When President Obama signed the JOBS (Jumpstart Our Business Startups) Act on April 5, freeing hedge funds to do more marketing and advertising may not have been what he had in mind.
And when Congress was creating the legislation, they were not thinking of hedge fund managers, but tech startup companies in Silicon Valley “who rely on the same exemptions from registering securities as hedge funds do,” said attorney Bart Mallon, a co-founder of Cole-Frieman Mallon & Hunt in San Francisco.
“Congress wants more money going into startups, so they”™ll hire and create products, so Congress”™ intent was to make it easier for them to raise capital. An unintended consequence of that is hedge fund managers get a break as well.” Mallon said this is simply because of how securities laws are set up. Tech startups and hedge funds have similar structures in certain respects.
The JOBS Act opens up a new source of funding for small companies and startups known as crowdfunding. Companies can raise as much as $1 million a year without having to do a public offering ”“ a step requiring state-by-state registrations that can cost thousands of dollars. One goal of the JOBS Act is to make it easier for startups to raise capital, thus helping companies grow and hire.
With respect to crowdfunding, which is the act of raising capital through a greater number of smaller investors, the JOBS Act eliminates the requirement that those investors be accredited. The securities law definition of an accredited investor is someone who has a net worth of $1 million exclusive of his primary residence. Since a larger number of smaller investors will now be involved, companies are being allowed to use more methods of reaching potential investors. This is likely to change what we see and hear about hedge funds in the mass media.
Numerous hedge funds in Fairfield and Westchester counties contacted by the Business Journal said they do not comment in the media on their business plans. But Mallon said the expected increased visibility of the hedge fund industry as a result of the JOBS Act may go a long way toward changing the public perception of hedge funds as secretive, unregulated investment vehicles for the wealthy.
“I think when you see more managers out there discussing programs,” said Mallon, “there will be more knowledge with respect to the investing public. Right now mutual funds are viewed as vehicles that more retail-type investors can be investing in. Most hedge funds are close to being mutual funds, but are more private in nature,” he said.
Robert Heim, one of the co-founders of the law firm of Meyers & Heim and a former assistant regional director of the Securities and Exchange Commission in New York City, said he thinks the law will have the most effect on “new and smaller hedge funds that have traditionally been shut out of the more formal institutional capital-raising process.”
But he said that it remains to be seen how many new investors that hedge funds will be able to attract. “The truth is there are still a relatively small number of qualified investors for hedge funds. I think investors will be more concerned about a manager”™s track record and the risk controls hedge funds have in place. I don”™t think the larger hedge funds will use it because they are traditionally available to institutional investors.”
Since there will be more advertising and marketing by hedge funds, some of it may be unscrupulous, say Heim and Mallon. “There definitely is the potential for abuse,” said Heim, “that”™s why Congress included a provision requiring the SEC to promulgate rules to prevent investor abuses.” And, said Mallon, those rules, due in the next three months, will be created by an overworked, underfunded SEC.
“Who will police these people, where is the budget for that?” he asked. “The SEC will be in charge of policing these companies. Where does the manpower come from to do this? They already are mandated to engage in rulemaking from the Dodd-Frank Act and they”™re not even close to doing what they”™re supposed to have done with that. Now we”™re putting more on their plate.”
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