Speaking in a public hearing of the European Parliament’s Economic and Monetary Affairs Committee on 8 April, FSA Director of Retail Policy and Sector Leader for Asset Management Dan Waters said the FSA’s analysis of current market conditions did not suggest the need to “modify in any way” its approach to hedge fund regulation. He insisted the FSA was not complacent and would continue to apply its regulatory tools “diligently” and would continue to expect “the highest standards of risk management and market behaviour from hedge funds.”
Outlining the FSA’s “risk-based” approach to regulation, Waters explained that the FSA had recently formed a specialist supervisory hedge fund team that oversees 35 of the largest hedge fund managers, which conducts regular visits and risk assessments. Smaller hedge fund managers, he said, are supervised “through proactive projects and firm visits, and reviews of regulatory returns and other data.”
A key focus of regulation for the FSA, said Waters, was the interaction between hedge funds and prime brokers. Therefore, as part of its supervision, the FSA now conducts a six-monthly survey of the 15 banks that have the largest exposure to hedge funds in order to “gauge the risk appetite of both hedge funds and prime brokers. He also pointed out that banks and hedge fund investors have a lot at stake in hedge funds and therefore have the incentive to monitor hedge funds “over and above any measures required by regulators.”
Responding to a current EU Working Paper on hedge fund regulation, Waters rejected the Paper’s assertion that hedge funds “operate in the shadows” and are largely unregulated. In fact, he said, most hedge funds are managed by FSA-regulated managers who transact on regulated exchanges. As a result, Waters said he did not see the need for hedge funds to provide greater disclosure to investors and counterparties. However, he said the FSA did “strongly agree” with the need to disclose preferential side letters and that the FSA would be focusing its supervisory attention on this.
In concluding, Waters argued that hedge fund regulation should not be the same as that for other financial institutions as, unlike banks, for example, they “do not pose a systemic risk to stability.” Furthermore, said Waters, hedge fund investors are overwhelmingly institutional or sophisticated investors who should bear the responsibility of their decisions.
To read the full speech, click here: Hedge Funds and Private Equity.