From: Gene Dongieux
Mr. Brent J. Fields, Secretary U.S. Securities and Exchange Commission
Re: Release No. IC-31933; File No. S7-24-15;
Dear Mr. Fields,I am a principal for of Ariadne Wealth Management, an SEC-registered investment advisory firm. While Ariadne is only some 16 months old, managing 125 million for just 25 families. My first RIA that I sold in 2008, Mercer Advisors I first registered in January 1986 and is currently the 10th largest independent investment advisor in the nation, with over 3000 clients and 6 Billion in assets under management. I am writing in reference to the SEC’s proposed new rule on “Use of Derivatives by Registered Investment Companies and Business Development Companies”. As written, the rule would place unreasonable restrictions on the use of derivatives by mutual funds. The impact is particularly notable on “liquid alternatives” mutual funds. Limiting access to these kinds of funds would dramatically impact my clients, by limiting their ability to diversify from equity risk in their portfolios and making it more difficult for them to achieve their financial goals. I want to express deep concern that the rule as written is too restrictive and should be re-explored by the Commission.
As an advisor, my mission is to help my clients achieve their financial goals, such as saving for college and planning for retirement. To achieve their goals, I have been investing a portion of their portfolios in “liquid alternatives” mutual funds. Essentially all of my clients hold these kinds of liquid alternative mutual funds. These funds are generally lower risk than regular stock funds. These funds generally have low correlation to the stock market, and thus provide diversification that helps my clients better weather the market’s volatility. Both during the Global Financial Crisis of 2008, and as recently as the market downturn in January of 2016, liquid alternative mutual funds generally declined less than the market, or even increased in value. This is why they are such a valuable financial tool for the families whose money I manage. The rules proposal acknowledges that many liquid alternatives funds would be affected, and that some may be forced to de-register. This would be a grave policy mistake. The availability of alternative investment strategies in mutual fund format has been of great benefit to my clients. Previously, these strategies were available only to the wealthiest of my clients in the form of private vehicles. Now I can include them in the portfolios of all my clients to better help all of them manage risk. Changing their format into public commodity pools (PCPs) is also not an option. PCPs are very difficult to integrate operationally into client portfolios. Most importantly, they lack all the benefits and protections of the Investment Company Act, which are critical for my clients. The bottom line is that a policy that limits access to liquid alternatives mutual funds would be harmful to my clients and should be re-evaluated and modified.
While I applaud the Commissions goals of providing investor protection. Regulation that ensures prudent use of derivatives makes sense. However, the proposal is based on a number of misconceptions. As a fiduciary, I have conducted due diligence on dozens of liquid alternatives funds. I have become very familiar with how they use derivatives. The derivatives that I see in use by mutual funds are not the kinds of derivatives that were responsible for the Financial Crisis of 2008. Those were structured fixed income products that aren’t even being regulated by the derivatives proposal. The vast majority of derivatives used by liquid alternatives mutual funds are simple derivatives such as index futures and currency forwards. These are highly liquid contracts. While there are some funds (i.e. Levered ETFs) that explicitly use derivatives to amplify risks, most liquid alternatives funds use them in a risk-controlled manner. An additional shortcoming of the proposal is that it fails to recognize the different level of risk of derivatives for different asset classes. In my experience fund managers apply the greatest amount of leverage to low-risk assets, such as low duration bonds, than they do to inherently risky assets such as equities. To address this distinction, the rule should include some form of risk-adjustment. In summary, most liquid alternatives funds use simple, liquid alternatives in a responsible way. The rule should be designed so as to differentiate between appropriate and inappropriate uses of derivatives.
Gene DongieuxAriadne Wealth Management