UK’s FSA to probe retail access to hedge funds

The UK’s Financial Services Authority (FSA) is to consult next year on widening the range of funds that can be marketed to retail investors, which should include new authorised funds of hedge funds.

This would enable retail investors, who are already gaining access to products with hedge fund investment characteristics through a variety of means, to invest in products that would be subject to the FSA's regime for authorised collective investment schemes.

At present, many independent financial advisers (IFAs) are distributing offshore fund of hedge funds products, so the FSA’s decision means more onshore funds will be invested in hedge funds, said London-based David Davies, national sales director for Opal, the alternative division of the Tilney Group. Tilney launched several funds of hedge funds products last year.

Davies, like many in the industry, is positive about the FSA’s consultation. “If the FSA does allow the marketing of funds of hedge funds to retail investors then there will be a lot more of these types of products brought to the market. This will mean more choice for investors, and that can only be a good thing.”

But it also means authorised hedge funds may not be able to use the strategies such as going short or heavy borrowing. These strategies are often employed by hedge fund managers to achieve absolute return. “All hedge funds are unregulated and based offshore,” Davies added. “We're only in the consultation period. It's too early to predict what the FSA will finally decide and how that will affect hedge fund strategy.”

Bridget Guerin, director of London-based Matrix Group, is equally optimistic. “The FSA wants to enhance investor protection,” she says. “My view is that the FSA won’t be jeopardising the investment performance by restricting hedge funds strategies.”

Matrix has five offshore funds of hedge funds, which are extensively marketed to IFAs in the UK. Guerin is confident there will be more onshore funds investing in hedge funds. She says the onshore FSA regulated versions of these funds should encourage an increase in the number of IFAs using these products for their clients. “But it is not clear how these onshore funds will be taxed,” she adds.

According to the FSA, the hedge funds will have to be regulated before being marketed to retail investors. For example, the funds would be subject to structural and operational safeguards including the requirement to have an independent depositary.

In addition, the fund of hedge funds managers will not be able to invest into all hedge funds – there will be liquidity criteria, for example, with respect to the underlying funds. This should enhance investor protection while allowing increased investor choice.