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The one thing that might have allowed convicted felon Bernie Madoff to run his phony hedge-fund business even longer in the face of an eroding stock market is successful advertising. With his reputation - which was sterling right up to the moment it was tarnished - the public would have beaten a path to his door if Madoff had been allowed to roll out the general welcome mat as his crisis was coming to a head.
You could also argue that public advertising would have led to scrutiny that might have uncovered the whole scam sooner.
It's a hypothetical debate with real consequences, because a largely unnoticed provision of the Jumpstart Our Business Startups (JOBS) Act signed April 5 by President Obama allows hedge funds to market themselves to the masses, or at least the small portion of the general public that qualifies to invest in private-equity pools. The U.S. Securities and Exchange Commission has three months to change rules dating back to the Great Depression prohibiting advertising and other communications from private-equity firms and hedge funds.
Private investment vehicles like hedge funds are not required to provide the same kind of disclosures - or adhere to the same risk restrictions - as traditional mutual funds. The trade-off for that freedom has always been that they were not allowed to do any real marketing and they could only work with experienced, high-net-worth investors.
The provision in the JOBS Act presumably was approved because investments in hedge funds can help to fund businesses that will create new employment opportunities. It's also why the law changed rules over micro-financing done through a process called "crowd funding" that makes small-scale private-equity deals available to a much wider section of the public.
Hedge funds still won't be for the masses, as they will still be a haven only for "accredited investors," currently defined as people who can prove they make more than $200,000 or have at least $1 million in investible assets (those rules will be revised again in 2014).
They will, however, be much more accessible. Currently, many hedge fund managers won't even allow basic details about their issues on their own web sites - much less talk to the media or discuss investment strategies - for fear that anything they say can be seen as a solicitation and, thus, against the rules.
But advertising changes the hedge-fund game because it exposes a population that really needs the help of those intermediaries to direct sales pitches.
While average investors think of hedge funds as high-powered vehicles for the rich, the truth is that many hedge funds fail every year. That's not surprising, because the hedge-fund structure is slanted to the manager - who typically takes 2% off the top and keeps 20% of the profits the fund generates - so much that shareholders have little patience when an issue fails to meet expectations. It is very common to reach the end of a lock-up period -- hedge fund investors typically must stay with the fund for a period of time and can only withdraw funds at set or specified times - for shareholders to demand their money back and basically shut down the fund.
Still, critics of the new law are fearful that marketing to the general public will attract people to investments that carry way too much risk for the average person with sufficient wealth to qualify for entry.
Truthfully, the best hedge-fund managers most likely won't have much reason to advertise. Private funds operate with a limit on how many shareholders they can have - though the JOBS Act also expanded that number - and they would rather fill those with big-dollar institutions than with millionaire-next-door types.
But advertising takes many forms. While the public thinks of it as general media, it can be different; the relaxed rules mean that broker-dealers at investment banks will be able to openly pitch a private equity firm's latest hedge fund, complete with glossy pamphlets (and maybe lunch).
That's where the concern is, that consumers who are interested in using hedge funds will fall for a slick sales pitch, especially from funds with unproven track records and the greatest need to attract new cash.
"To get to the great hedge fund managers, you have to be a significant player," said Geoff Bobroff, a fund industry consultant from East Greenwich, R.I. "Those managers don't need to advertise to attract money and, if they do, it would make you wonder if they were in trouble."
So the kind of hedge fund that might advertise could be like the one started by one of my former neighbors, who left his job as a broker to get into the hedge-fund world; after struggling to attract investors, the fund failed to serve them, and was out of business in a year.
If that is the kind of hedge fund that advertises, investors will be best served by ignoring what they see.
Chuck Jaffe is senior columnist for MarketWatch. He can be reached at firstname.lastname@example.org or at Box 70, Cohasset, MA 02025-0070