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Hedge fund regulations guide 101

By Mansi gupta

The popularity gained overtime and the ever-increasing crowd of investors in the Hedge Fund industry has augmented the need for higher degree of regulation in the hedge fund market.

Hedge funds are very similar to mutual funds except that there are fewer regulations on hedge funds. As a result hedge funds require a much larger investment. Hedge funds are very reticent, that is, they are private, between individuals, and do not have to be made known to the government or other companies. This allows hedge funds to be free from the regulations that mutual funds have to adhere to. Because of this large companies move undisclosed amounts of money and gain significantly without authorities noticing. This reticent nature of hedge funds makes them look suspicious and leads to many apprehensions in the minds of the investors, such as; these funds are unethical, speculative and risky. Also their high price tag and the extravagant amount of money required for their initial purchase makes people think that the investors are being hood winked into putting money into these funds. Only ensuring high levels of transparency in the working of the hedge fund industry so that an investor knows exactly where his money is going can clear these apprehensions.

Moreover, better regulation will produce more accountable hedge fund managers in future and the investors would be able to simply research the background of a hedge fund manager before entrusting their money into his hands.

Another negative aspect of the non-regulation of hedge funds is that there are no official hedge fund statistics. Most hedge fund holders are large companies and hence, little is known about their financial movements. Hedge funds are based in offshore jurisdictions, making them look even more suspicious. For instance, unlike mutual funds that have a base in large cities like New York, hedge funds are based in places like Bermuda, Cayman Islands, and the Virgin Islands.

Hedge funds also have a higher failure rate than traditional funds. Many of them fail by the second or third year of operation. It has been estimated that about 5.7% of the existing 8500 hedge funds closed in 2005. This vulnerability to quick falls that can be detrimental and can lead to sudden losses can be brought down with the help of regulations.

In London, the techniques used for the hedge funds operating from there, have bothered the Financial Services Authority. Hence, to check the functioning of this industry, the FSA has now decided to start regulating hedge funds and their managers. Also, a special hedge fund unit has been set up to determine how the London hedge fund industry which has been estimated at 500-billion, can be controlled better.

However, the Canadian Securities Administrators that is the umbrella organization for Canada's provincial securities commissions has decided that the currently existing rules for investment vehicles are sufficient to regulate the burgeoning Canadian hedge fund industry (a $30-billion industry). This implies that no additional rules and regulations would be laid down specifically for hedge funds in Canada.

Thus, with the proper regulations in place, the clouds of suspicion and uncertainty that are hovering over the hedge fund industry will certainly clear up and would pave the way for a much safer hedge fund market that would attract a larger number of investors.
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