A guide to hedge fund regulation
Typically, individuals and institutions with a high-asset base invest are allowed to invest in hedge funds. Investment in hedge funds requires specialised knowledge of world markets, and they are not for everyone.
The need for hedge fund regulation
Overview
What are hedge funds: Hedge funds are investment schemes where money contributed by investors is invested in stocks and shares, commodity futures, and other assets to ensure that risks are “hedged”. Fund performance increases wealth. The investors can redeem their investments on a periodical basis.
Hedge funds have grown so fast and powerful, and they have begun impacting the financial markets to such an extent that countries are passing laws to regulate them.
Strategy
Hedge fund strategy is secretive. They deal in risky assets, and when they work in tandem, they have the potential to influence global economies.
There has also been a sharp increase in fraud cases involving hedge fund advisers. This is why there is a case for regulating hedge funds.
Hedge fund regulation
Self-regulation
Hedge funds regulate themselves, and disclose the information to hedge fund investors. They spell out their investment strategies to all potential investors.
Audit
An auditor periodically checks the affairs of the hedge fund, and his report is circulated to all member investors. Many hedge funds also obtain SAS 70 (Statement on Auditing Standards, No. 70 service Organisations).
There is a document that all hedge funds follow, this includes sound practices for hedge fund managers. It is written by the Managed Funds Association, the hedge funds industry’s main trade group. This document guides on
anti-money laundering policies, net asset value determination, risk monitoring, and contains a due diligence checklist.
External regulation
Hedge funds were not regulated until recently. Different countries have different laws to regulate them. However, the main regulations are the same across the world:
1. Hedge funds, along with their advisers, must register with appropriate government institutions.
2. All registered hedge funds and their advisers must be subject to ongoing regulatory requirements relating to organisational standards, operational methods and standards, conflict of interest, conduct of business rules, disclosures made to investors and prudential regulation.
3. Institutions or brokers who provide funding to hedge funds must also be subject to registration, regulation and supervision. In addition, these lending institutions must follow appropriate risk management procedures in lending and monitoring their hedge fund debt.
4. Hedge funds, their advisers and brokers must inform the regulator about their systemic risks and any changes, from time to time.
5. Regulators across countries must have authority to share information on hedge funds.
6. Hedge funds must disclose organisational, operational and client information to regulators. They should also report about their business practices, and about the main people running the fund.