Hartley Bernstein, a New York investor attorney, warns that individual investors could suffer significant losses if hedge funds continue to fail because of reliance on illiquid investments.
July 20, 2007 (Press Release) --
New York lawyer, Hartley T. Bernstein, is calling on federal officials to take more aggressive action to protect investors against the fallout from hedge fund failures. Mr. Bernstein offered his views in an article published on StockPatrol.com, which is widely-recognized as a leading watchdog of the investment community.
“Investors, and the agencies that are there to protect them, need to become aggressive advocates for reform. The investment community cannot simply hold its collective breath and hope that hedge fund perils fade,” Mr. Bernstein warns. He urges regulators to act decisively by demanding meaningful transparency. And he urges investors to “be vigilant, insist on accurate disclosure, hold fund managers to proper standards, and take prompt action where it is necessary to protect their rights and investments.”
Mr. Bernstein’s comments were in response to recent testimony by U.S. Treasury Under Secretary for Domestic Finance, Robert Steel. On July 11th, Under Secretary Steel told the U.S. House of Representatives Committee on Financial Services that steps need to be taken to reduce the likelihood that a “systemic risk event” could occur in “the private equity pools of capital industry.” Mr. Steel’s remarks to Congress are particularly timely considering the disastrous demise of two Bear Stearns hedge funds that bet on the sub prime mortgage market and lost big.
But while these observations may be opportune, Mr. Bernstein warns that efforts to address “systemic” problems may be far too late to help investors who have felt, or are about to feel, the effects of improvident hedge fund positions. “Hedge funds have been Wall Street’s superstars,” Mr. Bernstein noted. “They helped fuel growth and allowed the investment community to forget the pains of the dot com disaster.” Now, however, that run could be coming to an end. Unfortunately, any systemic collapse of hedge funds could dwarf dot com losses.
Hedge funds have proliferated at an astonishing pace, reportedly doubling over the past five years, capturing an estimated 50% of current trading volume, and accounting for approximately $1.4 trillion in assets. As Mr. Bernstein pointed out in an earlier article on StockPatrol.com, the Bear Stearns fund failures may simply be the opening act. See, Is The Sky Falling? “Sub prime mortgages may continue to drag fund values downward – but they represent only one of the myriad illiquid investments that hedge funds have found so appealing,” Bernstein points out. New esoteric financial products and the use of leverage have increased risk for the funds and their investors.
And fund valuation remains problematic. Hedge fund managers are typically rewarded based upon fund value, so inflated asset values can trigger higher fees. If assets are illiquid their value can be illusory – particularly when it comes time for them to be sold.
“Virtually every investor has a right to be concerned,” Mr. Bernstein pointed out, since massive hedge fund failure would be likely to trigger a disaster for the broader market. Smaller investors may be directly impacted by hedge fund problems as well. As Mr. Bernstein noted in a June 26th article on StockPatrol.com, “with cash flowing freely in recent years, a broad range of investors have jumped into hedge funds and their promise of even greater riches. Institutional investors, including pension funds and endowments reportedly have increased their investments in hedge funds and other less liquid instruments.”
The government would appear to be painfully aware of that trend. As Under Secretary Steel noted, “some concerns exist about indirect exposure of less sophisticated investors to hedge funds through their pension fund investments.” Consequently, he pointed out, “investment fiduciaries, such as pension funds managers, have a responsibility to perform due diligence to ensure that their investment decisions on behalf of their beneficiaries and clients are prudent and conform to established sound practices consistent with their responsibilities.”
The federal government, according to Steel’s testimony, encourages hedge funds to provide accurate, timely information to investors. But, in an apparent nod to hedge fund managers, who thus far have avoided many of the rigors of regulation, he stopped short of calling for full disclosure that might “materially discourage innovation in the marketplace.” As Mr. Steel, put it, “we need to respect sensitive proprietary information, and individual positions should not necessarily be expected to be disclosed.”
Is that enough? “No,” insists Mr. Bernstein. “Five years ago it would have been sufficient to appoint a study group to examine the problem,” he explained. “Two years ago it might have been sufficient to seek comment on new disclosure requirements,” he added. But now we are at the 11th hour, some funds are failing, others have suspended investor withdrawals, and storm clouds are gathering. Fund managers should not have to reveal every dollar invested or each strategy employed, but fund participants should be fully aware of the specific types of investment vehicles that are being employed. Without detailed disclosure, including the nature of positions and the method of valuation, investors will remain in the dark until they are surprised by a crisis that jeopardizes their holdings.” The extent of proprietary positions or investor concentration can be a critical element of the due diligence process. As Mr. Bernstein notes, participants in the Horizon ABS Fund might have been far less sanguine about the liquidity of their money if they had been aware that a single investor accounted for a quarter of the fund’s purported $650 million in assets.
The government appears to see the potential pitfalls and problems – and to recognize that regulators have the ability to check abuses under existing anti-fraud statutes. But those laws often address failure to disclose material information – and hedge funds are subject to few traditional disclosure obligations. Mr. Bernstein offered words of caution. “Until transparency means investors get a clear, unobstructed view of hedge fund investments, the picture will remain opaque, and the prospect of that “systemic event” will continue to loom large.”
Hartley T. Bernstein is a New York-based attorney who specializes in securities litigation and has represented numerous investors before the federal and state courts and in arbitration proceedings before the NASD.
New York lawyer, Hartley T. Bernstein, is calling on federal officials to take more aggressive action to protect investors against the fallout from hedge fund failures. Mr. Bernstein offered his views in an article published on StockPatrol.com, which is widely-recognized as a leading watchdog of the investment community.
“Investors, and the agencies that are there to protect them, need to become aggressive advocates for reform. The investment community cannot simply hold its collective breath and hope that hedge fund perils fade,” Mr. Bernstein warns. He urges regulators to act decisively by demanding meaningful transparency. And he urges investors to “be vigilant, insist on accurate disclosure, hold fund managers to proper standards, and take prompt action where it is necessary to protect their rights and investments.”
Mr. Bernstein’s comments were in response to recent testimony by U.S. Treasury Under Secretary for Domestic Finance, Robert Steel. On July 11th, Under Secretary Steel told the U.S. House of Representatives Committee on Financial Services that steps need to be taken to reduce the likelihood that a “systemic risk event” could occur in “the private equity pools of capital industry.” Mr. Steel’s remarks to Congress are particularly timely considering the disastrous demise of two Bear Stearns hedge funds that bet on the sub prime mortgage market and lost big.
But while these observations may be opportune, Mr. Bernstein warns that efforts to address “systemic” problems may be far too late to help investors who have felt, or are about to feel, the effects of improvident hedge fund positions. “Hedge funds have been Wall Street’s superstars,” Mr. Bernstein noted. “They helped fuel growth and allowed the investment community to forget the pains of the dot com disaster.” Now, however, that run could be coming to an end. Unfortunately, any systemic collapse of hedge funds could dwarf dot com losses.
Hedge funds have proliferated at an astonishing pace, reportedly doubling over the past five years, capturing an estimated 50% of current trading volume, and accounting for approximately $1.4 trillion in assets. As Mr. Bernstein pointed out in an earlier article on StockPatrol.com, the Bear Stearns fund failures may simply be the opening act. See, Is The Sky Falling? “Sub prime mortgages may continue to drag fund values downward – but they represent only one of the myriad illiquid investments that hedge funds have found so appealing,” Bernstein points out. New esoteric financial products and the use of leverage have increased risk for the funds and their investors.
And fund valuation remains problematic. Hedge fund managers are typically rewarded based upon fund value, so inflated asset values can trigger higher fees. If assets are illiquid their value can be illusory – particularly when it comes time for them to be sold.
“Virtually every investor has a right to be concerned,” Mr. Bernstein pointed out, since massive hedge fund failure would be likely to trigger a disaster for the broader market. Smaller investors may be directly impacted by hedge fund problems as well. As Mr. Bernstein noted in a June 26th article on StockPatrol.com, “with cash flowing freely in recent years, a broad range of investors have jumped into hedge funds and their promise of even greater riches. Institutional investors, including pension funds and endowments reportedly have increased their investments in hedge funds and other less liquid instruments.”
The government would appear to be painfully aware of that trend. As Under Secretary Steel noted, “some concerns exist about indirect exposure of less sophisticated investors to hedge funds through their pension fund investments.” Consequently, he pointed out, “investment fiduciaries, such as pension funds managers, have a responsibility to perform due diligence to ensure that their investment decisions on behalf of their beneficiaries and clients are prudent and conform to established sound practices consistent with their responsibilities.”
The federal government, according to Steel’s testimony, encourages hedge funds to provide accurate, timely information to investors. But, in an apparent nod to hedge fund managers, who thus far have avoided many of the rigors of regulation, he stopped short of calling for full disclosure that might “materially discourage innovation in the marketplace.” As Mr. Steel, put it, “we need to respect sensitive proprietary information, and individual positions should not necessarily be expected to be disclosed.”
Is that enough? “No,” insists Mr. Bernstein. “Five years ago it would have been sufficient to appoint a study group to examine the problem,” he explained. “Two years ago it might have been sufficient to seek comment on new disclosure requirements,” he added. But now we are at the 11th hour, some funds are failing, others have suspended investor withdrawals, and storm clouds are gathering. Fund managers should not have to reveal every dollar invested or each strategy employed, but fund participants should be fully aware of the specific types of investment vehicles that are being employed. Without detailed disclosure, including the nature of positions and the method of valuation, investors will remain in the dark until they are surprised by a crisis that jeopardizes their holdings.” The extent of proprietary positions or investor concentration can be a critical element of the due diligence process. As Mr. Bernstein notes, participants in the Horizon ABS Fund might have been far less sanguine about the liquidity of their money if they had been aware that a single investor accounted for a quarter of the fund’s purported $650 million in assets.
The government appears to see the potential pitfalls and problems – and to recognize that regulators have the ability to check abuses under existing anti-fraud statutes. But those laws often address failure to disclose material information – and hedge funds are subject to few traditional disclosure obligations. Mr. Bernstein offered words of caution. “Until transparency means investors get a clear, unobstructed view of hedge fund investments, the picture will remain opaque, and the prospect of that “systemic event” will continue to loom large.”
Hartley T. Bernstein is a New York-based attorney who specializes in securities litigation and has represented numerous investors before the federal and state courts and in arbitration proceedings before the NASD.
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