Wall Street Journal - Legislators Seek Hedge-Fund Disclosure: 02/02/09

Original Story

By JENNY STRASBURG

A bill proposed last week to regulate hedge funds in the U.S. could require them to start talking more — including about their investors.

The Hedge Fund Transparency Act was introduced by Sen. Carl Levin, a Michigan Democrat, and Sen. Charles Grassley, an Iowa Republican. One part of the bill that caused a buzz among hedge-fund managers and lawyers over the weekend is a new requirement that hedge-fund investors’ names be routinely and publicly disclosed.

The broader bill would require hedge funds with at least $50 million in assets to register with the Securities and Exchange Commission. The senators and others are calling for increased public disclosure of hedge funds’ assets and trading strategies to help prevent market catastrophes and investor fraud. Currently, hedge-fund registration is voluntary for most of the industry.

The proposed legislation calls for hedge funds to provide names and addresses of “each natural person who is a beneficial owner,” which lawyers say includes outside investors. It also would require disclosure of a fund’s size and the names of its prime brokers, which are the banks that lend funds money and clear their trades. Registration also would open funds to random audits by regulators.

Disclosing investor identities would uncloak thousands of clients, from wealthy individuals to pension funds and endowments, who generally want their investments private, said Stephen Vine, head of the investment-funds practice at law firm Akin Gump Strauss Hauer & Feld LLP. Such a mandate would take one aspect of disclosure beyond what is required of mutual funds, which are much more strictly regulated. Hedge-fund investors must meet minimum wealth standards that don’t apply to mutual-fund clients, and hedge funds have fewer trading restrictions and can amplify their bets, and therefore their losses, with borrowed money.

“It’s hard to see why having that investor information broadcast to the public helps a risk regulator,” says Mr. Vine, adding that his hedge-fund clients were caught offguard by the provision and worry that it would scare off investors.

The potential change comes at a time of dramatic shrinkage for hedge funds, whose assets have plummeted in value and whose clients have bailed out.

Sen. Grassley in a statement last week called for “some sunlight” to be shed on hedge funds and their investors, adding that both groups have fought hard to retain secrecy. The bill he and Sen. Levin introduced also seeks stricter controls to prevent money-laundering through hedge funds.

It is too early to say whether the SEC would exercise the authority granted by the bill, if it even passes, to require such a deep level of disclosure involving clients’ names, says Jay Gould, a former SEC investment-management attorney who now runs the hedge-fund practice at Pillsbury Winthrop Shaw and Pittman LLP in San Francisco. The SEC could dial back such a directive by setting minimum “materiality standards,” such as requiring that only the biggest, most influential investors’ names be disclosed, Mr. Gould says.