The Dodd–Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), signed into law in July 2010, provides for new or heightened regulation of a number of different areas of the financial services industry to promote the overall financial stability of the United States by addressing perceived regulatory deficiencies in the U.S. financial regulatory framework following the 2008 financial crisis. In summary, some of the specific changes that will apply to or affect hedge funds and hedge fund advisers as a result of Dodd-Frank and its implementation through the related agencies’ rulemaking programs, once such rules become final and effective, include:
- Registration and Regulation of Private Fund Advisers:
- All hedge fund advisers with $100 million or more in assets are required to register with the Securities and Exchange Commission (SEC); and
- The threshold for registration of assets under management (“AUM”) was raised from $25 million to $100 million to allow the SEC to focus on larger managers.
- Private fund advisers will be filing systemic risk information with SEC and CFTC.
- New Regulatory Regime for the Derivatives Markets:
- Counterparties, such as banks and insurance companies, that are trading over-the-counter (“OTC”) derivatives with hedge funds may be deemed a “swap dealer”, “security-based swap dealer”, “major swap participant” or “major security-based swap participant” and thus would be subject to registration with, and comprehensive derivatives regulation by, the Commodity Futures Trading Commission (CFTC) for “swaps” and by the SEC for “security-based swaps”.
- Among the many other requirements that will be imposed on regulated entities and how and where they must execute their swaps and security-based swaps with hedge funds and other counterparties, the new regulatory regime under Title VII of Dodd-Frank will require that most derivatives contracts formerly traded exclusively in the OTC market be subject to “central clearing”. Central clearing uses a clearing agency to act as a central counterparty to remove individual counterparty credit risk and distribute risk among the clearing agency’s participants that must satisfy the clearing agency’s capital and margin requirements. Moving most privately negotiated, bilateral contracts in the OTC market to central clearing and requiring real-time trade reporting would allow the regulators to see the volume of contracts trading in the market, to assess the asset classes in play, to monitor derivatives trading data and thus, to oversee risk exposures and reduce systemic risk in the derivatives markets. These new mandates would also give hedge funds and other investors access to timely information on price and other derivatives trading data.
- Addressing Systemic Stability:
- The Financial Stability Oversight Council (FSOC) was created to monitor and maintain the stability of the US financial system and to facilitate coordination and information sharing among regulatory agencies.
- All systemically significant financial companies will be subject to monitoring by FSOC.
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