SEC Staff Advises in Wake of Hedge Fund Adviser Ruling

Buried in a no-action letter response is important interpretive guidance from the SEC staff on matters that have arisen since a federal appeals court struck down the SEC’s hedge fund adviser registration rule. In the wake of the Goldstein ruling, which the SEC will not appeal, the staff has provided broad guidance to the advisory community through the vehicle of responding to a request from the American Bar Association.

The staff advised that it will not recommend enforcement action if a hedge fund adviser that registered as a result of the SEC's rules withdraws its registration in reliance on the exemption provided by section 203(b)(3), regardless of whether the adviser held itself out to the public while it was registered and had more than 14 clients, counting each private fund as a single client, while it was registered.

The SEC's rules created a limited transition exception from the requirement that registered investment advisers maintain certain records that demonstrate the calculation of their performance information that is used in advertising. The staff advised that it will not recommend enforcement action if an investment adviser that registered as a result of the SEC's hedge fund adviser rules does not maintain the books and records required by rule 204-2(a)(16) as long as the adviser meets the terms and conditions of vacated rule 204-2(e)(3)(ii).

The SEC provided a grandfather provision when it adopted the hedge fund adviser rules to allow for existing advisory agreements on performance-based compensation for advisers that had to register as a result of the rules. The staff will not recommend enforcement action against a registered hedge fund adviser that receives performance-based compensation to the extent that the adviser would have been exempt from the prohibition on receiving such compensation under vacated rule 205-3(c)(2) or (3).

The staff also confirmed that the substantive provisions of the Investment Advisers Act do not apply to offshore advisers who remain registered with the SEC with respect to their dealings with offshore funds and other offshore clients. Offshore advisers must comply with the Act and other rules with respect to any U.S. clients they may have.