On January 26, 2011, the SEC proposed rules requiring registered private fund investment advisers to report certain information to the Financial Stability Oversight Council (FSOC) to assist in identifying and addressing systemic risks to our financial system.
The FSOC was established by the Dodd-Frank Act for a three-fold purpose: first, to identify threats to the financial stability of the United States financial system; second, to promote market discipline; and third, to respond to emerging risks to the United States financial stability. The proposed rule outlines information required to be provided to the FSOC.
The proposed rule would create reporting obligations for, among other entities, any registered investment adviser advising one or more private funds. All advisers will file the required information on a new form, Form PF; however, the specific obligations vary depending on the size of the fund. To simplify matters, the proposal separates private fund advisers into two categories, large and small private fund advisers.
Large private fund advisers
This group includes any adviser with regulatory assets under management of $1 billion or more in a hedge fund, “liquidity fund” (i.e. unregistered money market fund), or private equity fund. Due to their size, these advisers must file reports more frequently (quarterly) and with more detailed information than small private fund advisers.
Form PF will be comprised of four sections:
To prevent duplication, where a fund is sub-advised, only one entity must file Form PF. Also, advisers may, but are not required to, report the private fund assets it and its related persons manage on a single Form PF.
Section 1 applies to all private fund advisers, and will request basic fund information such as the fund name, assets under management, leverage ratios, credit providers, investor concentration, percentage of assets managed by computer-based algorithms and fund performance. Section 1 will also include information about fund strategy, counterparty credit risk and the fund’s use of trading and clearing mechanisms.
Section 2. Only large private fund advisers are required to complete section 2, which requests more detailed, aggregate information, including monthly financing data, exposure by assets class, geographical concentration and turnover. Additionally, the adviser must state whether the fund has a policy to comply with the Rule 2a-7 of the Investment Company Act (concerning registered money market funds).
Section 3. Section 3, required for each managed hedge fund with net asset value greater than $500 million, asks for the fund’s investments, leverage, risk profile and liquidity.
Section 4. Finally, Section 4 applies only to private fund advisers managing at least $1 billion in private equity fund assets. Section 4 asks primarily for the extent of leverage incurred by the fund’s portfolio companies, the use of bridge financing and the fund’s investments in financial institutions.
Small private fund advisers
All other advisers to private funds are considered small private fund advisers. The reporting obligations for these advisers are considerably less. First, the adviser must only file Form PF annually. Additionally, these advisers are only required to provide the basic information required by section 1.
Notably, the rule proposal only creates reporting obligations for registered investment advisers. Thus, those advisers relying on the registration exemptions created by the Dodd-Frank Act (and subsequently proposed by the SEC) are not required to file Form PF. The SEC believes these advisers pose little systemic risk, and information obtained by exempt reporting advisers on Form ADV is sufficient to meet the FSOC’s goals.