Managed Funds Association
1200 19th Street, N.W., Suite 300
Washington, DC 20036
June 23, 1999
Mr. Jonathan G. Katz
U.S. Securities and Exchange Commission
Mail Stop 0609
450 Fifth Street, NW
Washington, DC 20549
Re: Request for Comments on Proposed Rulemaking: The Regulation of Securities Offerings: Release No. 33-7606A; File No. S7-30-98
Dear Mr. Katz:
The Managed Funds Association ("MFA") appreciates the opportunity to provide comments in response to Release No. 33-7606A (the "Aircraft Carrier") issued by the Securities and Exchange Commission (the "SEC" or the "Commission") on November 13, 1998.
MFA, located in Washington, D.C., is the only U.S. based membership organization dedicated to serving the needs of professionals who specialize in the international managed funds industry private and public managed futures funds, funds of funds, "hedge funds" (private alternative investment funds) and individual accounts, that provide alternative investment opportunities to institutional and private clients world-wide.
MFA's more than 700 members provide diverse perspectives of alternative investment professionals, including commodity trading advisors, commodity pool operators, investment advisers, fund of funds managers and hedge fund sponsors. These professionals in the aggregate manage a vast majority of the over $35 billion invested in managed futures funds and a significant amount of the nearly $250 billion invested in hedge funds. MFA members also include professionals providing essential services to the managed funds industry such as brokers, futures exchanges, cash managers, foreign exchange dealers, banks, accountants, lawyers, consultants and academics.
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The Aircraft Carrier is a major initiative toward modernizing and simplifying the distribution of securities in the United States. MFA is confident that the rules which result from the Aircraft Carrier will greatly facilitate and reduce the delays and expense involved in the domestic capital formation process. MFA applauds these proposals and the SEC Staff's initiative in producing them.
Fully aware that the Commission will receive numerous comments from a wide range of industry participants relating to the Aircraft Carrier, MFA will limit its comments to issues of primary importance to the managed funds industry. The changes suggested by MFA would have virtually no effect on the overall structure or operation of the proposed Aircraft Carrier rules. They would, however, significantly facilitate the offering of managed futures funds in the United States, eliminating the competitive disadvantage at which U.S. futures fund sponsors are placed internationally, reducing entry barriers within the U.S. commodity pool industry and lowering costs to investors.
The MFA's comments on the Aircraft Carrier are limited to (1) Form B eligibility standards, (2) the liberalization of the content of Rule 135 notices of offering and (3) "Small Business Issuer" eligibility standards.
(1) Form B Eligibility Standards
MFA endorses an eligibility requirement for Form B which would permit publicly-offered commodity pools ("Public Pools") to make use of this Form. As a practical matter, the requirements as proposed would necessarily preclude almost all Public Pools from using Form B. This is because, on the one hand, there are material regulatory as well as structural obstacles to Public Pools developing any form of secondary market for their units. Consequently, Public Pools cannot satisfy the proposed Average Daily Trading Value ("ADTV") Form B eligibility requirement. On the other hand, very few, if any, Public Pools meet the alternative Form B "public float" requirement of $250,000,000; nor, given their generous redemption provisions (required by the Guidelines; see below), are many likely to do so in the future. However, while the Public Pools cannot meet the Form B eligibility requirements as proposed, they satisfy the substantive purposes of these requirements by their compliance with regulations imposed on themm by state and federal agencies in addition to the SEC.
Public Pools are required by the State securities commissions to calculate their Net Asset Values on a daily basis, and required by the Commodity Futures Trading Commission ("CFTC") to distribute monthly summary financial statements. The Public Pools are also subject to the full reporting requirements of the Securities Exchange Act of 1934 (the "Exchange Act"). Furthermore, their offering materials are subject to both substantive and disclosure review by the SEC (whose review is limited to disclosure issues), the CFTC, the National Futures Association (the "NFA"), the State securities commissions (which apply detailed Guidelines promulgated by the North American Securities Administrators Association, Inc. specifically directed at the substantive requirements Public Pools must meet to obtain registration clearance in the several states) and the National Association of Securities Dealers, Inc. ("NASD"). MFA submits that the combination of these overlapping substantive as well as disclosure-oriented regulatioons accomplishes the same purpose in the case of the Public Pools as do the proposed ADTV and "public float" standards for Form B eligibility in the case of other issuers.
A. Public Pools Satisfy the Substantive Purposes Behind the
Proposed Form B Eligibility Standards.
The ADTV and public float tests applied to operating companies in determining Form B eligibility are designed to ensure that there is sufficient information concerning these issuers available in the marketplace for a short-form registration procedure to be consistent with investor protection. Public Pools are required by the Guidelines to permit investors to redeem at least quarterly, and in fact typically do so on a monthly or even weekly basis. Moreover, Public Pools are required to calculate Net Asset Values daily and to send monthly reports, including specified summary financial information, to all existing as well as prospective investors. These regulatory disclosure requirements, overlaid on those of the Exchange Act, serve as an effective proxy for "public float" and ADTV insofar as the dissemination of Net Asset Value and pricing information is concerned.
In fact, the Net Asset Values made available by Public Pools provide more meaningful information concerning these Pools than do current stock prices and analysts' reports in the case of operating companies. This is because the Net Asset Value of a Public Pool is its fair market value. The strategies employed by the commodity trading advisors who manage the Public Pools' trading are proprietary, and can be described only in the most general terms. The generic markets in which the Public Pools trade are also susceptible only of the most general description, and the past performance of a Public Pool is not necessarily indicative of its future results. Given the inherent limitations on what can be disclosed concerning Public Pools, once the history of a Public Pool's Net Asset Value is known, so is most of the important information available concerning the Pool. Information concerning the Public Pool's sponsor and commodity trading advisors are all available in the Pool's Prospectus/Disclosure Document and this material plus a Net Asset Value history provides all of the significant information relevant to an investment decision. In the case of an operating company, on the other hand, current stock prices, analysts' reports and Exchange Act 10-Q, 10-K and 8-K filings (all of which the Public Pools also file) often provide only limited insight into the actual value of the company.
If an "efficient market" is defined in terms of the ready availability of information from which true value and price can be determined, the Public Pools operate in as an efficient market environment as any Form B registrant.
B.Making Public Pools Form B Eligible Would Have Significant
Not only do Public Pools satisfy the substantive purposes of the Form B eligibility requirements, but also Form B eligibility for the Public Pools would be a highly desirable means of reconciling the overlapping and sometimes inconsistent disclosure requirements which result from Public Pools being regulated by both the SEC and the CFTC. There is a basic incongruity between many of the specific disclosure requirements of Regulation S-K and the economic realities of Public Pools. Most of the S-K disclosures, for example, S-K 101, "Description of Business"; S-K 102, "Description of Property"; S-K 201, "Market Price of and Dividends on the Registrant's Common Equity and Related Stockholder Matters"; S-K 402, "Executive Compensation"; S-K 403, "Security Ownership of Certain Beneficial Owners and Management"; and S-K 405, "Compliance with Section 16(a) of the Exchange Act," while of principal importance to an operating company, have little or no relevance to a Public Pool. The CFTC's disclosures, on the other hhand, have been specifically drafted with commodity pools in mind. Investor protection, as well as economy of limited regulatory resources, suggest that an issuer's offering materials are best molded by rules specifically addressed to such issuer's business operations. In the case of most issuers, this regulatory luxury is not available because no such set of "customized" rules exists. In the case of Public Pools, the CFTC and the NFA promulgate, monitor and enforce disclosure rules explicitly designed to provide appropriate and balanced Public Pool disclosures.
Form B would simplify and reduce the expense of the Public Pools' offering process, advance both SEC and CFTC disclosure objectives by permitting Public Pools' Prospectus/Disclosure Documents to be adapted to the economic realities of the Pools while incorporating by reference full Regulation S-K disclosures, and promote investor protection by permitting Public Pools to provide disclosures designed by the CFTC to provide full and succinct information regarding Pubic Pools. At the same time, through incorporating by reference a Public Pool's Exchange Act filings into its Prospectus/Disclosure Document, all SEC disclosure requirements would be met. The SEC will have full opportunity to review each Public Pool's Form 10-K disclosures. However, this review can be conducted without the time pressures associated with having to keep updated offering materials continuously available in an ongoing Public
Pool offering. The SEC Staff would have ample opportunity to ensure that Form B Public Pools fully meet their S-K disclosure requirements. Regulation S-K disclosures would not be preempted or avoided, only concentrated in a Public Pool's Exchange Act reports rather than in its Prospectus/Disclosure Document and readily available on EDGAR to all existing and qualified prospective investors.
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It has been proposed from time to time, and MFA strongly believes, that Public Pools should be exempted from SEC reporting and Regulation S-K requirements as a result of being otherwise regulated in all aspects of their offerings of securities as well as ongoing operations. The duplicative regulation of Public Pools (actually, triplicate regulation once one takes into account the States) is an inefficient use of government resources as well as costly and burdensome for U.S. managed futures industry participants, including sponsors and investors alike.
The adverse effects of this layering of regulations has been dramatic. As late as 1990, there were numerous independent pool sponsors bringing Public Pools to market with capitalizations of $1 million and up; today only three or four of the major Wall Street firms are able to afford the entry barriers to Public Pool sponsorship, and the minimum capitalization for an economically viable Public Pool is in the tens of millions. Even if the SEC will not accept the Public Pools' otherwise regulated status as sufficient grounds for exemption from the SEC review process (or an official "no review" policy), there are compelling reasons for accepting this status as grounds for Form B eligibility.
MFA proposes that a new General Instruction I.C.7 be added to the Instructions to Form B as proposed by the Aircraft Carrier:
"7. Public Commodity Pool Offerings
An offering by a registrant that satisfies all of the registration requirements in General Instruction I.B. is eligible if:
(a)The registrant is a "commodity pool," the promoter or sponsor of which is registered as a "commodity pool operator" with the Commodity Futures Trading Commission ("CFTC") and a member in good standing in such capacity with the National Futures Association ("NFA");
(b)The Prospectus/Disclosure Document issued by the registrant is subject to the requirements of Part 4 of the CFTC's Regulations; and
(c)All promotional material used in connection with the offering is subject to the applicable rules of the CFTC, NFA and the National Association of Securities Dealers, Inc.
General Instruction I.B.6(j) shall not apply to commodity pools otherwise qualified under this General Instruction I.C.7."
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(2)Expansion of Rule 135
MFA believes that the expansion of the permissible content of Rule 135 notices would materially facilitate both public and private capital formation, and potentially constitutes one of the most significant advances proposed by the Aircraft Carrier. MFA believes that were Rule 135 notices permitted to include a brief indication of the general type of business of the issuer as well as identifying underwriters or a contact from which qualified investors could obtain a Prospectus or Private Placement Memorandum, these notices could materially enhance investor access to both public and private placements. Were it possible to identify in advance those prospective purchasers who might be interested in an offering, the expense and delay of the offering process could be materially reduced.
MFA's experience indicates that the sponsors of commodity pools and hedge funds (as well as other issuers) would be careful to stay within the prescribed disclosure limits of a revised Rule 135, in order to avoid the risk of rescission in private, or regulatory delays in public, offerings. Moreover, in the case of the Public Pools, additional regulatory protections would apply to expanded Rule 135 notices, as the Public Pools' Rule 135 notices are subject to the NFA as well as CFTC rules regarding communications with the public, irrespective of whether such notices are deemed to constitute an offering of securities. These rules are enforced by regular CFTC and NFA audits principally targeted at registrants client communications. In addition, any Rule 135 notice used by a Public Pool would have to be filed with and cleared by the NASD, as well as by certain State securities commissions.
MFA does not suggest that futures funds should receive any different treatment under Rule 135 than any other issuer. However, MFA does wish to point out that in the case of such funds, some indication of a fund's general business is necessary for a Rule 135 notice to achieve any purpose. While in the case of many operating companies their name may well be sufficiently well-known or self-explanatory so that a simple notice of their proposed issuance of securities provides meaningful information concerning their upcoming offering, in the case of most managed funds their names provide no information whatsoever. "The World Opportunities Fund L.P." conveys nothing to a prospective investor. On the other hand, "The World Opportunities Fund L.P., a speculative managed futures fund trading in global markets under the direction of multiple advisors with a 5-year 'principal protection' feature and providing monthly redemption privileges" would give most prospective investors enough information to know whetheer they had any reason to inquire further, while falling far short of any form of promotion or solicitation. In the case of managed funds, a non-expanded Rule 135 is effectively no Rule 135, while an expanded Rule 135 would in no respects compromise investor protection because it would not be promotional, only informational.
MFA believes that, as a general matter, information must be distinguished from solicitation for many regulatory purposes. The technology of the Information Age has made the regulation of information virtually impossible, and the important investor protection issues arise in the context of solicitation not in the dissemination of information. Furthermore, providing information about offerings can only promote greater efficiency in both the public and private capital markets, and at no cost to investor protection provided that the solicitation process is controlled as before.
(3) Small Business Issuer Eligibility Standards.
MFA strongly supports the proposed definition of Small Business Issuers as entities with less than $50 million of annual revenues. The current $25 million "public float" ceiling of the Small Business Issuer classification eliminates all but very few Public Pools from Small Business Issuer status, and many Public Pools with over $25 million of capital have only a limited number of people involved in their operation. Full S-K compliance is onerous to the smaller Public Pools, and, as mentioned above, the Public Pools are subject to ongoing CFTC/NFA disclosure and reporting requirements specifically tailored to the Public Pool context while many of the standard S-K disclosures are fundamentally inapposite to the Public Pools. If Public Pools are not at this point to be exempted from SEC reporting requirements, they should at least qualify for the same lower level of such requirements as are applicable to many other issuers. Raising the level for Small Business Issuer eligibility as proposed would go a long waay to achieving this result.
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Again, our thanks for the opportunity to comment on the Aircraft Carrier, and our congratulations on a major initiative toward the updating of the federal securities laws.
John G. Gaine
PresidentJune 23, 1999 (5:22PM)