Liquid alts get warning from SEC's Norm Champ

SEC official tells alternative mutual funds to define principal strategies for investors

Oct 29, 2014 @ 11:43 am

By Mark Schoeff Jr.

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An alternative mutual fund may consider a number of ways to exceed market returns, but it should identify the ones it's most likely to use, a Securities and Exchange Commission official told members of the industry on Wednesday.

Norm Champ, director of the SEC's Division of Investment Management, said the agency is noticing that funds are providing a laundry list of strategies in their disclosure forms. In practice, they may only use a handful of them. That kind of “disconnect” will draw the SEC's attention because it could mislead investors about the risks they're taking with the funds.

“If we find gaps between what you told us you're going to do and what you're doing, that could become an issue,” Mr. Champ said at a Securities Industry and Financial Markets Association conference in New York. “You've got to make sure retail investors have enough information to make an informed decision about what they're buying, and that's particularly true with respect to alternative mutual funds and complex strategies.”

Alternative mutual funds employ investments and strategies above and beyond traditional long stock and bond holdings to try to produce returns uncorrelated to the overall market. They've become increasingly popular as a way to diversify portfolios. At the end of September, alternative mutual funds had $282 billion in total assets. At the end of 2013, they represented 2.3% of the fund market but accounted for 32.4% of fund inflows for the year.

Although the SEC has not indicated it is contemplating regulations related to alternative mutual funds, the regulator has made clear that they are an area of concern.

Wednesday's speech was the third that Mr. Champ has given on the investment vehicles over the last year. In June, he spoke about the value, liquidity and leverage risks they pose. In September, he outlined potential compliance problems for managers of alternative and traditional funds, as they try to enter each other's segment.

On Wednesday, Mr. Champ underscored that disclosure is not a one-and-done activity. In a dynamic market, alternative strategies can frequently be adjusted, making the original disclosure — and the risk profile — outdated. Funds need to make disclosure an “ongoing review.”

“You've got to make sure you match your disclosure to what you're actually doing,” Mr. Champ said.

The popularity of alternative mutual funds will grow, industry representatives said at the SIFMA conference.

“We'll see it as a common part of portfolios,” said Michael Dworacek, a director and head of investment product support at Bank of America Merrill Lynch.

Another industry official predicted it might take seven years for alternatives to become “mainstream products” because investment advisers and brokers, as well as investors, need time to learn more about them.

“In the interim, we have a pretty significant education hurdle,” said Gary Wendler, managing director and head of product development at Invesco. “We're spending a lot of time and effort on that and will continue to do so.”


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