When hedge funds go online

By Felix Salmon
July 11, 2013
ending the ban on "general solicitation" by hedge funds.

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Many people are worried about the fact that the SEC has finally got around to ending the ban on “general solicitation” by hedge funds. The Reuters story alone features a host of unhappy characters: Heath Abshure, the president of the North American Securities Administrators Association; Democratic SEC commissioner Luis Aguilar; Senator Carl Levin; Barbara Roper, the investor protection director at the Consumer Federation of America. All of them have pretty much the same view: the job of the SEC is to protect consumers from being fleeced by cunning hedge funds, and now those cunning hedge funds will have more ability than ever to fleece the unsuspecting public.

But it seems to me that this is one of the least objectionable parts of the JOBS Act, and in fact is likely to help individual investors much more than it hurts them. There is a downside, of course: if you have a million dollars to spare and are the kind of person who’s easily persuaded by fast-talking snake-oil salesmen on the telly, then you might wind up writing an ill-advised big check. But then again, if you have a million dollars to spare and are the kind of person who’s easily persuaded by fast-talking snake-oil salesmen, then you’re probably on the speed-dial list of all manner of such people already — selling not only hedge funds but even more hazardous instruments like penny stocks.

It may or may not turn out to be true that the hedge funds that advertise turn out to have lower returns than the ones which don’t; right now, the evidence is pretty thin. But as Dan Primack says today, the very lack of any kind of solicitation is already being used as a kind of reverse-psychology marketing exercise: it confers an aura of exclusivity. If you’re not convinced how powerful that aura can be, just ask Bernie Madoff.

Which is exactly why the general-solicitation ban was such a bad idea: it worked against the kind of transparency which ultimately works to the benefit of all investors. Markets are good because they’re transparent, and make prices public. Sites like Yahoo Finance are good because they extend that transparency to mutual funds, making apples-to-apples comparisons very easy. The opaque 2-and-20 crowd, on the other hand, is worrisome in large part because managers are enjoined from making simple public statements about what they’re doing. Yes, hedgies are by their nature a pretty secretive bunch. But in large part that’s because their compliance officers tell them they have to be.

The result is that there’s no easy way to get basic data on any given fund, or fund manager — its performance, its assets under management, that kind of thing. Instead, there’s a shadowy universe of funds, investors, and journalists, all passing around quarterly letters and performance information like so much samizdat.

Once this new rule comes into effect, all that changes. At that point, it will be entirely reasonable to expect all funds to have a simple website, featuring answers to the basic questions most investors want to know. No one’s forcing them to put up such things, of course, but in a few months, failure to have a website will start looking like an affectation — will look, indeed, as though the fund manager in question has something to hide.

The point is that while the term “general solicitation” is likely to call to mind overproduced television ads in the middle of golf tournaments, the much more important and interesting implications of yesterday’s move are going to take place online. And the great strength of the internet is that it privileges hard information over branding campaigns and the like.

We live in a world where if something isn’t online, it may as well not exist. The first and often the last place that people research anything and everything is the internet: it’s orders of magnitude more powerful and useful than any other database in the world. But when an individual is considering an investment in a hedge fund, the chances are that a Google search will not serve them well at all. The result is that they have to start trusting humans instead — their broker, who might be steering them into a particular “opportunity”, or maybe someone representing the hedge fund directly. Either way, the individual is working from a position of weakness, passively receiving only the information that the sales person wants them to see.

Once funds start being able to put information online, however, all that is likely to change. If a broker phones me up and pitches me Hedge Fund A, for the first time I’m going to have the ability to see what alternatives are out there, and I’ll be able to ask smart questions about why A rather than B or C or D. Alternatively, I might find no online presence for Hedge Fund A at all, which will start being something of a red flag.

What’s more, we’re living in a world where hedge funds are increasingly mistrusted; a bit of openness and transparency will help their cause a great deal. You still need to be an accredited investor to buy in to these vehicles, but anybody at all should be able to visit their sites, look at their numbers, see what they have to say about themselves, maybe even read their blogs and follow their tweets.

For me, that’s the most exciting part of the new world: compliance officers are no longer going to ban hedge-fund managers from joining in the conversation on Twitter, under their own names. As a result, the quality of conversation on Finance Twitter is bound to improve, and smart hedgies are going to realize that Twitter can become the perfect marketing platform for them. If I follow someone on Twitter who seems consistently smart and ahead of the market curve, that’s going to be much more effective, in terms of getting me to invest with them, than any glossy marketing solicitation or television ad.

None of this is going to happen overnight. But if you concentrate on hedge-fund ads as opposed to their broader online presence, I think you’re going to be missing the main effect of yesterday’s action. The ads might get more media attention — but it’s the websites, and the Twitter accounts, which are going to be much more important over the long term.

Comments
7 comments so far

Hedge funds on Twitter, eh, Felix?

Allow me to suggest something even more important for investors to appreciate:

Mean reversion.

http://www.businessweek.com/articles/201 3-07-11/why-hedge-funds-glory-days-may-b e-gone-for-good#p1

Posted by crocodilechuck | Report as abusive

I don’t agree that having a website with information that would be considered a “general solicitation” will become the expected norm. Per Dan Primack’s column from yesterday on the topic -
http://finance.fortune.cnn.com/2013/07/1 0/sec-votes-to-let-hedge-funds-advertise  /?iid=SF_TS_Lead – there are additional verification and filing requirements for any firm that engages in general solicitation. (Items 2, 3, and 4 on Dan’s list.) My read is that a firm is only subject to these requirements if it solicits, so there’s still an incentive not to do so.

Posted by realist50 | Report as abusive

1)This isn’t just about hedge funds. It is also about start-ups.
2)You don’t have to have a million dollars to invest. You just have to have $200,000 in income.
3) General solicitation isn’t necessarily transparent. It can take forms (email, phone solicitation, letters) that aren’t at all transparent.
4) None of this explains why the SEC couldn’t have done a balanced rule that benefited issuers and investors alike.

Posted by BLNR | Report as abusive

One of the problems with the new rule is that it allows potential investors to self-certify that they meet the accredited investor standard. There’s a lot of potential for abuse there.

Posted by linda53 | Report as abusive

Basically, the hedge fund operators are running out of suckers and need to recruit more. There’s a billboard east of town here that is a perfect harbinger for when to get out of an asset. In 1999 it was pushing stock ownership. In 2006 it was pushing real estate as an investment. I expect some hedge fund reseller to post up there any day now.

Posted by Kaleberg | Report as abusive

@linda53 – no, it is actually the opposite. Under current rules, investors self-certify that they are accredited investors. Under the new rules, issuers need to take “reasonable steps” – presumably looking at investors’ tax returns to verify income or investors’ financial statements of some sort to verify net worth. I believe that the current rules still apply if issuers do not solicit generally, which is another reason not to solicit generally.

Angel investors have already expressed opposition to having to provide financial information to issuers – http://www.pehub.com/2013/07/16/angel-gr oup-displeased-new-sec-rules/ . I sympathize with their position, as I wouldn’t want to have to provide my complete personal financial information to an issuer just so that I can make an investment.

Posted by realist50 | Report as abusive

You should ask an attorney who has no self-interest in this, thus is not trawling for clients (neither defendants nor plaintiffs). That won’t be easy to accomplish, as most attorneys are unwilling to comment on matters, in an idle, conjectural sort of way, without heavy disclaimers to ward off tort-esque lawsuits.

I know of an attorney who follows Reg. D and the JOBS Act as a hobby interest. I suggest digging up his blog posts about it. You could start here

He has attorney-friends who comment on blog posts. You might glean further insight there. The Volokh Conspiracy, a cabal of blogging law professors, is also a good source for this sort of thing.

No, I am not a paid endorser, spammer, shill or what-have-you. Felix can vouch for my lack of affiliation with any organization, nor advocacy of anyone, other than Franklin Delano Roosevelt and the Internet Archive.

Posted by EllieK | Report as abusive
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