Writing in Bloomberg, Reporters Joe Light and Ben Stupples report that a move by reform advocates in the wake of Archegos’ implosion could require U.S. family offices to register as investment advisors and report their holdings quarterly as most other investment firms do.
Sounds fine on the surface. However, some family offices are fighting back to keep their secrets secret. At issue is the push by some lawmakers, regulators, and consumer advocates to shed light on the inner workings of family offices – which are closely held and lightly regulated yet manage an estimated $6 trillion for the ultra-rich globally.
Pre-empt risks, but share secrets
Regulators, investors, and others on Wall Street say the reforms could alert the markets to hidden risks. Yet, they also could reveal proprietary information to rivals, and they are betting that the new Securities and Exchange Commission (SEC) Chair Gary Gensler will see things their way.
“The rationale for the exemption of family offices is clearly indefensible now,” Dennis Kelleher, CEO of advocacy group Better Markets, tells Bloomberg. “And we think the SEC will change this quickly.”
Why regulate family offices now?
U.S. regulators are responding to this year’s implosion of Archegos Capital Management and trading gyrations in GameStop Corp. SEC officials are exploring how to increase transparency for the types of derivative bets that sank Archegos, the family office of billionaire trader Bill Hwang. And, according to Bloomberg, the regulator also faces pressure from Capitol Hill to shed more light on who’s shorting public companies after the GameStop frenzy.
The SEC already is in the midst of an independent review to potentially increase what all investment firms, including family offices, must disclose about their holdings, Bloomberg has reported. The new disclosures could include firms’ derivatives positions and which stocks they are shorting.
Family office representatives say the move is unnecessary and hope to avoid additional oversight as they did following the 2008 financial crisis. They say that what happened to Archegos is irrelevant and that it was a family office had nothing to do with its implosion.
According to Bloomberg, the late March meltdown of Archegos Capital Management LP, helmed by former hedge-fund manager Bill Hwang, touched off the regulatory firestorm. Hwang started a family office in 2013 after his ejection from the hedge fund industry for insider trading. He grew $200 million in assets to approximately $20 billion based on a highly leveraged portfolio concentrated in a handful of stocks.
When the office imploded, it became clear that neither regulators nor brokers had any idea how large Archegos’ positions had become, nor that the losses came from a firm no one knew. It is these regulatory blind spots that advocates want the SEC to fix.
Family offices serve a single family. Because they have no outside clients, they generally don’t need to register with the SEC as investment advisers. The rationale for the exemption is that they only serve one wealthy client who doesn’t need the protections afforded to investors in other funds. In addition, offices with less than $100 million in assets or that manage funds only for one person can avoid regularly disclosing their holdings to the SEC.
Offices that serve more family members must file their holdings with the SEC but can ask for, and often receive, an exemption allowing them to keep the filing confidential. Even those reports, like those of hedge funds and mutual funds, usually only include direct ownership of stocks and not derivatives positions, like the total return swaps that led to Archegos’ downfall.
Large banks brokered the stock swaps for Archegos for a fee. Such swaps allowed the firm to spend relatively small amounts — it essentially used borrowed money to build a huge portfolio — while keeping its ownership of individual stocks hidden.
If the SEC moves to require all investment firms, including family offices, to disclose derivatives and short positions, that wouldn’t necessarily dent the privacy of family offices if they’re still able to file holdings confidentially with the SEC. The lack of disclosure has allowed some family offices to adopt similarly complex strategies without drawing scrutiny. Complying with fewer regulations has helped lead some hedge fund managers to convert their firms into family offices.
The number of family offices is growing, partly to accommodate the boom in tech billionaires. According to EY, more than 10,000 family offices globally manage the wealth of a single family, with at least half having started this century.
Would compliance make a difference in the family office world?
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