The 3rd Annual Excellence In Investing: San Francisco, in partnership with The Sohn Conference Foundation, will be held on October 24, 2012 at the Merchants Exchange, Julia Morgan Ballroom. Excellence In Investing: San Francisco is the premiere Bay Area investor conference benefiting local and national education and other children’s causes.
For more information and to register, please visit www.excellencesf.org or click here.
On August 30, 2012, Ildi Duckor and Michael Wu, members of Pillsbury’s Investment Funds and Investment Management practice, met with executives and staff of the California Department of Corporations at the Department’s invitation. The purpose of the meeting was to provide the Department’s investment adviser and broker dealer divisions (live in San Francisco and via teleconference in the Sacramento and Los Angeles offices) with a broad overview of the hedge fund industry. “We hope that a better understanding of the industry will help balance hedge fund managers’ business needs with the regulators’ need for investor and market protection, and will streamline both the adviser registration and the examination process” said Ildi Duckor. The Investment Funds and Investment Management team will continue to cooperate with the Department in an effort to provide industry insight with respect to future California regulation of hedge funds and their advisers.
This guest post from the Margolis Advisory Group, co-authored by River Communications, is reprinted with permission. The Executive Summary appears below and the full text is available here.
The JOBS Act is bringing change to the hedge fund industry, and, most likely, this change will accelerate the trend towards institutionalization. The lifting of the “advertising ban” opens the playbook, allowing hedge funds to engage in a wide range of strategic communications and marketing activities. For some, this will offer a new opportunity to compete for assets with traditional managers adept at managing their brands and marketplace perceptions. Others will resist, possibly to their detriment, as funds will no longer have the luxury of hiding “under the radar.”
Hedge funds who embrace the new, less restrictive environment will need to build mature, comprehensive strategic communications programs. The best practices include:
Hedge funds have thrived by embracing and even becoming catalysts for change. In this hyper-competitive industry, it is commonplace to expend disproportionate resources to capture even a minimal investment performance advantage. Because of this, it is surprising that there has not been more enthusiastic support in the trades for what is potentially the next major shift for the industry: the Jumpstart Our Business Startups Act or JOBS Act.
Passed with little fanfare, the JOBS Act lifts the ban on advertising for hedge funds (among other provisions) and has the potential to transform how managers market their firms, build their brands and communicate with their investors. Yet, much of the discussion in the trades and on the hedge fund industry speaking circuit has downplayed the potential impact of this provision as being only meaningful to the smaller funds. Large funds—as the typical explanation goes—believe they do not need to proactively market, as they commonly market off their mystique of exclusivity and will prefer to remain “under the radar” to protect their proprietary investment strategies. Furthermore, the larger funds are already staffed for one-on-one sales, and many in the hedge fund industry are under the false impression that sales are only based on individual contacts or “having the Rolodex.”
The fact is, change is coming to the hedge fund industry, and many managers will continue to adapt to the ongoing evolution as they always have. Most likely, this change will accelerate the trend towards resembling traditional managers—for hedge funds can now adopt advertising and marketing techniques, as well.
Consider the trends we have observed in the hedge fund and institutional asset management space, especially since the market declines of ’07-’08. New regulations have increased the demand for information on leverage and counterparty risk; the migration from single to multi-prime brokers has occurred, and institutional investors are demanding more transparency in investment operations, risk and administration. Perhaps, most significantly—the largest institutional investors have been allocating funds almost exclusively to the largest hedge funds.
According to “The Evolution of the Industry: 2012,” an annual KPMG/AIMA hedge fund survey, institutional investors now represent a clear majority of all assets under management by the global hedge fund industry, with 57 percent of the industry’s AUM residing in this category. And, the proportion of hedge fund industry assets originating from institutional investors has grown significantly since the financial crisis.
As a result, we are seeing a continuation of the institutionalization of hedge funds. The KPMG study confirmed this with survey data indicating that investors demand hedge funds look and act more like traditional institutional managers from an operational standpoint. In addition, 82 percent of respondents reported an increase in demand for transparency from investors, while 88 percent said investors are demanding greater due diligence.
Our own experience consulting with hedge funds and traditional managers has confirmed other indications of this trend, as well as with all investors—large and small—demanding greater operational efficiency; cost reduction; and models that enhance overall risk management, such as the move from single to multi-prime relationships; all delivered in an open and transparent way.
For hedge fund managers to attract large pools of money, they will increasingly need to be more institutional and transparent with all investors. This is a significant cultural shift for these firms. Not only do many hedge funds lack a strategic communications infrastructure, but the concept of such openness still runs contrary to the DNA of most firms.
The question then becomes: how should hedge funds that embrace a more open and inclusive communications strategy implement programs that will help them achieve this goal? The answer is they will need to develop an approach to communications that is similar to traditional institutional asset managers.
Written by: Jay Gould
On August 30, 2012, the Securities and Exchange Commission (the “SEC”) released the Dodd Frank Act’s mandated study (the “Study”) on the financial literacy of retail investors which concludes, as you might have predicted, that retail investors are essentially clueless about investing and financial matters generally. That slapping sound you heard was the high-fiving by stockbrokers everywhere across America. Among the selected findings were that retail investors lack “basic financial literacy” and that such investors have a weak grasp of elementary financial concepts and lack critical knowledge of ways to avoid investment fraud. It should come as no surprise that certain subgroups, such as women, African-Americans, Hispanics, the elderly, and the poorly educated have even less basic financial knowledge than the general population.
Without water boarding you with the details of this 182 page report, the SEC obtained the information necessary to reach these conclusions by conducting focus groups and quizzing investors through an online survey. These methods revealed that investors can’t identify basic financial products, can’t calculate fees, do not understand conflicts of interest, and, if that were not enough, can’t read an account statement. The Study concludes with a strategy and set of goals for increasing financial literacy among this retail class. The goals should be to improve investors’ understanding of risk, the fees and cost associated with investing, proactive steps for avoiding fraud and increasing general financial knowledge. These laudable goals are to be achieved, quite magically, by devising education programs that target specific groups that are deemed vulnerable, such as young investors, lump sum payout recipients, investment trustees, members of the military (if you ever want to know how much we value our military personnel, look into periodic payment plans), underserved populations, and older investors.
Certain members of the financial industry have agreed to work together on an “ask and check” campaign that would encourage individuals to check the background of investment professionals before using them, and to encourage investors to verify that a potential investment is legitimate before investing. Financial regulators have agreed that more information should be added to the investor protection section of the SEC’s website and that a general campaign should be embarked upon that will help individuals understand the fees and costs associated with financial products.
But why are the findings and conclusions of the Study important now? Well, a couple of reasons come to mind, one of an immediate concern, the other longer term in nature. First, you may have read that the SEC recently released for public comment the rules that will lift the ban on “general solicitation” for otherwise private offerings. These rules, if adopted in their proposed form, would permit private issuers, including private funds, to solicit investors generally through all forms of public media, including newspapers, the internet and mass mailings. Issuers will be required to take reasonable steps to determine that all investors meet sophistication and accreditation standards before accepting an investment, but make no mistake, these rules are the most significant changes to the securities offering process since the Securities Act of 1933 was signed into law. Many state securities regulators are predicting an avalanche of new frauds aimed squarely at those categories of vulnerable investors that the Study identified.
In a world where modern means of communication have forever blurred the lines between information that is privately distributed and that which is in the public domain, it makes little sense to cling to the old concepts of private offerings to investors with whom one has “pre-existing, substantial relationships,” and we have actively supported the lifting of the ban. However, with increased rights come increased responsibilities. It will be the responsibility of all of those in the private funds business to remain vigilant against potential frauds and scams, to adopt “best practices” on behalf of ourselves and our clients, and to work more closely with regulators in order to protect not just investors, but the viability of our industry itself. We hope that fund managers and those who serve them will take these obligations seriously with a longer term view.
As for the longer term, this November the U.S. will elect or re-elect a President. One of the most significant issues in this campaign will be around entitlement reform. That is, what to do about the long term health of Medicare, Medicaid and, for purposes of this discussion, Social Security. In his second term, Bush II attempted to privatize Social Security to some degree. This proposal generally envisioned allocating a third or a half of a retiree’s account into a “personal plan” over which the retiree would have investment discretion. Rather than a guaranteed payout from Social Security after choosing a retirement age, each retiree, most of which have the level of sophistication discussed in the Study, would be responsible for making his or her own investment decisions. It is fairly easy to figure out who might be in favor of putting millions of unsophisticated, financially illiterate people in charge of the assets that would otherwise be paid out by Social Security on a monthly basis. Whether and how the results of the Study are used in the debate on Social Security reform should be, at a minimum, very interesting to watch.
Investment Fund Law Blog