Wednesday, May 11, 2011

Hedge Fund Industry Supports SEC Approach of Applying Beneficial Reporting Rules to Security-Based Swaps in Implementing Dodd-Frank

The hedge fund industry supports the SEC’s proposal to readopt without change existing rules regarding beneficial ownership reporting requirements and to preserve the application of such rules to security-based swaps. In a letter to the SEC, the Managed Funds Association said that, in enacting Dodd-Frank, Congress wanted to allow for the same determinations of beneficial ownership as currently exists but wanted to be explicit in its application to security-based swaps.

Dodd-Frank Section 766 added Section 13(o) to the Exchange Act to provide that for Sections 13 and 16 a person will be deemed to acquire beneficial ownership of an equity security based on the purchase or sale of a security-based swap, only to the extent that the SEC, by rule, determines after consultation with the prudential regulators and the Secretary of the Treasury, that the purchase or sale of the security-based swap provides incidents of ownership comparable to direct ownership of the equity security.

The SEC proposes to preserve the existing scope of rules relating to beneficial ownership after Section 766 becomes effective and to readopt without change Rules 13d-3(a), 13d-3(b), 13d-(d)(1). Given the nature of the proposal, the MFA believes that the Commission’s consultation with the prudential regulators and Treasury need not be extensive. But if the SEC seeks to adopt further rules under section 13(o), said the MFA, it should commence a more formal and public consultation with the prudential regulators and Treasury prior to issuing a proposed rule.

In the proposing release, the SEC references a separate project to develop proposals to modernize reporting under Exchange Act beneficial ownership provisions. The MFA noted that reporting issues with respect to Schedules 13D and 13G do not exist in a vacuum but are part of a broader regulatory framework including proxy and tender offer rules, and other aggregate and position level transparency reforms. They also raise a host of interrelated issues concerning the relationships among corporate management and shareholders, the market for corporate control, secondary market capital allocation and price discovery.

Given all this, the MFA urged the Commission to consider whether modernization efforts as they relate to Section 13(d) and 13(g) should follow rather than precede already existing initiatives including, without limitation, proxy reform, swaps market structure reform, broader security clearing and systemic risk initiatives, investment adviser registration and other transparency initiatives, which will further inform the discussion.