Despite all the noise coming from lawmakers calling for increased regulatory oversight of hedge funds, many involved in the nearly $2 trillion industry don't think that regulators are ready, willing or able to try to get their arms around this increasingly diverse investment category.
"I just don't see the SEC doing anything on hedge funds in the near future," said Ryan Tagal, director of alternative investments at Morningstar Inc. in Chicago.
The efforts by companies such as Morningstar to build a
hedge fund database to track the industry are, according to him, the closest hedge funds are likely to come to oversight.
Meanwhile, Mr. Tagal and others think that the industry will continue to grow and evolve into one that is more corporate and could in some ways start to resemble the mutual fund industry.
"I think the number of new hedge funds might slow down from the pace we've seen over the past several years," he said.
BIGGER COMPANIES
"But I also think you will start to see the emergence of bigger hedge fund companies that will be more like mutual fund companies, which could start launching smaller hedge funds to gain assets," Mr. Tagal said.
The total number of hedge funds and funds of hedge funds exceeded 10,000 at the end of March, according to Hedge Fund Research Inc. of Chicago.
That number represents an increase of 206% from the end of 1998 and 1,568% since the end of 1990 when HFR counted just 530 individual hedge funds and 80 funds of funds.
The current breakdown includes 7,601 hedge funds and 2,572 funds of funds.
HFR estimates total hedge fund assets at the end of March at $1.9 trillion, reflecting a 400% increase since 1998 and a 4,700% increase from 1990 when the industry was measured at $39 billion.
"From time to time, there will to be calls for regulation from people who like to use hedge funds as a scapegoat for whatever is wrong at the moment," said Phillip Goldstein, principal of Bulldog Investors General Partnership, a Saddle Brook, N.J.-based hedge fund.
"It's like a witch hunt, and there will be calls indefinitely for hedge fund regulations, but it's not clear if it will ever get enough traction," he added. "To me, there's nothing in the hedge fund industry that needs fixing."
Despite his main focus of managing $500 million, regulatory oversight is something with which Mr. Goldstein has become quite familiar.
In addition to leading the charge a year ago to overturn an Securities and Exchange Commission rule requiring most hedge fund managers to register as investment advisers, he is challenging regulators on issues related to the reporting of portfolio holdings, and rules regarding marketing and advertising.
"Regulation is the opposite of a free market," Mr. Goldstein said. "My impression is that most funds of funds are better than any regulator at conducting due diligence, which is why I don't believe compliance to any rule is a substitute for integrity."
Talk of regulatory oversight of the hedge fund industry is nearly as old as hedge funds, which have been around for almost 70 years.
Some say the attention on oversight will continue to ebb and flow with market cycles and the occasional spectacular hedge fund implosion.
Others make the case that the increased focus on oversight is in stride with increased access by retail-class investors.
"It's reaching a point where there is tremendous interest in hedge funds and there's a lot more convergence between alternative and traditional investments," said Russ Lundeberg, chief investment officer at Barrett Capital Management LLC, a Midlothian, Va.-based multifamily office with $125 million under management.
"I'm sure there will be more pushes and pulls with regard to regulatory oversight," he added. "And I also think there will be more alternative strategies showing up within mutual funds, but there will also continue to be private-
investment vehicles like hedge funds."
While efforts are in place to increase the net worth minimum for individuals to invest in hedge funds, the average retail investor is already, for the most part, kept out of the hedge fund marketplace in the United States.
Increasingly, that is not the case in Europe and parts of Asia, where aggressive regulatory efforts are paving the way for wider distribution of some alternative investments, according to Margaret Gilbert, managing director of Greenwich (Conn.) Alternative Investments.
"Here in the U.S., the average retail investor is prohibited from having access to an asset class that provides downside protection, but in Europe, the regulators have deemed these products suitable for retail investors," she said.
Ironically, as regulators in the United States wring their hands for ways to protect retail investors from hedge funds, regulators outside the United States are finding ways to regulate hedge funds enough to make them more suitable for retail investors, Ms. Gilbert said.
This trend, she said, is already driving more U.S. hedge fund managers to launch offshore funds in an effort capture some of the non-U.S. investor assets.
According to Greenwich research, 60% of all hedge funds are domiciled outside the United States, compared with 40% in 1995.
"They're all focused outside the U.S. because that's where all the growth is coming from," Ms. Gilbert said. "I don't think the U.S. regulatory environment is open to European-style regulations."
Even though the U.S. market is still likely a long way from any increased regulatory oversight of hedge funds, the biggest concern shouldn't be about the small-time individual investor, according to Mark Palmer, a partner at the New York law firm Bracewell & Giuliani LLP.
"The SEC has gotten dinged by trying to approach hedge funds from these oblique angles," he said. "These are huge pools of capital, and the risk to investors is limited to their investment, but the risk to the system can be extraordinary, which is why I believe more regulations are likely, but they will probably be the kind of regulations we see for bank holding companies."
E-mail Jeff Benjamin at [email protected].
