Trade groups for the world’s biggest hedge funds and private equity firms are taking the Securities and Exchange to court over new restrictions it placed on the industry last month.
The American Investment Council and the Managed Funds Association are among the groups alleging the SEC went too far by rolling out sweeping rules mandating disclosures and barring firms from doing sweetheart deals with some investors. The organizations, which also represent a swath of smaller firms, asked the court to overturn the regulations.
“The new rules would fundamentally change the way private funds are regulated in America,” the groups wrote in the petition filed with the Fifth Circuit Court of Appeals in New Orleans.
In a statement, the SEC said it “will vigorously defend the challenged rule in court.” The agency added it “undertakes rulemaking consistent with its authorities and laws governing the administrative process.”
The regulations adopted on Aug. 23 require private funds to detail quarterly fees and expenses to investors. Firms will be prohibited from allowing some favored investors to cash out more easily than others — unless those deals are offered to all fund investors. It’s the latest bid by the SEC under Chair Gary Gensler to tighten its grip on the fast-growing, multitrillion-dollar industry.
CRUX OF THE FIGHT
The rule also prohibits funds from charging investors fees to cover regulatory investigations and compliance costs, unless investors agree to the expenses. It bans funds from charging those fees if the regulatory actions result in a court- or government-ordered sanction.
“The private fund adviser rule will harm investors, fund managers, and markets by increasing costs, undermining competition, and reducing investment opportunities for pensions, foundations, and endowments,” said Bryan Corbett, chief executive of the Managed Funds Association.
The American Investment Council’s president, Drew Maloney, said that the SEC “exceeded its own authority, defied congressional design for private funds and advisers to those funds, and imposed significant new and unneeded burdens on private capital that fuels thousands of small businesses.”
The industry is arguing that the SEC lacks authority for the rule changes. Gensler has said the agency used its powers under the 2010 Dodd-Frank Act to prohibit or restrict advisers’ sales practices, conflicts of interest and compensation.
SEC CONCESSIONS
The industry groups say Congress never required such sweeping protections for private equity’s investors. They also argue that the industry’s customers are sophisticated and do not need the same protections as retail investors in mutual funds.
Buyout firms took in money at a rapid clip in the past decade as investors chased higher yields. Many firms now extend far beyond buyouts and into lending, financing critical infrastructure and funding real estate deals. The biggest alternative asset managers, including Blackstone Inc. and Apollo Global Management, have expanded their investor base beyond pensions and endowments and have been looking to manage more for insurers and wealthy individuals.
The SEC made several concessions to soften some parts of the rule, but ultimately didn’t satisfy industry concerns. The case over the rule could set a precedent over how much power the SEC has to regulate the private funds industry, which has been on edge that the regulations could mark the beginning of more rules to come.