The Hedge Fund Law Report

The definitive source of actionable intelligence on hedge fund law and regulation

Articles By Topic

By Topic: Books and Records

  • From Vol. 10 No.8 (Feb. 23, 2017)

    Top Five Compliance Deficiencies in OCIE Risk Alert Include Annual Compliance Reviews, Accurate Regulatory Filings and Custody Issues

    Each year, fund managers attempt to anticipate what new areas the SEC will focus on in its upcoming examinations. In their push to get ahead, however, those managers often fail to adequately perform many of the compliance requirements to which they have been subject for years. The SEC’s Office of Compliance Inspections and Examinations (OCIE) recently issued a risk alert (Risk Alert) which, in some respects, urges fund managers to return to the basics as it pertains to their compliance efforts. This is because the five most common compliance issues identified in deficiency letters to investment advisers by OCIE which were described in the Risk Alert include traditional duties such as maintaining proper books and records, conducting annual compliance reviews and making accurate regulatory filings. All investment advisers should review their compliance policies and procedures considering the Risk Alert to ensure they avoid the five deficiencies highlighted by OCIE. This article summarizes the compliance failures and other items covered by the Risk Alert. For a similar 2014 OCIE alert, see “OCIE Director Andrew Bowden Identifies the Top Three Deficiencies Found in Hedge Fund Manager Presence Exams and Outlines OCIE’s Examination Priorities” (Oct. 10, 2014).

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  • From Vol. 10 No.2 (Jan. 12, 2017)

    Failure to Store Electronic Records in Proper Format May Result in Regulatory Enforcement Action

    Accurate recordkeeping is one of the core duties of broker-dealers and investment advisers. FINRA recently settled enforcement actions against 12 of its members, and imposed a total of $14.4 million in fines, for their failures to store electronic records in “write once, read many” (commonly referred to as “WORM”) format, as well as other violations of SEC recordkeeping rules. For another recent FINRA enforcement proceeding involving recordkeeping violations, see “Failure to Safeguard Customer Data, Preserve Records and Properly Supervise May Expose Broker-Dealers to FINRA Enforcement Action” (Dec. 1, 2016). Private fund managers with affiliated broker-dealers should pay particular attention to this ruling. In addition, all registered investment advisers should pay heed to FINRA’s enforcement action, given that the Investment Advisers Act of 1940 imposes recordkeeping requirements similar to those that were violated in these instances. This article explores the nature of the violations and the key terms of the eight separate FINRA Letters of Acceptance, Waiver and Consent. For more on FINRA enforcement efforts, see “What the Record Number of 2016 SEC and FINRA Enforcement Actions Indicates About the Regulators’ Possible Enforcement Focus for 2017” (Dec. 15, 2016). 

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  • From Vol. 9 No.45 (Nov. 17, 2016)

    The SEC’s Recent Revisions to Form ADV and the Recordkeeping Rule: What Investment Advisers Need to Know About Retaining Performance Records and Disclosing Social Media Use, Office Locations and Assets Under Management (Part Two of Two)

    On August 25, 2016, the SEC adopted much-anticipated amendments to Form ADV, Part 1A and to Rule 204-2 (recordkeeping rule) under the Investment Advisers Act of 1940. These amendments further the SEC’s agenda to gather more information about its registrant base to inform the agency’s risk-based approach to adviser examinations. See “OCIE Director Marc Wyatt Details Use of Technology and Coordination With Other Agencies to Execute OCIE’s Four-Pillar Mission” (Nov. 3, 2016). In a two-part guest series, Michael F. Mavrides and Anthony M. Drenzek, partner and special regulatory counsel, respectively, at Proskauer Rose, review the amendments to Form ADV and the recordkeeping rule and provide practical guidance to SEC-registered investment advisers on the steps to take prior to the compliance date to ensure their firms are prepared to comply with the amended rules. This second article in the series discusses the new disclosure requirements relating to an adviser’s use of social media; office locations; the amount of an adviser’s proprietary assets and assets under management; the sale of 3(c)(1) fund interests to qualified clients; and the recordkeeping requirements regarding performance claims in communications that are distributed to any person. The first article reviewed the detailed disclosures that advisers will be required to provide with respect to managed account clients and the firm’s chief compliance officer, as well as factors to consider when pursuing an umbrella registration. For additional commentary from Proskauer partners, see “Swiss Hedge Fund Marketing Regulations, BEA Forms and Form ADV Updates: An Interview With Proskauer Partner Robert Leonard” (Mar. 5, 2015); and “Proskauer Partner Christopher Wells Discusses Challenges and Concerns in Negotiating and Administering Side Letters” (Feb. 1, 2013). For more on Form ADV, see “How Can Hedge Fund Managers Rebut the Presumption of Materiality of Certain Disciplinary Events in Form ADV, Part 2?” (Jan. 5, 2012); and “Recent SEC Enforcement Action Demonstrates the SEC’s Focus on the Accuracy and Consistency of Disclosures by Hedge Fund Managers in Form ADV” (Jan. 5, 2012).

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  • From Vol. 7 No.39 (Oct. 17, 2014)

    Derivative Actions and Books and Records Demands Involving Hedge Funds

    This article explores the use of derivative actions by investors in hedge funds, which investors may bring against hedge fund managers, and explains that where a fund is organized determines whether an investor can maintain a derivative action.  This article also discusses investor requests for books and records relating to a hedge fund, which typically precede an investor’s derivative action.  The authors of this article are Thomas K. Cauley, Jr. and Courtney A. Rosen, both litigation partners in the Chicago office of Sidley Austin LLP.  See also “Contractual Provisions That Matter in Litigation between a Fund Manager and an Investor,” The Hedge Fund Law Report, Vol. 7, No. 37 (Oct. 2, 2014).

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  • From Vol. 5 No.39 (Oct. 11, 2012)

    Sixth Annual Hedge Fund General Counsel Summit Highlights SEC Enforcement Priorities, Side Letters, Investment Allocations, Expense Allocations, Trade Errors, Record Retention, Fund Marketing, Secondaries, JOBS Act and STOCK Act (Part One of Two)

    On September 18 and 19, 2012, ALM Events hosted its Sixth Annual Hedge Fund General Counsel Summit (GC Hedge Summit) at the University Club in New York City.  Panelists, including regulators, in-house practitioners and law firm professionals, discussed topics of significant relevance for hedge fund general counsels, including: SEC enforcement priorities relating to hedge funds; the nuts and bolts of a successful hedge fund compliance program (including a discussion of side letters, investment allocations, expense allocations, trade errors and record retention); marketing of hedge funds (including a discussion of compensation of marketing professionals and the Jumpstart Our Business Startups (JOBS) Act); secondary market transactions in fund shares; and the Stop Trading on Congressional Knowledge Act of 2012 (STOCK Act) and its implications for the gathering of political intelligence.  Our coverage of the GC Hedge Summit is provided in two installments.  This first installment covers the session addressing the nuts and bolts of a successful compliance program and the session addressing marketing of hedge funds and secondary market transactions in hedge fund shares.  The second article will cover the session discussing the SEC’s enforcement priorities and the session discussing the implications of the STOCK Act for the gathering of political intelligence by hedge fund managers.  See also “Political Intelligence Firms and the STOCK Act: How Hedge Fund Managers Can Avoid Potential Pitfalls,” The Hedge Fund Law Report, Vol. 5, No. 14 (Apr. 5, 2012).

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  • From Vol. 5 No.35 (Sep. 13, 2012)

    SEC Commences Administrative and Cease and Desist Proceedings against Hedge Fund Adviser for Failing to File Form ADV Updates and Maintain Required Books and Records

    The Securities and Exchange Commission (SEC) has issued an order commencing administrative and cease and desist proceedings against a registered investment adviser and its principal.  The SEC alleges various violations of the Investment Company Act of 1940 and the Investment Advisers Act of 1940 arising out of, among other things, the adviser’s failure to maintain required books and records relating to its service as a registered investment adviser to a registered investment company (Fund); failure to file Form ADV updates; failure to file Form ADV-W when its client ceased to be a registered investment company; and failure to supply information to the Fund’s board of directors.  This article summarizes the relevant terms of the SEC’s order, with emphasis on the violations of the Form ADV filing requirements and the books and records requirement.

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  • From Vol. 4 No.33 (Sep. 22, 2011)

    SEC No-Action Letter Outlines Alternative Recordkeeping Regime for Compliance with the Pay to Play Rule

    On July 1, 2010, the SEC adopted Rule 206(4)-5 (Pay to Play Rule) under one of the antifraud provisions of Investment Advisers Act of 1940 (Advisers Act).  See “How Should Hedge Fund Managers Revise Their Compliance Policies and Procedures and Marketing Practices in Light of the SEC’s New ‘Pay to Play’ Rule?,” The Hedge Fund Law Report, Vol. 3, No. 30 (Jul. 30, 2010).  The Pay to Play Rule generally prohibits registered or unregistered investment advisers, including hedge fund managers, from providing advisory services for compensation to a government client (such as a public pension fund) for two years after the adviser or certain of its employees or third-party solicitors make a contribution to certain candidates or elected officials.  See “Key Elements of a Pay-to-Play Compliance Program for Hedge Fund Managers,” The Hedge Fund Law Report, Vol. 3, No. 37 (Sep. 24, 2010).  Simultaneous with the adoption of the Pay to Play Rule, the SEC amended the recordkeeping rules under the Advisers Act to, as explained in the adopting release, “allow [the SEC] to examine for compliance with new rule 206(4)-5.”  On examinations, see “Legal and Practical Considerations in Connection with Mock Examinations of Hedge Fund Managers,” The Hedge Fund Law Report, Vol. 4, No. 26 (Aug. 4, 2011).  While the general prohibition on pay to play practices of the Pay to Play Rule applies to registered and unregistered investment advisers, the related recordkeeping requirements only apply to registered investment advisers, as the SEC noted in footnote 405 of the adopting release.  Specifically, the SEC amended the recordkeeping rules to require registered investment advisers to maintain books and records containing lists or other records of four categories of information, each of which is described in detail in this article.  On September 12, 2011, the Investment Company Institute (ICI) – the mutual fund industry trade group – submitted a letter (Incoming Letter) to the SEC’s Division of Investment Management (Division) requesting no-action relief from specified provisions of the recordkeeping requirements related to the Pay to Play Rule.  In particular, the Incoming Letter noted that investment advisers are having difficulty complying with relevant recordkeeping requirements where the presence or identity of government plan investors in omnibus accounts cannot be reliably determined.  The ICI proposed an alternative recordkeeping regime that would address the identified transparency issues.  This article details: the four relevant recordkeeping requirements; the four prongs of the ICI’s proposed alternative recordkeeping regime, and the rationale for each; the SEC’s no-action letter; and the application of the no-action letter itself and the analysis in the letter to hedge funds and hedge fund managers.

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  • From Vol. 4 No.19 (Jun. 8, 2011)

    How Can Hedge Fund Managers Avoid Criminal Securities Fraud Charges When Allocating Trades Among Multiple Funds and Accounts?

    All hedge fund managers that manage multiple funds and accounts – which is to say, the vast majority of hedge fund managers – have to draft, implement and enforce policies and procedures governing the allocation of trades among those funds and accounts.  Where those funds and accounts follow explicitly different strategies, the appropriate approach to allocations is relatively straightforward.  For example, if a manager manages an equity long/short fund and a credit fund, equities go to the equity fund and bonds go to the credit fund.  But where multiple funds and accounts may be eligible to invest in the same security, the appropriate approach to allocations is more challenging.  For example, if a manager manages an equity long/short fund and an activist fund and purchases a block of public equity, how and when should the manager determine how to allocate the block between the two funds?  While the specifics of an allocations policy will depend on the manager’s fund structures and strategies, some general principles and proscriptions apply.  As for principles, an allocations policy should be equitable, should take into account the size and strategies of various funds, should provide a mechanism for correcting allocation errors and should give the manager an appropriate degree of discretion in making allocation determinations.  As for proscriptions, the boundaries of “appropriate discretion” in this context generally are set by the anti-fraud provisions of the federal securities laws and principles of fiduciary duty.  In other words, you cannot allocate trades in a manner that constitutes securities fraud.  How might trade allocations constitute securities fraud?  A recent SEC order (Order) answers that question; and a prior criminal indictment (Indictment, and together with the Order, the Charging Documents) and plea arising out of the same facts raises the frightening prospect that in more egregious circumstances, fraudulent trade allocation practices may constitute criminal securities fraud.  This article explains the facts and legal violations that led to the Order, Indictment and plea, then discusses the implications of this matter for hedge fund managers in the areas of trade allocations, marketing, disclosure on Form ADV and creation and maintenance of books and records.  In particular, this article discusses: why the cherry-picking scheme at issue in this matter was not just a bad legal decision, but also a bad business decision; two types of cherry-picking; whether and in what circumstances cherry-picking may lead to criminal liability; how the sometimes purposeful vagary of criminal indictments can subtly expand the reach of white collar criminal liability; whether disclosure can cure trade allocation practices that are otherwise fraudulent; the compliance utility of technology; conflicts of interest inherent in one person serving as chief compliance officer and in other roles; whether post-trade allocations are ever permissible; how hedge fund managers can test the sufficiency of their trade allocation policies; how trade allocation policies interact with the transparency rights sometimes granted to larger hedge fund investors; and the idea of “cross-fund transparency.”

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