulatory changes. The SEC asked for comment on:

  • Whether money market funds should have market-based, floating net asset values, like any other type of mutual fund, rather than using stable net asset values.
  • Whether funds should be required to satisfy large redemption requests with in-kind redemptions.
  • Suggestions regarding alternatives as to the role of credit rating agencies in Rule 2a-7.
  • How the risk of asset-backed securities in money market fund portfolios could be better addressed.

The SEC’s vote occurred against the backdrop of the release of the Department of the Treasury’s release of its report on financial regulatory reform the preceding week. In that report, Treasury recommended that the SEC proceed with its proposals on money market funds, but also said that the President’s Working Group on Financial Markets, an interagency group composed of several federal financial regulators, including the SEC, should prepare a report assessing whether more fundamental changes in the regulation of money market funds are necessary. In particular, the report is expected to address whether money market funds should continue to be able to use a stable net asset value and whether money market funds should be required to obtain access to reliable emergency liquidity facilities from private sources.

Several of the Commissioners stressed their interest in receiving comments on whether money market funds should have floating net asset values. Commissioner Casey also expressed great interest in comments on the proper role of credit rating agencies under Rule 2a-7 and alternatives to that role. Commissioner Aguilar noted that this was the third time that the SEC had requested comment on whether Rule 2a-7 should play so much reliance on credit rating agencies, and suggested that he believed the current approach of the rule is correct. Commissioner Paredes questioned the necessity of prohibiting money market funds from investing in second tier securities, noting that those securities did not appear to have played any role in the difficulties faced by money market funds in 2008.
Comments will be due within 60 days after the amendments are published in the Federal Registrar, meaning that they are likely to be due around the beginning of September.

For more information, please see:
http://www.sec.gov/news/press/2009/2009-142.htm  
 

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

Financial Accounting Standards Board (“FASB”) Seeks Comments on Proposed Valuation Method for Alternative Instruments

June 23, 2009 1:43 PM  

FASB is seeking comments on proposed FASB Staff Position (“FSP”) amending FASB Statement No. 157, Fair Value Measurements (“Statement 157”), which provides guidance on fair value measurements of investments in investment companies that calculate net asset value per share as set forth in the American Institute of Certified Public Accountants Audit and Accounting Guide, Investment Companies (the “Investment Companies Guide”). The amendments were based on extensive comments received from various industry participants. Generally, Statement 157 aims to standardize fair valuation measurements for investments in hedge funds, private equity funds, venture capital funds, offshore fund vehicles and other investment companies as defined in the Investment Companies Guide (“alternative investments”). Investments with readily determinable fair value do not fall within the purview of Statement 157. Among other things, the amendments would allow a FASB reporting entity to estimate the fair value of an alternative investment using the net asset value per share of the investment without further adjustment, provided that the net asset value per share of the investments is determined in accordance with the Investment Companies Guide. The amendments also would expand required disclosures to promote risk transparency to investors. Required disclosures include the fair value of investments falling within the scope of FSP, a best estimate of the “remaining life” of the investment, the amount of unfunded commitments in the investment, and the terms and conditions of the investment.

FASB is seeking comments on whether application of the proposed FSP should be mandatory, if other investments should fall within the scope of the FSP, and the practicality of expanded disclosures. In addition to the topics listed, FASB is encouraging comments on related matters not specifically identified. Comments must be received in writing, and are due by July 8, 2009.

For more information, please see:
http://www.fasb.org/cs/ContentServer?c=Document_C&pagename=FASB%2FDocument_C%2FDocumentPage&cid=1176156228477

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

IRS Clarifies Regulated Investment Company (“RIC”) & Real Estate Investment Trust (“REIT”) Self-Determination Procedures

June 23, 2009 1:38 PM  

The IRS recently issued Revenue Procedure 2009-28, which clarifies the deficiency dividend procedures by which a RIC or REIT may make a “self-determination” of an adjustment to its taxable income under Section 860 of the Internal Revenue Code (Code).

In order to make a self-determination, the RIC or REIT must send the IRS a statement attached to an amendment or supplement to its tax return for the relevant year. Until now, the IRS had not provided specific instructions as to the content of the statement or procedure for submitting it. Under this Revenue Procedure, if a RIC or REIT making a self-determination properly completes and attaches IRS Form 8927 to its amendment or supplement to its tax return for the relevant tax year, such form will be treated as the statement required by Code Section 860(e).

The date of the determination is important, because a deficiency dividend must be distributed on or within 90 days after the date of the determination under Code Section 860(f). This Revenue Procedure specifies that the date of a self-determination will be the date of the postmark on the envelope containing the IRS Form 8927, provided that the form is sent to the IRS via either U.S. mail or other IRS designated private delivery service.

Form 8927 is currently available only in draft form. This Revenue Procedure is effective as of July 1, 2009.

For more information, please see:
http://www.irs.gov/irb/2009-20_IRB/ar11.html

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

Delaware Court Enforces Oral Agreement and Rules that Departing Hedge Fund Partner is Not Entitled to Equity Interest

June 23, 2009 1:30 PM  

The Delaware Chancery Court (the “Court”) recently held enforceable an oral agreement among three hedge fund founders that a departing partner would not be entitled to equity interest. The suit was filed in 2006 by one of the hedge fund founders against his other two co-founders in an attempt to retrieve his equity interest in the fund after his termination in 2005. Prior to beginning operations, the founders reached an oral agreement that all earnings would be paid out on an annual basis without deferral compensation, and that a departing member would only be entitled to his earned compensation and the balance of his capital account. The Court concluded that this oral agreement operated as a valid and enforceable agreement among the parties, and therefore governed the company’s operations. Under current Delaware law, a departing member or partner is entitled to his membership interest unless otherwise provided in a limited liability company operating agreement or a partnership agreement. Though written drafts reflecting this oral agreement were never formally executed, the Court nevertheless found the oral agreement to be valid because it was not superseded by other operating agreements governing compensation rights after termination. Moreover, the Court found no evidence of the co-founders’ intention to deviate from the original oral agreement. Furthermore, executed agreements for the entities comprising the business reflected the agreement that a departing member would only be paid his earned compensation and capital account balance. Based on these facts, the Court held that the departing member was not entitled to any equity interest in the fund.

For more information, please see:
http://courts.delaware.gov/Opinions/(4ppwv555em4nwrflavvuphm1)/download.aspx?ID=121580

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

SEC Announces Creation of Investor Advisory Committee

June 23, 2009 1:21 PM  

On June 3, 2009, the SEC announced the formation of an Investor Advisory Committee to enhance investor participation and visibility within the SEC. The charter for the Advisory Committee covers a broad range of goals and interests, which include advising the SEC on investor issues in securities markets and providing investor perspective on various regulatory issues and programs. The Advisory Committee is scheduled to become active after filing its charter with Congress. The Advisory Committee will be sponsored by SEC Commissioner Luis Aguilar, and will be co-chaired by Richard Hisey of AARP and Hye-Won Choi of TIAA-CREF.

For more information, please see:
http://www.sec.gov/news/press/2009/2009-126.htm

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

SEC Charges Investment Adviser for Violation of 15(c) Process and Misleading Statements in Commission Filings

June 23, 2009 1:11 PM  

On May 27, 2009, the SEC settled an enforcement proceeding with an investment adviser for charges in connection with violations of the investment advisory contract renewal process under Section 15(c) of the Investment Company Act, and related misrepresentations in filings with the Commission under Section 34(b) of the Investment Company Act. A fund managed by the investment adviser had a guarantee feature, which guarantees the minimum value of a shareholder’s initial investment in the fund if all distributions are reinvested. During board review of the renewal of the investment advisory contract with the funds, the investment adviser referenced the guarantee feature as justification for higher-than-peer-group average management fees. Concurrently, the investment adviser made representations to the SEC in prospectuses, annual reports, and registration statements that there was no cost to clients for the guarantee feature.

The SEC found that the investment adviser violated Section 15(c) of the Investment Company Act and Section 206(2) of the Advisers Act by failing to provide the review board with pertinent information necessary to adequately evaluate the cost of the guarantee. The SEC also charged the adviser with violations of Section 34(b) of the Investment Company Act for misrepresentations in SEC filings. In addition to a cease and desist order, the adviser agreed to pay an estimated $6.2 million in disgorgement fees and penalties.

For more information, please see:
http://www.sec.gov/news/digest/2009/dig052709.htm

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

SEC Charges Fund Manager for Misstating Holdings in Mortgage-Backed Securities and Selective Investor Disclosure

June 23, 2009 1:07 PM  

On June 8, 2009, the SEC charged an investment adviser and its distributor for violations of Section 206(2) of the Investment Advisers Act (the “Advisers Act”) by misstating the value of holdings in mortgage-backed securities, and subsequent selective disclosure to investors regarding the negative impact of the re-valuation of those mortgage-backed securities. The fund at issue was a mutual fund that invested primarily in mortgage-backed securities. The SEC found that the adviser significantly overstated the Fund’s NAV for at least 17 months by failing to factor in readily available negative market information in the calculation of the Fund’s NAV. Given the nature of the fund’s holdings in mortgage-backed securities and the lack of liquidity in the market, the SEC found fair valuation of the fund’s assets especially critical to the accurate reflection of the fund’s NAV. The adviser maintained preferred valuation methods based on marks provided by third-party pricing vendors. However, the SEC found that the adviser appeared to consistently disregard the stated preferred method of using third-party pricing vendors in favor of prices provided by a single broker-dealer or recommended by the portfolio management team. The SEC found that as a result of the overstated NAV, certain investors were able to redeem at higher share prices, to the detriment of others. Moreover, the SEC found that the overstated NAV inaccurately inflated the fund’s performance as compared to similar funds and resulted in higher advisory fees.

When the fund ultimately changed its valuation method and began to revalue securities based on third-party pricing vendor marks, the change had a substantial negative impact on the fund’s NAV. According to the SEC staff, the adviser and its affiliated broker-dealer, which served as the fund’s distributor, only disclosed the re-pricing information to certain investors and their representatives. The SEC took issue with the fact that the adviser never disseminated this information, which the SEC determined to be “material nonpublic information,” in a manner reasonably designed to reach all fund investors. The SEC found that the limited manner in which the information was disseminated gave some fund investors, including the customers of the adviser’s affiliates, an unfair advantage over others. Investors that obtained this information were able to redeem their shares before the re-pricing process was complete, and therefore able to redeem at higher prices than the investors that did not receive this information. The significant NAV decline and large redemptions ultimately led the fund’s board of trustees to liquidate the fund.

The SEC also charged the adviser with violations of Section 204A of the Advisers Act for failing to maintain policies designed to prevent misuse of material nonpublic information and aiding and abetting the violations of Sections 17(a)(2), 34(b) and Rule 22c-1(a) of the Investment Company Act of 1940 (the “Investment Company Act”). The affiliated distributor was charged with violations of Rule 22c-1(a) of the Investment Company Act and Sections 15(f) and 17 of the Securities Exchange Act of 1934. In addition to a cease and desist order, penalties included approximately $40 million in settlement and disgorgement fees.

For more information, please see:
http://www.sec.gov/news/press/2009/2009-130.htm

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

FINRA Requests Comments on Proposed Rules Addressing the Origination and Circulation of Rumors

June 23, 2009 12:56 PM  

FINRA is seeking comments on its revisions to proposed Rule 2030 addressing the origination and circulation of rumors. These revisions were made in response to comments received on FINRA’s original proposal regarding rumors. The proposed amendments refine the general prohibition, permissible communications, reporting requirements, and the definition of rumors. The revisions to proposed Rule 2030 are briefly summarized below:

  • General Prohibition: The revised Rule 2030 applies to a rumor that a FINRA member firm knows or has reasonable grounds to believe is false or misleading and is likely to influence the market price of a security.                                                                                                     
  • Exceptions: There are three limited exceptions to this general prohibition:                                                 
  • First, the prohibition does not apply to a rumor widely circulated by public media if the source of the rumor and its unsubstantiated nature is disclosed;                                                                                                     
  • Second, discussions between market participants necessary to explain market conditions and the validity of information are exempted, provided that such information is communicated responsibly and is not intended to influence the price of a security; and                                                 
  • Finally, internal firm discussions verifying the accuracy of a rumor are exempted, provided that the unsubstantiated nature of the information and its source is disclosed.                                                 
  • Reporting Requirement: The proposed changes would require FINRA member firms to report rumors that the firm learns of and knows, or has reasonable grounds to believe were originated or circulated for the purpose of improperly influencing the market price of a security.                                                 
  • Definition of “Rumor”: The proposed changes clarify the definition of rumor by specifically excluding statements that are clearly expressions of an individual or firm opinion, such as an analyst’s view of the prospects of a company.                                                 
  • Written Policies and Procedures: Under the proposed changes, FINRA member firms are expected to develop and document training policies and programs reasonably designed to ensure compliance with obligations related to the origination and circulation of rumors.

For more information, please see:

http://www.finra.org/web/groups/industry/@ip/@reg/@notice/documents/notices/p118807.pdf  

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

Australia Ends Ban on Short Sales

June 5, 2009 2:03 PM  

The Australian Securities and Investments Commission (“ASIC”) recently lifted its eight month ban on short sales. The ban was first imposed as part of a global effort to stabilize financial markets. ASIC previously chose to extend the ban for financial stocks, despite the U.S. and UK ending their bans sooner.

For more information, please see:

http://in.reuters.com/article/fundsNews/idINSYD44575820090525

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

MFA Expresses Support for Registration of Hedge Funds

June 5, 2009 2:00 PM  

On May 7, 2009, the Managed Funds Association expressed its support for mandatory registration of investment advisers with the SEC, including advisers to private funds. During testimony before the House Financial Services Subcommittee on Capital Markets, Insurance and Government Sponsored Enterprises hearing, MFA President and CEO, Richard H. Baker indicated that support for mandatory registration of investment advisers is a necessary step towards the realization of the mutually shared goals of economic stability and restoring investor confidence. Baker added that, although hedge funds could not be blamed for the ongoing financial crisis, the MFA and its members are committed to do what is necessary to return stability to the markets. He emphasized that hedge funds are critical to capital markets, and that the small size and scope of the industry does not pose significant systemic risk. He noted that hedge funds had performed better than the market, used less debt than banks, and had not sought federal assistance. He suggested that additional SEC resources such as personnel, technology, training and recruitment are necessary for the core mission of investor protection. He cautioned that heightened regulations without corresponding increases in resources would overwhelm the system and hinder the accomplishment of the SEC’s stated objectives.

For more information, please see:
http://www.managedfunds.org/downloads/MFA%20Announces%20Support%20for%20Registration%20_BH-SM_.pdf

 
 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

Connecticut Passes Hedge Fund Bill

June 5, 2009 1:55 PM  

On May 27, 2009, the Connecticut Senate passed SB 953, An Act Concerning Hedge Funds, which considerably heightens private fund regulation in the state and has potential implications on private funds managed outside of Connecticut with investors in Connecticut. Under the bill, an investment adviser is required to registered with the state if: (1) not registered under Section 203 of the Advisers Act; (2) not exempted from the definition of investment adviser under Section 202(a)(11) of the Advisers Act; or (3) the adviser operates a place of business in Connecticut, or has had more than five Connecticut residents as clients in the preceding twelve months. The bill also requires the disclosure, by hedge fund managers, of investments implicating conflicts of interest issues to investors or prospective investors at least thirty days before such investment is made. A hedge fund is defined as an Investment Company (as defined in Section 3(a)(1) of the Investment Company Act of 1940) that: (i) claims an exemption under Section 3(c)(1) or Section 3(c)(7) of the Investment Company Act; (ii) offers securities that are exempt under the private offering safe harbor criteria in Rule 506 of Regulation D of the Securities Act; and (iii) meets any other criteria as established by the Banking Commissioner under regulations promulgated under subsection (c) of the Act. The bill gives the Banking Commissioner broad discretion to promulgate additional rules and regulations enforcing registration in Connecticut.

For more information, please see:
http://www.cga.ct.gov/2009/TOB/S/2009SB-00953-R01-SB.htm 
http://www.cga.ct.gov/asp/cgabillstatus/cgabillstatus.asp?selBillType=Bill&bill_num=SB-0953                                          

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

DOL Investment Advice Rule Delayed

June 5, 2009 11:28 AM  

On May 22, 2009, the DOL’s Employee Benefits Security Administration published a notice extending the applicability and effective dates of the investment advice rule to November 18, 2009. On January 21, 2009, the DOL published final rules permitting plan providers to provide investment advisory services to employees regarding investments in retirement accounts. Promulgated under the 2006 Pension Protection Act, the rule provides guidelines for plan fiduciaries regarding the provision of investment advice, and reduces conflicts of interest issues by minimizing the discretion of potentially conflicted advisors in directing client investments. The DOL stated that the extension is intended to allow sufficient time to address questions of law and policy concerning the pending rule. This is the second extension of the investment advice rule, which was originally scheduled to take effect on March 23, 2009, but was delayed until May 22, 2009 to seek and address concerns raised by interested persons. Concerns raised included issues over varying interpretations of statutory exemptions, and the adequacy of class exemptions in mitigating against adviser self-dealing. As such, the DOL indicated that the “significant and complex” issues implicated by the rule warrant an additional 180 day delay.

For more information, please see:
http://www.thefederalregister.com/d.p/2009-05-22-E9-12065

 
 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

Trustee of Madoff Firm Sues Funds for “Clawback” of Distributed Amounts

June 5, 2009 11:24 AM  

On May 18, 2009, Irving Picard, the court appointed trustee of Bernard L. Madoff Investment Securities LLC filed a civil lawsuit in U.S. Bankruptcy Court for the Southern District of New York against three hedge funds managed by a common investment adviser. No individual partners of the adviser were named in the suit.

The complaint alleges that the defendants should have known that the Madoff business model was flawed and predicated on securities fraud. The complaint further alleges that the defendants failed to exercise reasonable due diligence, and should have been on notice of fraud due to “high and unusually consistent” returns, prices outside the daily market range, trades settled on weekends and holidays, and “unrealistically high volumes of equities trading.” The complaint references the examples of several banks and other investors that avoided dealings with the Madoff firm after sufficient due diligence revealed doubts about the firm’s dealings.

The suit seeks to recoup an estimated $3.2 billion transferred by the defendant funds beginning in 2002. The lawsuit also seeks to have the defendants’ SIPA claims disallowed until the assets transferred are returned to the Trustee.

For more information, please see:
https://ecf.nysb.uscourts.gov
Docket No. 1:09-ap-1239

 
 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

SEC Release Details Proposed Custody Rule Amendments

June 5, 2009 9:43 AM  

On May 20, 2009, the SEC issued a release detailing its proposed amendments to the custody rule under the Investment Advisers Act of 1940 (the “Advisers Act”). In light of recent enforcement actions relating to the misappropriation of customer assets by investment advisers and broker-dealers, the SEC is proposing amendments to custody rules to enhance investor protection. The following amendments are being proposed to Rule 206(4)-2 under the Advisers Act to improve custody practices and prevent misappropriation of client assets:

Annual Surprise Examination

Proposed rule 206(4)-2(a)(4) would require registered investment advisers with custody of client assets to submit to surprise annual examinations of client assets by an independent public accountant. In situations where the adviser or a related person serves as a qualified custodian, the independent public accountant conducting the surprise annual examinations must be registered with Public Company Accounting Oversight Board (“PCAOB”).

The annual surprise examinations would apply to all registered investment advisers with custody of client assets, including:

  • Advisers that have physical custody of client assets
  • Advisers that do not have physical custody of client assets but are deemed to have custody of client assets solely as a result of their authority to deduct fees from client accounts
  • Dually registered advisers that are also registered as broker-dealers
  • Advisers to private pooled investment vehicles (e.g., hedge funds), regardless of whether the investment vehicles distributes audited financials annually audited financial statements to investors within 120 days of their fiscal year (although these vehicles will continue to be exempt from the account statement delivery requirement)

The annual surprise examinations would be performed at times that are different from year-to-year. Also, unlike the requirement of the current rule, the proposed rule would require that that the surprise examinations cover privately issued securities held in the custody of the adviser.

Form ADV-E

Proposed rule 206(4)-2(a)(4) would require that investment advisers subject to the rule execute agreements with the independent accountants conducting the surprise examination to notify the SEC of any findings of material discrepancies within one business day of such finding. In addition, the independent public accountant will be required to file a Form ADV-E to the SEC within 120 days of each surprise examination accompanied by a certificate attesting that it has conducted the examination and detailing its results. The accountant also would be required to file a Form ADV-E with the SEC within four business days of its resignation, dismissal or termination of the agreement.

Internal Control Reports

In instances where the adviser or a related person (rather than an independent custodian) serves as qualified custodian for client assets, proposed rule 206(4)-2(a)(6) would require the adviser to obtain annual written reports, such as a Type II SAS 70 Report (“internal control reports”) with an opinion from an independent public accountant registered with the PCAOB regarding the adviser’s or related person’s control of client assets. Proposed rule 206(4)-2(a)(17)(iii) would require that the internal control report be maintained in an adviser’s records for five years from the end of the year in which it was finalized and submitted to the SEC upon request.

Delivery of Account Statements and Notices to Clients

Unlike the current rule which provides for advisers to deliver internally generated account statements to clients under certain circumstances, under the proposed rule 206(4)-2(a)(3), advisers would be required to ensure to their reasonable belief that qualified custodians send account statements directly to each client or their representative at least quarterly. In order to form a reasonable belief, the adviser must conduct “due inquiry” as to whether the statements have been delivered. For example, an adviser will be deemed to have performed due inquiry upon receipt of a copy of statements provided to advisory clients by the qualified custodian. An adviser will also be deemed to have satisfied the due inquiry requirement if it receives quarterly written confirmations from the qualified custodian that account statements have been sent to advisory clients. Direct delivery is designed to preserve the integrity of the account statements.

In addition, under proposed rule 206(4)-2(a)(2), advisers would be required to include notices in clients’ statements urging them to engage in the comparison of account statements received from the adviser and statements received from the custodian.

Liquidation Audit for Pooled Investment Vehicles

Proposed rule 206(4)-2(b)(3)(ii) would specifically require an adviser to a pooled investment vehicle (e.g., a hedge fund) that is relying on the annual audit exception to obtain a final audit if the pool is liquidated at a time other than the end of a fiscal year.

Form ADV Amendments

  •  Item 7: The proposed rules would modify Item 7 of Part 1A of Form ADV to require an adviser to report all related persons who are broker-dealers and identify such persons who also serve as qualified custodians with respect to client assets. Currently, this item does not require the identification of related broker-dealers.
  • Item 9: The proposed rules would also modify Item 9 by requiring that an adviser provide information about custody practices under rule 206(4)-2. Such information would include the number of clients and the dollar value of clients’ assets under the custody of the adviser or its related person and whether a related person serves as qualified custodian for advisory clients, and the month in which the last surprise examination occurred (this information would only be required to be updated when the adviser prepares its annual updating amendment). Advisers would also be required to report whether:                                                 
  • Qualified custodians have delivered quarterly account statements to investors in pooled investment vehicles;
  • Financial statements of such pooled investment vehicles are audited; 
  • The adviser’s clients’ assets are subject to surprise examinations; and 
  • In cases where an adviser or its related person is serving as qualified custodian, an independent public accountant registered with and subject to PCAOB has prepared an internal control report regarding the adviser or its related person’s custody practices.                                                 
  • Schedule D of Form ADV would also be amended to require additional details regarding custodians and the accountants that perform the surprise examinations.

The SEC is seeking comments on many aspects of the proposed rules. Comments must be received on or before July 28, 2009.

For more information, please see:
http://www.sec.gov/rules/proposed/2009/ia-2876.pdf

 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 

SEC and U.S. Department of Labor (“DOL”) Accepting Requests to Participate in Joint Hearing Examining Target Date Funds

June 5, 2009 9:40 AM  

On May 22, 2009, the SEC and the DOL began accepting requests to participate in joint hearings to discuss target date funds. The hearings are scheduled to take place on June 18, 2009. According to SEC Chairman Mary L. Schapiro, the hearings are intended to resolve any issues surrounding target date funds, as they have become increasingly popular retirement investment vehicles.

Target date funds allow investors to link their portfolios to a particular date, the “target date,” typically the investor’s retirement date. Initially, these funds are focused on growth and tend to have moderately aggressive asset allocations. However, as the target date approaches, allocations become more conservative to preserve accumulated assets. The shift in asset allocation, commonly referred to as the “glide path,” can vary widely among funds, including those with identical target dates.

Topics to be addressed at the joint hearing include the determination of asset allocations and shifts in asset allocations; the selection of underlying assets; related risk disclosures; and factors considered in the evaluation of target date funds.

Interested persons must submit written requests to participate along with an outline of topics for discussion. Information submitted becomes part of the public record of the joint hearing.

For more information, please see:

http://www.sec.gov/news/press/2009/2009-120.htm

 
 
 

This Summary, which draws from a wide range of sources, endeavors to condense important investment management regulatory news of the preceding week into one, easily digestible source. This Summary is not intended as legal advice. Readers should not act upon information contained in this Summary without professional legal counsel. This Summary may be considered advertising under the rules of the Supreme Judicial Court of Massachusetts.

IRS CIRCULAR 230 DISCLOSURE:
To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.