U.S., U.K. Legislators Put Hedge Funds On The Defensive

Jan 28 2009 | 2:08am ET

Hedge funds took centerstage—much to their chagrin—in the corridors of power on both sides of the Atlantic yesterday.

U.S. lawmakers said there needed to be stronger oversight of hedge funds and other money managers at a Senate hearing to investigate the Bernard Madoff scandal. The Senate Banking Committee inquiry expressed a good deal of support, from members of both parties, to increase the number of enforcement personnel at the Securities and Exchange Commission.

“Seems to me we need to go back and revisit the whole model for examining fund managers,” Sen. Christopher Dodd (D-Conn.), the panel’s chairman, said. He called on the SEC to compile a report detailing what resources it believes are necessary.

But the senators did not have only charity to offer the embattled regulatory agency. The SEC representatives testifying got an earful from panel members angry over their failure to uncover the alleged $50 billion Ponzi scheme orchestrated by Madoff.

“Specific allegations were brought to staff as early as 1999, but virtually nothing was done,” Sen. Robert Menendez (D-N.J.) lectured. “You had a series of warning signs and that didn't generate anything. I don't get a sense that you can give me your promise to ensure this doesn't happen again.”

“You got two red flags. In any firm’s case, this would be enough indication that this was enough to get into,” Sen. Mark Warner (D-Va.) offered.

In her agency’s defense, Lori Richards, the director of compliance, inspections and examinations, suggested that the SEC “could use more resources.”

“I have enormous concern that we have so much information that we don't have the right ways to mine it,” Thomsen said. “We could get a long complaint that includes all kinds of info and it's all wrong; we can get a short complaint that sounds off but it could be dead on.” But she refused to comment directly on the Madoff investigation.

In London, it was hedge fund managers themselves on the defensive at a Parliamentary inquiry. Several top hedge fund executives, including The Children’s Investment Fund Management’s Chris Hohn and Marshall Wace’s Paul Marshall, and representatives testified before the Treasury Select Committee, defending industry practices, offering greater disclosure and pointing the finger over the economic crisis at others.

“There is a view that what the industry is really doing is snubbing the public and not just that, but you're making shedloads of money out of taxpayers at a time when every single penny that taxpayers put into institutions should be preserved," said Committee chairman John McFall.

In response, the industry representatives indicated their willingness to provide better transparency, possibly through prime brokerage surveillance. Marshall said he supported “special types of leverage limits” in certain cases to prevent hedge fund failures from spreading to the rest of the economy.

“If there can be agreement between the U.S. and UK authorities about what is the information to be gathered to prevent systemic risk, and how to gather it, then hedge funds stand ready and willing to provide what is asked for,” Andrew Baker, CEO of the Alternative Investment Management Association, said. But another industry leader, Antonio Borges of the Hedge Fund Standards Board, said things were much better in Britain than on the other side of the pond.

“If our standards existed in the U.S., Madoff could not have happened,” he said. Then again, only 33 hedge fund firms—out of the 400 or so in the U.K.—have agreed to the standards.

But hedge funds were only docile on some points: They vigorously rejected blame for the ongoing credit and financial crisis.

Blaming hedge funds for the troubles was like blaming the passengers in a bus crash, Marshall said. Stephen Zimmerman of New-Smith Capital Partners offered that it was “very unlikely” that hedge fund risk could cause a bank failure. Baker said that the industry “did not cause this banking crisis and indeed has been badly impacted by it.”

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