Green Light for Hedge-Fund Ads Means Caution on Main Street

Date: Tuesday, April 17, 2012
Author: Ian Salisbury, The Wall Street Journal

Thanks to a little-noticed provision tucked into the just-signed jobs bill, hedge funds may soon be making a bold move into marketing—and the mainstream.

The JOBS Act, signed by President Obama on April 5, lifted a decades-old restriction on how hedge funds can go after new investors, clearing the way for managers to speak more publicly about their strategies and performance and even to advertise.

As private investment vehicles, hedge funds aren't required to meet the same disclosure requirements and risk restrictions as ordinary mutual funds. In return, they may deal only with experienced, high-net-worth investors, and have long been banned from marketing themselves to the general public.

Lifting those marketing restrictions is potentially a major move, but not everyone thinks it is a great development for average investors.

"As a hedge-fund manager, I'm delighted, but I'm not sure it's in the best interest of the public," says Andrew Lo, professor at MIT and chairman of AlphaSimplex Group, a $2.3 billion investment firm.

The law gives the Securities and Exchange Commission 90 days to revise 80-year-old rules that prohibit advertising and other communications by hedge funds and private-equity firms. The new guidelines will establish exactly how funds can solicit customers. "The staff are still in the process of analyzing the bill's provisions," SEC spokesman John Nester said via email.

The bill—backed by the White House and passed with broad bipartisan support—already has opened a new front in the long-running battle between the investment industry and consumer advocates, who contend the measure wasn't subject to public discussion.

Supporters of the bill "talked about helping companies raise money," says Barbara Roper, director of investor protection for the Consumer Federation of America. "Not one word was said during the debate about the effect on hedge funds—and I followed it pretty obsessively."

The $2 trillion hedge-fund industry still will face restrictions. To qualify, for example, investors still will need to prove they have at least $1 million in investible assets or make more than $200,000 a year. And even some consumer advocates contend the current rules are draconian, preventing fund managers from putting basic information on their websites and even chatting with reporters about strategies or performance for fear the comments get interpreted as solicitation.

"People are spending a tremendous amount of time worrying, 'Can I email this document to this person?'" says Judith Gross, a hedge-fund-compliance consultant.

While hedge funds rose rapidly in the past two decades, their ability to attract new investment dollars stalled during the financial crisis and has been slow to recover. High fees and mediocre performance have kept some large investors like pensions and endowments away.

Meanwhile, the $24 trillion mutual-fund industry has been introducing products designed to mimic hedge-fund investing tactics, while big brokerages often boast of their ability to secure access to hedge funds for clients. The new law gives hedge funds the ability to compete directly for these investors.

But many worry that by marketing to the general public, hedge funds will lure people into investments that are too risky for them. Some critics also say that Washington should be getting tougher on investment advertising, not easing back.

Wake Forest School of Law Professor Ahmed Taha argues much mutual-fund advertising already exploits the tendency of investors to rely heavily on past results and other factors that may not be the best indicators of where they should put their money. The new law "adds a whole new set of funds that are going to do the exact same thing," he says.