How Will Investors Approach Form PF?
Tuesday, 15 January 2013Written by Deborah Prutzman
Nearly every investor who allocates to a U.S. investment adviser reviews the adviser’s Form ADV filing as part of its initial due diligence. With the adoption of Form PF, investors may soon have another set of data to consider. By the end of April, many advisers will have completed their first Form PF filing. Although the filed report is not publicly available (nor subject to a Freedom of Information Act request), many investors will be in a position to request Form PF from their existing or prospective managers. But once obtained, investors and managers alike are not yet exactly sure how to use the data.
To be sure, regulators have made it clear how they intend to use the reported data. The FSOC will comb through the form for insights about how to effectively monitor systemic risk, and the SEC will use the information as part of investigations, enforcement activities, and risk assessments.
Below are some possibilities about how investors might use any information they obtain.
Form PF will yield vast information about operations and strategies of private funds, beyond that which most investors currently have access to. The wealth of new data can certainly provide a foundation for sophisticated investors to develop more in depth risk metrics to inform decision-making when choosing a manager. Detailed information about specific investments can also be used by investors as part of ongoing due diligence efforts. Investors can compare the information reported on Form PF to that reported in investor letters, offering documents and other marketing materials. This comparison can be a way to determine whether the information is reported on a consistent basis and, if not, whether discrepancies can be readily explained.
Another possibility is that those invested with multiple managers may be able to compare the data across managers to find outliers, which can then be discussed with the particular manager. We know that the SEC has said it will be using the data in its risk-ranking methodology to identify specific managers that warrant examination, for example, as part of its Aberrational Performance Inquiry. An investor that is considering an allocation to a manager who is at high risk for regulatory scrutiny may want to make a detailed risk assessment into the operations and governance structure of the manager. Today investors realize that performance alone is not enough and that a manager needs to build an operational enterprise that supports its investment performance. Any manager that has to spend time focusing on enforcement issues has less time to concentrate on its core business. Without a well-defined methodology the time demands can go up dramatically.
In addition, investors will now have insight into fund counterparty risk, which may prompt additional questions during the due diligence process. As the new swaps market place begins to take shape, the ability to assess counterparty risk could be particularly valuable to investors.
A key question remains whether and when advisers will share the form with investors. Before managers provide Form PF (or any summary) to existing or prospective investors, they may request that investors execute confidentiality agreements as a way to (hopefully) prevent the information from being distributed further. Because disclosure is possible, however, one area that an investor in a “fund of one” may want to consider is whether the fund’s name makes it obvious that the reported fund is for a particular investor, thus revealing how well its investment fared. There are a few ways that this may be handled. First, an adviser can preserve the anonymity of a private fund by using numerical or alphabetical code or similar designation on Form PF as long as the fund’s identity in the adviser’s internal books and records is kept using that same code. Investors may start requesting this. Alternatively, the investor can simply request that there is no reference to its identity in the fund name. Another arrangement could be that a fund of one investor may request that the manager contractually agree that it will not provide the Form PF filing for its fund to any other investors.