June 18, 2010, 11:50 AM EDT
By Tom Cahill and Saijel Kishan
June 18 (Bloomberg) -- Hedge-fund managers and investors gathered in Monaco this week said an overhaul of the U.K.’s financial regulator and new rules proposed by the European Union may prove as hard to navigate as volatile financial markets.
“The survival instincts that many hedge-fund managers have in markets they’re also going to have to display in facing up to regulatory challenges,” Rick Sopher, managing director of LCF Edmond de Rothschild Asset Management Ltd., which has invested in hedge funds for more than four decades, said at the GAIM International conference. “They’re going to be subject to some really rash and nasty regulation.”
U.K. Chancellor of the Exchequer George Osborne said June 16 that he will abolish the Financial Services Authority and give most of its power to the Bank of England, undoing the regulatory system set up by Gordon Brown in 1997. European lawmakers next month plan to release the final draft of the Alternative Investment Fund Management Directive that would limit borrowing by hedge funds and private-equity firms.
The rules will also likely restrict European investors’ access to hedge funds based outside the 27-nation nation bloc.
“More regulation will increase the cost of doing business for existing managers and barriers to entry for new managers,” said Cedric Kohler, head of the hedge-fund advisory business at Lombard Odier Darier Hentsch & Cie., a Geneva-based private bank. “The industry could experience a higher proportion of managers going out of business.”
Witch Hunt
French President Nicolas Sarkozy and German Chancellor Angela Merkel called on Europe this month to speed up curbs on financial speculation, saying some bets against stocks and government bonds should be banned as markets suffer a resurgence of volatility. Germany last month banned some naked short- selling, or betting against a security without ever being in possession of it.
“The real issue is the pressure politicians put on regulators to look for scapegoats, and clearly this is an industry that has been scapegoated,” said Bernard Oppetit, chairman of Centaurus Capital Ltd., a London-based hedge-fund firm. “There’s an enormous witch hunt going on and pressure to find victims. We have to be prepared for very harsh measures.”
Overnight changes in regulation, such as Germany’s attempt to restrict wagers against sovereign debt, are disruptive, said Michael Novogratz, president and co-founder of Fortress Investment Group LLC in New York, which manages $30.2 billion.
Fortress is less concerned that European governments will have trouble repaying debt than with “the real risk that Angela Merkel could change the rules,” Novogratz told the conference. “It’s made all those risks higher -- you have to put them into your calculations.”
Reputational Risk
The political climate has complicated investing in hedge funds by institutions such as pension funds, conference speakers said.
“The reputational risk, rightly or wrongly, is an issue,” Mike Powell, who is investing 2 billion pounds ($2.96 billion) in as many as 30 hedge funds for the U.K.’s Universities Superannuation Scheme Ltd., said at the conference. “If something goes wrong in a hedge-fund portfolio, it gets a lot more publicity.”
Many hedge-fund managers are starting Ucits, funds known by the acronym for Undertakings for Collective Investment in Transferable Securities, because the regulatory framework is more stable.
“The big trend we’re seeing in Ucits is at least partly triggered by regulators pushing on hedge funds,” according to Aarnout Snouck Hurgronje, a director at Paris-based AXA SA’s fund-of-funds business, who said European investments in hedge funds have “dried up.” “Ucits at least have the regulators stamp of approval on it.”
Unwanted Distraction
European politicians aren’t alone in stepping up regulations. U.S. lawmakers are proposing to require hedge funds that manage more than $100 million to register with the Securities and Exchange Commission, subjecting them to audits, and to provide information on trades so authorities can assess systemic risk. European managers may face more new regulation than their counterparts in the U.S.
“I would rather invest in U.S. or Asian hedge funds than European because they aren’t going to be subject to the changes,” said Marie-Claude Bernal, who runs a Boston firm that invests for wealthy families. “European managers are going to spend all their time worrying about new regulations.”
Byron Wien, vice chairman of New York-based Blackstone Group LP’s advisory-services division, said hedge-fund returns will suffer as managers try to cope with added regulation.
“The more time a manager has to spend on these issues the more he’s distracted from his real purpose, which is making money,” Wien said.
‘Forced Purchases’
The regulatory changes show policy makers are frustrated with their inability to influence financial markets and reverse deflation that’s making it harder to pay down government debt, said Hugh Hendry, founder of Eclectica Asset Management, a London-based hedge-fund firm. “The next step is to ban speculation.”
Rothschild’s Sopher said he expects “once a quarter” that regulators will try to show they’re tough on hedge funds with aggressive and public enforcement actions, such as the FSA’s pre-dawn raid of Moore Capital Management LLC trader Julian Rifat’s house in March, as part of an insider-trading inquiry. There will be more bans on short-selling and other measures deemed politically offensive, he said.
“From there it’s just a short mental step to forced purchases of government bonds for institutions and limitations on paper gold trading,” Sopher said.
--Editors: Larry Edelman, Rob Williams
To contact the reporters on this story: Tom Cahill in London at tcahill@bloomberg.net; Saijel Kishan in New York at skishan@bloomberg.net;
To contact the editor responsible for this story: Christian Baumgaertel in Boston at cbaumgaertel@bloomberg.net
From Bloomberg Businessweek published on June 18, 2010, 11:50 AM EDT
