Hedge Fund managers are often called Investment Advisors as well. Because of the advisory role they play in guiding and counseling institutional investors, by law, they are treated as managers who are client-focused. Therefore, while a Hedge Fund’s compliance with rules and regulations drafted by external bodies is strictly managed by the government. There are internal forces that regulate how the Fund is working 24/7.
1. Internal Chief Compliance Officer
One mandatory requirement that all Hedge Funds have to fulfil is having a Compliance Officer hired and working full time on the management team. Every SEC-registered Hedge Fund makes sure that the Chief Compliance Officer is contacted in every investment and has an impartial say in the day-to-day working of the Fund.
Having a CCO is not only beneficial for regulation, it is also a necessary step to make sure that institutional investors are also satisfied that the Fund is doing everything to comply with rules and safeguard their resources. For this reason, it is often suggested that the compliance officer be made part of the Fund at its inception.
Doing so will make the system foolproof and will lead to surety when deciding on portfolio balance, investor selection and where investments are made in the market. If, however, compliance is not inculcated from the beginning, hiring external auditors cannot only be expensive; it can also mean a complete revamp of the investment plan.
A CCO’s duty is three folds. It includes:
- Making sure that the Investment Advisors serve investors just as they have been promised.
- Making sure that the Investment Advisor engages in activities that are in-line with the relevant laws laid down by the government and other law making bodies.
- Making sure that the system in place keeps the clients fiduciary duties a top priority.
For the smooth running of the Fund, from the perspective of the CCO, a compliance manual has to be consulted. This manual details how and when trade activities, proxy voting, material review, cross trading and surveillance of trading should be carried out. This manual usually outlines all the policies that a Hedge Fund has to follow, including something as small as gifting and entertaining clients do.
Once a compliance system has been put in place, in accordance with the manual, the Chief Compliance Officer has to train employees to use this system. As an ongoing practice, he is responsible for monitoring and documenting compliance or noncompliance of investment activities in the light of this system.
2. External Compliance Counseling
Compliance counselling is a business area that has fast become popular among Hedge Funds. Those funds who do not have a CCO on board often take expert services from agencies that offer Compliance Counselling. Such counselling covers multiple areas that are part of a Hedge Fund’s daily operation. These include:
- Product and investment service compliance
- Insider Trading compliance
- Trading restrictions, best practices and due diligence
- Active investment compliance for mergers and acquisitions
- Filing of forms like 13D, 13G, 13F and CFTC large trader
- Altering and modifying the existing compliance system
3. Annual Compliance Reviews
Annual reviews are conducted to measure the level of compliance and noncompliance within the Hedge Fund Industry. These reviews are performed in light of the Investment Advisor’s Act to make sure all clauses are being met by Hedge Fund owners and advisors.
All the above rules and regulations for Hedge Funds are specific to the nature of these investment houses. While the SEC and FCA grant room for reasonable doubt and explanation, any Fund found guilty of noncompliance on purpose is dealt with in extreme terms.