Risk & Compliance

Cox: SEC Lacks Hedge Fund Power

While recommending regulatory moves to make funds more accountable to investors, the chairman seems wary of asking for help from Congress.
David KatzJuly 25, 2006

Diffident about asking Congress to restore some of the power to regulate hedge funds that the Securities and Exchange Commission recently lost in court, SEC Chairman Christopher Cox told the Senate Banking Committee on Tuesday that he was making moves to rapidly take back at least some of the commission’s authority.

Cox was appearing in the wake of a June 23 decision by the U.S. Court of Appeals for the District of Columbia that struck down an SEC rule requiring advisers of hedge funds with at least $30 million in assets to register with the commission and thus become subject to its anti-fraud regime.

That decision has dismantled the SEC’s role as “the primary regulator of hedge fund advisors,” the chairman testified. Although the commission’s ability to bring enforcement actions against hedge funds and their managers is the same following the Goldstein v. SEC ruling, the regulator can no longer require hedge funds to register and submit to inspection, he noted.

Cox said that he intends to recommend a number of “urgent courses of action” to the full commission that the SEC can pursue without legislation. One would be to issue a new anti-fraud rule that “would clearly state that hedge fund advisers owe serious obligations to investors in the hedge funds,” he said. Others, however, would actually put back transitional breaks and exemptions for certain hedge fund advisers that were in the commission’s hedge fund rule. Cox wants to revive those provisions to protect the advisers from suddenly being in violation of SEC regulatory requirements when the court produces its final mandate in mid-August.

The chairman was surprisingly timid about suggesting that Congress pass legislation to put the commission back in the driver’s seat in terms of regulating hedge funds. When Sen. Chuck Hagel, a Nebraska Republican, asked for Cox’s advice on what legislation the committee should consider, the SEC chief replied that as a former member of Congress, he was well aware that “it is the prerogative of the legislative branch to pass legislation as you see fit.”

Cox suggested that it was still an open question whether the SEC needed added legal authority to regulate hedge funds. In its release describing the former hedge fund rule, the SEC had said that its previous regulatory regime had been “inadequate,” he noted. With the rule struck down, the SEC chairman said he was moving “very rapidly to [fill] that gap,” suggesting that he wouldn’t know whether the commission could do the job with its current powers until his recommendations had been in place for a while.

Sen. John Sununu, a New Hampshire Republican, however, was harshly critical of how the SEC had put together the former hedge fund rule. Charging that the rule wasn’t supported by empirical evidence about how it would improve performance and security, the senator said that it was no surprise that the court found the rule “arbitrary and unfair.”

Sununu suggested that the court ruling supplied a broader lesson for the commission. “The SEC should be clear and thorough about identifying a problem,” he said, “and at least make an effort to put to together some empirical data [to support the contention] that this regulation will improve the situation.”

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