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Introduction
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Introduction

Regulation and Hedge Funds
Chapter 8 describes the laws and regulations that control hedge funds.
While hedge funds are not unregulated, as is sometimes asserted, they are
more loosely regulated than mutual funds and common trusts run by bank
trust departments. Other types of investments are also loosely regulated,
though, including private equity partnerships, venture capital funds, and
many real estate partnerships.
Investors may feel they will "know it (a hedge fund) when they see it,"
but there are no firm lines separating hedge funds from these other types of
investments. Hedge funds may invest part of their assets in private equity,
venture capital, or real estate.
To further blur the distinction between hedge funds and regulated in-
vestment companies, there is increasing pressure from the Securities and
Exchange Commission (SEC), bank regulators, auditors, and exchanges
for hedge funds to disclose more information and to control permitted
activities. Hedge funds may soon be required to disclose much of the in-
formation that mutual fund companies must report. The SEC has pro-
posed to require all hedge fund management companies to register as
investment advisers.
Limited Liability
Sometimes, the definition of hedge funds mentions that hedge funds are a
vehicle where investors have no liability for losses beyond their initial in-
vestment. It certainly is true that most hedge funds in the United States are
organized as limited partnerships or limited liability corporations (see
Chapter 5) that protect the investor from liability. However, offshore funds
are usually organized as corporations and, despite this difference, also cre-
ate a limited liability investment.
Most other investments are also limited liability investments. Investors
can lose no more than 100 percent of the value of long positions in stocks
and bonds. Mutual funds also protect the investor from losses in excess of
the amount of money invested. While accurate for hedge funds, the charac-
teristic of limited liability does little to define hedge funds.
Flow-Through Tax Treatment
Hedge funds are not taxed like corporations. Instead, all the income, ex-
penses, gains, and losses are passed through to investors. This feature does
not define hedge funds because many other investment types are flow-
through tax entities. Real estate investment trusts (REITs), mutual funds,
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HEDGE FUND COURSE
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