Regulation of Hedge Funds (1/3)

Hedge funds has become an important regulatory agenda in the past few years, especially after the LTCM incident. The recent collapse of Amaranth Advisors has made this topic hot again. Hedge fund is attractive in terms of the pursuit of "absolute return", flexible investment strategies and the low correlation to the overall market. But it is sometimes viewed as a mysterious monster which could disturb the markets from time to time.

In US and UK, hedge funds are only made available to private and institutional investors. Therefore the regulatory concern is not investor protection but the market impact. In the case of Amaranth, despite the size of loss (US$6 bn), the financial markets were not extensively affected. This may reflect the improved risk management measures taken by the market practitioners.

In HK, though a segment of hedge funds are made available to retail investors, most of the hedge fund managers licensed by SFC are managing private hedge funds. Obviously SFC's focuses are put on the internal control and risk management issues of both hedge fund managers and prime brokers.

Yesterday SFC banned Mr Charles Lee Schmitt from re-entering the industry for life for misappropriating client assets and being convicted of false accounting. This is the well-known case initiated by the report of directors of Charles Schmitt & Associates that Schmitt was suspected of misappropriating client assets from the CSA Absolute Return Fund. SFC found that Schmitt diverted the investors’ subscription proceeds for the Fund for his own use. He was charged with offences under the Theft Ordinance and now waiting for sentence.

SFC has just released a survey report on hedge funds managed by SFC licensed fund managers. I will comment on it tomorrow.