I refrained a day in the hopes that the Wall Street Journal or the New York Times would report on this story, but I again find myself in the position of turning to the Financial Times.
This story, “Warning on hedge funds’ conflict of interest,” discusses that international regulators are concerned about hedge funds ability to cheat investors by fudging on the valuation of complex instruments. “Conflict of interest” increasingly stands for “opportunity to take more than your share.”
It is noteworthy that this is perceived to be serious (common?) enough to warrant intervention. Regulators for the most part have taken a hand’s off approach to hedge fund regulation.
From the FT:
The International Organisation of Securities Commissions (Iosco) said valuations of the complex instruments used by many hedge funds could put the interests of managers and their investors at odds.
Valuation of the increasingly complex futures, options, structured credits and over-the-counter derivatives used by hedge funds is a major issue for investors in the $1,500bn hedge fund industry. Incorrect valuations can mean investors buy units in a fund at too high a price, lose out when they sell or pay too much to managers in performance fees. “The manager may have both the incentive and the ability to influence the valuation of the financial instruments in the portfolio in ways that do not reflect their value,” Iosco said…
The main suggestions are that hedge funds should draw up policies for valuing investments, ensure they are used properly and apply them as independently as possible. Valuation methods should also be made clear to investors – who many regulators now regard as the best way of policing the largely offshore industry.
Mr Waters said having independent administrators, as is the norm in Europe, could help, but was not demanded by the committee because many investments were too complex for external administrators to understand and so value properly.
The complexity of some structured debt or over-the-counter derivatives used by hedge funds can make the hedge fund manager the best placed to give a valuation – creating conflicts of interest…..