In a recent speech at the Institutional Limited Partners Association Summit, SEC Chair Gary Gensler announced that he had instructed SEC staff to consider recommending new rules that would increase “efficiency, competition and transparency” in the private fund industry.[1] Gensler noted that private funds currently manage approximately $17 trillion in gross assets and play a crucial role in capital markets and the overall economy, and therefore “… it’s time we take stock of the rapid growth and changes in this field…, and bring more sunshine and competition to the private funds space.”

Fees and Expenses

Gensler stated that in light of the fact that private fund managers charge multiple layers of fees (management and performance fees and expenses at the fund level and often other fees charged at the portfolio company level), the SEC should promote additional transparency to give investors consistent and comparable information to allow them to make informed investment decisions. He also noted that while mutual fund fees have generally declined over time, there does not appear to have been a similar reduction for private funds. Therefore, Gensler has asked the SEC staff to consider what recommendations they can make to bring greater transparency to private fund fee arrangements.

Side Letters

Gensler noted the increasing use of side letters to allow different investors to participate in private funds on varying terms. While acknowledging that some side letter terms are “benign,” others create preferred fee rates, liquidity terms or disclosures, which “… can create an uneven playing field among limited partners based upon those negotiated terms.” Gensler has asked the SEC staff to consider recommendations regarding how to strengthen transparency regarding side letters, or whether certain side letter provisions should not be permitted.

Performance Metrics

Gensler referenced the debate regarding whether private equity funds outperform the public markets and noted that while there was a significant amount of standardized, public information regarding mutual fund performance, similar information about private funds generally was less available, “…not only to the public, but even to the investors themselves.” Therefore, he has asked the SEC staff to consider how the SEC can enhance private fund performance transparency.

Fiduciary Duties and Conflicts of Interest

Gensler also discussed his concerns around market integrity for private funds. He noted that some general partners seek waivers at the state level of their fiduciary duties to investors and that many limited partners have concerns about these waivers. Gensler reiterated that a private fund adviser has a federal fiduciary duty to the fund under the Advisers Act, and this duty may not be waived, regardless of the sophistication of the client. Gensler has asked the SEC staff how the SEC can better mitigate the effects of conflicts of interest between general partners, their affiliates and investors, which could include considering the need for prohibitions on certain conflicts and practices.

Form PF

Finally, Gensler noted the central role Form PF performs in providing information about private fund activities to regulators and stated his belief that the form’s requirements may need to be updated. Therefore, he has asked the SEC staff for recommendations regarding enhancing reporting and disclosure through Form PF or other reforms in order to ensure that the SEC and other financial regulators have the information they need to protect markets and investors.