SEC Unveils Reforms for Private Fund Advisers

Private fund advisers have long enjoyed a light touch from U.S. regulatory authorities. However, the Securities and Exchange Commission is moving to ensure those days come to an end.

The SEC announced on August 23 that it adopted new reforms aimed at ramping up transparency in the market for private funds. Going forward, private fund advisers registered with the SEC must provide quarterly statements disclosing metrics such as fees, expenses and performance. The reforms also include a requirement that private fund advisers provide investors with annual audits of the financial statements of the funds they advise, along with a fairness opinion or valuation opinion.

“By enhancing advisers’ transparency and integrity, we will help promote greater competition and thereby efficiency,” said SEC Chair Gary Gensler in announcing the reforms.

Additionally, the new rule will prohibit what the SEC called “preferential treatment” given to some investors when it comes to redemptions and information. If such actions would have a “material, negative effect on other investors,” they are prohibited, according to the commission. Finally, the rule outlaws actions on the part of private fund advisers that are seen as “contrary to the public interest and the protection of investors.”

On the one hand, the SEC’s announcement probably won’t have private fund advisers doing any celebrating. When you’re accustomated to being left alone by regulators, any new rules are going to feel onerous. On the other hand, as the law firm Barnes & Thornburg LLP pointed out in a memo, the results could have been much worse for the private fund sector: The SEC watered down some of the changes it originally proposed 18 months ago; others were cut out of the final version entirely.

The SEC’s announcement drew a predictably mixed reaction from Democrats and Republicans on Capitol Hill. Sherrod Brown, the Democratic senator of Ohio who heads up the Senate Committee on Banking, Housing and Urban Affairs, hailed the move as one that would “help protect workers’ pensions and create a more transparent and accountable private funds market.” Conversely, House Financial Services Committee Chairman Patrick McHenry (R-North Carolina) decried the new rule as an example of the SEC overstepping its bounds. “By applying a framework designed for retail funds used by everyday investors to private funds, this rule fails to acknowledge the differences between these markets,” McHenry said. (It bears mentioning that the financial services industry was a key source of campaign financing for McHenry during the last election cycle.)

Notably, the new rule also drew opposition from inside the SEC, too. The agency’s Republican-appointed commissioners, Hester Peirce and Mark Uyeda, voted against the proposal.

If and when a Republican takes over the Oval Office again, these reforms stand a good chance of getting dumped. Until then, though, private fund advisers seeking to get the rule nixed will have to mount a legal challenge to the SEC’s action.