Investment advisers to mutual funds, ETFs, and private funds are chafing under recent CFTC rule changes that may require them to register as commodity pool operators or commodity trading advisers (see “Commodity Pool Operator Rule Under Fire” on page 18). Such advisers, however, may be well positioned to explore a number of new product initiatives, some of which have been enhanced by recent legislation.
Once an investment adviser goes to the trouble and expense of registering and preparing to discharge all the functions of a commodity pool operator, it can offer a wide variety of CFTC-regulated funds. Moreover, to the extent that a fund does not invest primarily in “securities,” it could avoid registration under the Investment Company Act of 1940 (1940 Act). The Dodd-Frank Act has facilitated this by clarifying that most swaps and other derivatives, including derivatives based on broad-based securities indexes, will be regulated by the CFTC, rather than being regulated as securities by the SEC. This enables advisers that qualify as commodity pool operators to potentially offer a broader range of funds that do not bring the 1940 Act into play. For example, an ETF or other fund could, through the use of derivatives, provide investors with returns that are very similar to those of certain registered investment companies investing directly in securities.
Such an alternative fund would have the advantage of not being subject to the “moratorium” that the SEC currently is imposing on certain new registered investment companies that use derivatives and would not be subject to numerous other requirements that would apply to a registered investment company, including:
- limitations on performance fees, leverage, investment concentration, investing in securities-related issuers, and transactions with affiliates; and
- requirements for portfolio diversification, shareholder voting on various matters, and governance by a board of directors/trustees.
Offering an alternative fund would still require registration with the SEC under the Securities Act of 1933, unless the private offering exemption under Regulation D (or another exemption) were available. However, by directing the SEC to rescind Regulation D’s prohibition on any general solicitation or advertising, the recently-passed JOBS Act has made it potentially more attractive to rely on Regulation D.
Even a fund relying on Regulation D would be subject to reporting under the Securities Exchange Act of 1934 (1934 Act), if any class of its equity securities has at least 2000 holders of record. Here again, however, the JOBS Act has potentially been very helpful, by increasing this threshold for 1934 Act reporting from its prior level of 500 holders of record. (For more discussion of the relevant provisions of the JOBS Act, see “JOBS Act Lifts PPVIP Limits ” in Spring 2012 Expect Focus.)