SEC Checking for Fraud in Hedge Funds, Pitt Says
Washington, May 24 (Bloomberg) -- The Securities and Exchange
Commission is reviewing whether there is fraud in the $500 billion
hedge-fund industry following several enforcement cases involving
the funds, SEC Chairman Harvey Pitt said.
``We are concerned about the implications flowing from the
growth in these private investment funds,'' Pitt said in a speech
to the Investment Company Institute, which represents the mutual-
fund industry.
The review, being overseen by the SEC's investment-management
unit, may lead to tighter controls over the largely unregulated
funds, he said. Hedge funds don't have to report their finances to
the government, and SEC information about them ``is sketchy,''
Pitt said.
As Americans accumulated wealth in the '90s boom, hedge funds
sought to broaden their appeal. The funds, which were designed for
wealthy investors and typically seek more speculative investments,
began trying to attract less wealthy, and perhaps less
sophisticated, investors. This worries regulators because lack of
regulation leaves the funds more exposed to fraud.
The SEC action comes as the agency is coping with the
accounting deceptions of Enron Corp. and its auditor Arthur
Andersen LLP, and has opened a broad probe of possible fraud by
Wall Street stock analysts.
``The aftermath of Enron and Arthur Andersen have left
Americans in all walks of life understandably shocked and repulsed
by conduct that, however the ultimate legalities are resolved, is
completely unacceptable,'' Pitt said.
Conflicts of Interest
The SEC inquiry, in addition to looking for signs of fraud,
also will look at any conflicts of interest involving fund
companies that operate hedge funds and mutual funds, Pitt said.
Alliance Capital Management LP and American Express Asset
Management are among the fund companies that operate both types of
funds.
Alliance and American Express didn't respond to requests for
comment.
The SEC review also will look at how the funds are marketed
to individual investors, Pitt said. Indications of fraud will be
referred to the SEC's enforcement unit for further investigation
and possible charges, SEC spokeswoman Christi Harlan said.
Hedge funds, which had record net inflows of $31 billion last
year, have doubled to $500 billion since 1998. In the past, hedge
fund managers often demanded that investors deposit at least $1
million. Now, some traditional money-management companies such as
Montgomery Asset Management are opening hedge funds with much
lower minimums.
Two former SEC enforcement attorneys questioned the wisdom of
focusing on hedge-fund oversight.
New rules ``may serve to put a chill on a burgeoning
industry,'' said New York lawyer Ron Geffner, a former SEC
enforcement attorney. Seth Taube, a Newark, New Jersey lawyer,
called Pitt's effort ``a step back from the goal of encouraging
capital formation by reducing legal obstacles to fund formation.''
Concern About Rules
The SEC has cracked down on a number of hedge fund operators
in recent months.
Michael W. Berger, whose Manhattan Investment Fund lost $400
million in four years, pleaded guilty in November 2000 to hiding
losses from bad bets on Internet stocks by doctoring brokerage
statements. He is now a fugitive, and was 31 years old in March
when he failed to show up for sentencing.
Mark Yagalla was sentenced to five years in prison and
ordered to refund $32 million to investors after the collapse of
his Ashbury Capital Partners LP hedge fund. Yagalla, who was 24
when sentenced in February, lured investors with promises of an 80
percent return while using their money to buy a helicopter,
million-dollar homes and gifts to his Playboy Playmate girlfriend.
Marketing Fees
Separately, the SEC also will examine its rule governing
mutual funds' marketing and distribution fees, Pitt said. These
fees, which were supposed to be temporary, have become a permanent
supplement to, or substitute for, sales charges, he said.
``If (mutual funds) are using those assets to create
additional benefits for themselves, that's always going to be an
issue of conflict that we have to look into,'' he said.
Pitt also said the SEC next week will consider authorizing
exchange-traded funds that match the returns of various fixed-
income indexes. These ETFs, which are similar to mutual funds
though their shares trade all day like stocks, are growing in
popularity. The Nasdaq Stock Market has said it plans to start
listing a handful of ETFs, including one that mimics the Nasdaq
Composite Index, in an attempt to compete with the American Stock
Exchange.
The SEC also will soon propose rules extending the number of
items that companies have to disclose immediately, he said. Pitt
has previously said the SEC plans to add 15 types of new
information to this list, including waivers of ethics rules such
as those granted by Enron Corp.'s board for off-the-books
partnerships.
Pitt also said today that the SEC may propose rules to foster
``active and appropriately structured'' audit committees. |
