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Hedge Fund Registration and Beyond

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One-Size-Fits-All Compliance Comes up Short

February 27, 2006

The hedge fund advisers now facing Securities and Exchange Commission oversight for the first time are about to learn a lesson that is obvious to more-seasoned regulated entities: Compliance is not going to be a cookie-cutter process, especially in a private-investments segment that is unfamiliar with regulation and does not have standard business practices to fall back on. Nor is the regulation going to be static; changes will have to be monitored and incorporated into policies to which packaged, off-the-shelf compliance programs will not be flexible enough to adjust.

That was the message from a January panel discussion on corporate best practices at the Lipper-HedgeWorld Fund Services Expo in New York. That creates a fertile market opportunity for law firms and other service providers who understand the complexities of hedge funds and SEC regulations, but even consultants and system vendors advised caution.

"There are a lot of lawyers and consultants out there who do a wonderful job creating tailored programs," said Kate Dressel, president of Strategic Compliance Solutions, a consulting firm with offices in Connecticut and the U.S. Virgin Islands. "But there are plenty of others who will just hit the print button and run off a template for you," she warned. "You would be amazed at how many firms think they have a fully compliant manual, only to find out that because it isn't tailored to their business, they've obligated themselves to things that don't apply to them, or they aren't doing things they should."

Gregory Woolf, CEO of Boston-based Vantage Reporting, which had just introduced a series of modular software components designed to make hedge fund advisers and other private-investment managers more manageable and flexible, said: "A significant area of vulnerability is not knowing when and how future compliance guidelines will be enforced. Large firms with expansive legacy systems and smaller firms with shrink-wrapped solutions that do more than they need will struggle to accommodate new guidelines. Companies will need to isolate and customize different parts of their infrastructures to avoid costly systemwide overhauls."

At the SEC's first national chief compliance officer (CCO) outreach program for investment advisers on Nov. 8, 2005, SEC chairman Christopher Cox conceded the difficulty of applying a homogeneous set of rules to the widely varied hedge fund space. "You all have different client bases, different advisory services, different areas of investment expertise and different organizational structures," said Cox. "In fact, that is why we need on-the-ground compliance professionals in the first place."

HedgeWorld panelist Gerald Ranzal, partner in charge of financial services clients for New York-based accounting firm Anchin Block & Anchin, said that under Cox, the SEC is intent on taking the industry's diversity into account as it applies the adviser-registration requirements to hedge funds. That could accommodate, for example, the "rent-a-cop" concept, in which a single CCO could support multiple funds.

Dressel advises hedge funds to seek out attorneys, compliance consultants and vendors whose core competencies can help them quickly and cost-effectively craft a program that can be implemented alongside the internally designated compliance point person. She said the program should be scalable and include documented processes that give step-by-step instructions on what needs to be done by topic, such as proxy voting and e-mail retention.