Views are mixed on the impact of the recent Securities and Exchange Commission decision to lift the general solicitation ban on private securities offerings.
While some experts think the decision could be a boon to large firms with both mutual fund and hedge fund offerings, others believe that the ability to sell investment products successfully involves much more work, time and commitment than just running a few advertisements.
The SEC adopted the rule last month to implement a Jumpstart Our Business Startup Act (JOBS Act) requirement. It would apply to offerings that qualify for exemption from SEC registration under Rule 506 of Regulation D.
The JOBS Act directed the SEC to remove the prohibition on general solicitation or general advertising for securities offerings relying on Rule 506 provided that sales are limited to accredited investors and an issuer takes reasonable steps to verifying that all purchasers of the securities are accredited investors.
"This will open the door for firms like Deutsche Bank that have offered both mutual funds and hedge funds to really be able to apply their distribution and marketing expertise to the hedge fund world," said Lee Kowarski, cofounder and partner of kasina, an asset management and insurance industry consultancy based in New York.
Other firms that would benefit include J.P. Morgan, Goldman Sachs and Franklin Templeton, which acquired hedge fund K2 Advisors last year.
The JOBS Act opens up the ability to promote an integrated lineup of products from passively managed index funds and ETFs to separately managed accounts, actively managed mutual funds and hedge funds rather than requiring separate marketing and branding efforts for each, Kowarski said.
The SEC ruling will also likely impact the decision process of firms like BlackRock regarding the potential acquisition or creation of new hedge fund offerings, he said.
A Challenge for Hedge Funds
Avi Nachmany, director of research at Strategic Insight, a mutual fund industry consultancy, sees the issue in a different light. "You cannot just advertise and declare victory and move on," he said.
Hedge funds wishing to expand their business need to look at the mutual fund space as hedge fund AQR has done, because most investors do not qualify as accredited investors, he said.
And only hedge funds offering a certain type of product would appeal to mutual fund investors, he said. Because investors continue to be anxious about the stock market and are now concerned about the impact of the interest rate cycle on bond funds, they are looking for investments that can participate in market upswings but have a mechanism to protect the downside, he said. It is only those hedge fund products that are going to be appealing to mutual fund investors.
What's more, to be successful in the mutual fund business takes time, patience and commitment, Nachmany said. "Unless an institution is totally committed to entering, learning, getting data and relationships and getting into the trenches, learning from advisors and learning that you have to be a partner of firms like Merrill Lynch," they won't be successful, he said.
Protecting Investors
At the same time that the SEC announced that it had approved the JOBS Act requirement, the agency issued a rule proposal requiring issuers to provide additional information about the securities offerings.
Among other things, the proposed rule would require issuers to include legends and disclosures intended to inform potential investors that the offering is limited to accredited investors and that certain potential risk may be associated with such offerings. Issuers would also be required to submit written general solicitation materials to the SEC.
The Investment Company Institute, which is currently reviewing the rule proposal, objected to the SEC's adoption of the JOBS Act rules because the final rule "does not include investor protection measures recommended by ICI, consumer groups and many others," said ICI President and CEO Paul Schott Stevens in a statement.
Ianthe Zabel, a spokeswoman for the ICI, declined to comment on the latest proposal from the SEC. However, in a comment letter filed last year on the proposed rule to lift the ban on general solicitation and advertising, the organization provided detailed recommendations regarding advertising by exempt funds.
In the letter, the ICI asks that the SEC impose content restrictions on private fund advertising at least as extensive as those currently applicable to mutual funds.
The organization also wants the SEC to prohibit performance advertising by private funds until the SEC can craft a rule that requires private funds to calculate performance based on standardized methodologies.
In addition, the ICI asks that the SEC require disclosure in advertisements to ensure that all investors who may see a private fund advertising--whether they are accredited or not--do not confuse the private fund for a mutual fund.
The ICI also asks the SEC to direct the Financial Industry Regulatory Authority (FINRA) to require private fund advertisements to be filed with and reviewed by FINRA.
Finally, the ICI asks that the SEC reconsider the income and net worth thresholds in the definition of "accredited investor" to ensure that the definition appropriately defines a universe of investors that do not need the protections of the securities laws.
An accredited investor, by the SEC's definition, has a net worth of more than $1 million and income exceeding $200,000 for an individual or $300,000 for a couple.
The SEC should amend the definition of accredited investor to correct for the erosion in the income and net worth tests due to inflation since they were established in 1982, the ICI comment letter says.
