Clamp on hedge funds to shield investors

INVESTORS dabbling with high-risk hedge funds should be better protected from losing their money under new rules drawn up by the corporate watchdog.

By InvestSMART · 19 Sep 2012

By InvestSMART ·
19 Sep 2012

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INVESTORS dabbling with high-risk hedge funds should be better protected from losing their money under new rules drawn up by the corporate watchdog.

The Australian Securities and Investments Commission will force hedge fund managers from June to be more up front about how and where they invest money, and the risks involved.

The rules come three years after the $176 million collapse of Trio Capital, in what was the biggest superannuation fraud in Australian history.

Trio invested money in two hedge funds, Astarra Strategic and ARP Growth, which then siphoned the cash to Caribbean tax havens.

ASIC commissioner Greg Tanzer said the rules had been influenced by the Trio case, as well as the watchdog's review of several hedge funds since the global financial crisis.

"Hedge funds, because of their diverse investment strategies and use of leverage and offshore investments, can pose more diverse and complex risks for investors than traditional managed investment schemes," he said.

"Given the risks for retail investors associated with investing in hedge funds, disclosure needs to provide retail investors with all the information they require to make an informed investment decision."

Hedge fund managers use higher-risk investment techniques including derivatives, short-selling and borrowing funds in the hope of generating a higher return for investors.

Many were caught up in the financial crisis, particularly those that owned US subprime mortgage debt and related securities.

At the heart of ASIC's new rules are plans to make the product disclosure statements of hedge funds clearer and easier to understand.

They set out nine areas for hedge funds to provide clear information on, including how its investment strategy works the investment manager's experience the fund's structure types of assets held, how they are valued and where they are located. The type of derivatives used by the fund, the use and risks of short selling and the ease of withdrawals will also have to be detailed.

Hedge funds will be expected to provide independent valuations of non-exchange traded assets and regular reports to investors about important basic information.

Earlier this year, a parliamentary inquiry accused corporate regulators, including ASIC, of failing to do enough to prosecute the people behind Trio's collapse or recover money owing to investors.

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Frequently Asked Questions about this Article…

What new ASIC hedge fund rules are being introduced and when do they start?

ASIC will require hedge fund managers from June to be more upfront about how and where they invest money and the risks involved. The rules focus on clearer product disclosure statements and better ongoing reporting to protect retail investors.

Why has ASIC tightened disclosure for hedge funds?

The changes were driven by the $176 million collapse of Trio Capital and ASIC's review of hedge funds since the global financial crisis. The rules aim to address failures exposed by those events and better protect everyday investors from complex hedge fund risks.

What kinds of risks do hedge funds pose for retail investors?

Hedge funds can pose diverse and complex risks compared with traditional managed funds because they use strategies like leverage, derivatives, short‑selling, borrowing and offshore investments. ASIC says those features can increase the potential for loss for retail investors.

What information must hedge funds include in their product disclosure statements (PDS)?

ASIC's guidance asks hedge funds to provide clear information across nine areas, including how the investment strategy works, the investment manager’s experience, the fund’s structure, types of assets held, how assets are valued, where assets are located, the types of derivatives used, the use and risks of short selling, and how easy withdrawals are.

Will hedge funds need independent valuations and regular reporting to investors?

Yes. Hedge funds will be expected to provide independent valuations of non‑exchange traded assets and give investors regular reports containing key basic information about the fund.

How did Trio Capital, Astarra Strategic and ARP Growth influence the new rules?

Trio Capital invested in two hedge funds, Astarra Strategic and ARP Growth, which then redirected investor funds to Caribbean tax havens. The $176 million collapse of Trio — Australia’s largest superannuation fraud — helped prompt ASIC to tighten disclosure and oversight of hedge funds.

How will clearer hedge fund disclosure help everyday investors make better decisions?

Clearer disclosure gives retail investors the essential information they need—strategy details, manager experience, asset types and locations, valuation methods, derivative and short‑selling use, and liquidity terms—so they can better understand risks before investing.

What should I check in a hedge fund PDS before investing as a retail investor?

Look for plain‑English details about the fund’s investment strategy, the manager’s track record, the fund’s legal structure, the kinds of assets held and where they are located, how non‑traded assets are valued (including independent valuations), any derivatives or short‑selling used, and how easy it is to withdraw money.