Heated Hedge Fund Debate Heads for the Hill

May 19, 2003, 1:00 a.m. EDT 1 Min Read

The House Financial Services Capital Markets Subcommittee will hold a hearing this Thursday to examine the role of hedge funds in todays financial markets.

"Hedge funds have served as a valuable tool for the sophisticated and institutional investor in managing market risk," said Richard Baker (R- LA), chairman of the subcommittee. "However, as more and more retail investors look to hedge funds as an investment option, we must ensure that there are adequate investor protections in place."

The hearing comes on the heels of a two-day roundtable at the Securities and Exchange Commission in Washington this past Wednesday and Thursday (see MFMN 5/15/03). SEC Chairman William Donaldson will present the results of that meeting to the subcommittee this Thursday.

The issues that will be considered include disclosure and transparency, enforcement and fraud, the current regulatory framework and the market practices of hedge funds.

Concerns over the "retailization" of hedge funds have dominated the headlines in recent months due to the increasing popularity of funds-of-funds, which are mutual funds that invest in hedge funds and are marketed to retail investors. Previously, hedge funds were unregulated investment pools restricted to high-net-worth individuals. But now, through funds-of-funds, retail investors have access to these instruments because they often only require a minimum investment of $25,000.

Michael Oxley (R- OH), chairman of the House Financial Services Committee, expressed concerns that novice investors may not understand the level of risk involved in hedge funds and their potentially large returns or losses. "While they are a vital part of the capital structure and can be a valuable alternative investment, they are sophisticated instruments designed for sophisticated investors," he said.

Some industry experts believe that hedge funds need to be closely regulated to protect investors and prevent fraud, whereas others are concerned that increased scrutiny will give them cause to take their business overseas. Indeed, it is a divisive issue.