The International Organisation of Securities Commissions has published for public consultation a document entitled Proposed Elements of International Regulatory Standards on Funds of Hedge
The International Organisation of Securities Commissions has published for public consultation a document entitled Proposed Elements of International Regulatory Standards on Funds of Hedge Funds Related Issues Based on Best Market Practices. The deadline for responses to this consultation paper is January 5 next year.
The proposals are aimed at managers of funds of hedge funds and seek to address regulatory issues of investor protection in light of the increased involvement of retail investors in hedge funds through funds of hedge funds.
These proposals were drawn up following Iosco’s June report on funds of hedge funds, which highlighted the methods by which fund of hedge funds managers deal with liquidity risk, and the due diligence processes undertaken by managers before and during the life of an investment.
In dealing with liquidity risk, the proposed standards would require fund of hedge funds managers to make reasonable enquiries in order to be in a position to consider whether the liquidity of their funds of hedge funds’ liquidity was consistent with that of the underlying hedge funds, particularly in order to meet redemptions.
The consultation document proposes that before investing, and during the investments’ lifetime, managers should consider the liquidity of the types of the financial instruments held by the underlying hedge funds.
If introducing limited redemption arrangements, managers should consider whether these are consistent with the fund of hedge funds’ aims and objectives, and ensure that their operation complies with the conditions defined in the proposals. In addition, before and during any investment managers should consider whether conflicts of interest may arise between any underlying hedge fund and any other relevant parties.
Due diligence processes should be carried out prior to any investment being entered into and on a continuous basis following the commitment. The paper divides these into elements requiring constant monitoring and analysis by the manager, establishing and implementing appropriate due diligence procedures, assessing the specific legal and regulatory requirements applicable in the hedge fund’s jurisdiction, and carrying out appropriate due diligence on the underlying hedge fund whenever it is considered necessary.
Fund of hedge fund managers should have adequate resources, procedures and organisational structures, documented and traceable procedure for selecting hedge funds, appropriately skilled staff and adequate technical resources to implement the due diligence procedures, and the capability within the organisation to deal with any anomalies identified.
If a fund of hedge funds manager wishes to outsource any aspect of its due diligence, the Iosco proposals recommend that they should ensure that any conflicts of interest are adequately addressed, and assess the extent to which outsourcing of due diligence is consistent with Iosco’s principles on outsourcing of financial services for market intermediaries.
