To be 4.7 Exempt or Not To Be, That is the Question

Despite the having the odds stacked against them, we hear from new CTAs and hedge fund managers every day. This isn’t to say that we discourage new CTAs, our 108 Tools to Help grow your CTA Business can speak to that, and we recently discussed how these emerging managers are typically better performers.

But we won’t sugar coat things, it isn’t easy going from $0 to $10 million, $10 to $100 million, or $100 million to $1 Billion under management. Which led many CTAs to RCM’s Alternative Investment Conference this week to hear best practices and so forth. And one question among new CTAs that got debated after the event with some fervor was whether CTAs should be “4.7 exempt” CTA or not.

This is a little inside baseball, but it’s an important question when a CTA is just starting out. For those of you that have no idea what a 4.7 exemption is; filing a 4.7 exemption means that a CTA is exempt from certain regulations such as filing a Disclosure Document with the National Futures Association (“NFA”) – but in exchange for that relief, can only accept QEP investors (Qualified Eligible Investors, which are essentially investment/insurance/bank type companies and private investors with over $2 million in investments) into their program or fund.  Conversely, a CTA can file a Disclosure Document with the NFA and accept any investor they deem suitable for the investment, with the regulatory thinking perhaps that the well-heeled investors don’t need everything spelled out for them.

So, the decision facing a CTA when starting out is whether to:

  1. Avoid the regulators and cost of drafting a Disclosure Document, but only go after the $2million in investable assets and up QEP investors.

Or

  1. Deal with the regulators and draft a Disclosure Document (and re-submit it annually), and go after any investor who can afford the minimum investment.

Now, what we were hearing at the Expo was that the general rule of thumb CTAs get from lawyers is to file the exemption to avoid the hassle of filing D-Docs with the NFA. Most new CTAs, it seems, are being coached to avoid the 4.7 Exemption. To which we say… get a new coach. If you’ve got a golden Rolodex filled with names of multi-millionaires, heads of banks, and Chief Investment Officers at pensions and endowments – sure, the 4.7 exemption can save you some hassle.  But what if you’re trying to grow organically and need every set of eyeballs you can get on your program. Is avoiding a few days of hassle with the regulators each year worth eliminating a big portion of the investing public?

We say no… but haven’t ever really looked at the statistics to see just how many potential investors 4.7 exempt CTAs are ignoring by saving some hassle.  Now, this gets a little difficult, as there are a lot of definitions for both that include insurance companies, pool operators, and foreign individuals (all of whom are QEPs regardless of net worth or income… in a blatant example of the US regulators saying ‘you’re not our problem’). But if we assume all the non-human type of investors basically balance each other out, and represent just a small portion of the overall numbers – then we’re down to looking at how many investors fall in each net worth bucket.
For sake of argument, let’s assume that accredited investors have $1 million in net worth, and QEPs have $2 mm and up in net worth, remembering that all QEPs are also accredited. If you meet the higher standard, you automatically meet the lower standard; and do some quick back of the napkin math to see that there are:

Over $2 million net worth, QEPs = 1.8 million households

Accredited = 8.5 million households

Non Accredited, with investment accounts = 20 million house holds

US Wealth

(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: CNN
(Note = We know the data is from 2007. It’s the most recent data we could find)

Now, this ignores a big part of the puzzle, which is how much money each of those buckets has. It’s well documented that the top 1% command more than 48% of the world’s wealth. But ignoring for a fact that there might be 4, or 40, times more money concentrated at the top, there’s still about 4 times more investors with more than $1 million than there are with over $2 million, meaning, for us – to ditch that 4.7 and go ahead and file that D-Doc.

Sources:

QEPs = Wealth in America — (CNN)

Accredited = How Many Accredited Households Exist in the US — (InvestGeorgia)

Non-Accredited with Investment Accounts = (Census)

For more on the 4.7 exemption and others at NFA, see here:

CFTC 4.7 Exemption

NFA Exemption Descriptions

Alternative Links: A Gross Look at the Bull Market

Market Commentary:

A Sense of an Ending – (Bill Gross)

German Bunds: The Short of the Century – (Barrons)

Funds At Record Short Against Wheat – (The Short Side of Long)

Sentiment shift on US inflation expectations – (Sober Look)

Performance:

Winton’s Hedge Fund Posts Worst Month Since 2008 – (Bloomberg)

Managed Futures April Performance – (Attain Alternatives Blog)

Regulation:

Michael Lewis: UBS Gave Its High-Frequency Traders Illegal Advantages – (Vanity Fair)

Two traders sued for ‘spoofing’ on gold and silver futures – (Live Mint)

RCM:

Takeaways From RCM’s Alts Conference – (Attain Alternatives Blog)

Podcast: The Many Avenues of RCM Alternatives – (Attain Alternatives Blog)

Takeaways From RCM’s Alts Conference

For it being a Tuesday, Cinco de Mayo, and a foggy day in Chicago;  we had a great turnout yesterday for a quick event on Alternative Investments. A big shout out to Mike Cavanaugh (@CavyChi) for moderating the event, and adding some humor along the way.  For those who didn’t make it to the event, here’s a brief recap via our live tweeting of the event.

P.S. — If you’re interested in learning how they trade, their investment philosophy, and standard performance numbers, you can sign up here.

 

 

 

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Managed Futures April Performance

In a month where the tip-top managers like Winton post its worst month since 2008 (-4%) and AQR’s Managed Futures Managed Futures Fund was down -3.21%, it isn’t shocking that the 4 Managed Futures indices we track were down an average -2.03% in April {Past performance is not necessarily indicative of future results}.

Some of this might be attested to the rally in crude when many managers were still short, or not in the market at all. Metals remained choppy while there were trend reversals in long bond and long dollar / short foreign currency trends. These trend reversals might actually create new opportunities for trend followers in the future if they persist. That’s the true question. Will crude move back to 100? Will bonds continue to fall, and will the U.S. Dollar rebound or return to the 80 range? Only time will tell. We just hope any of these trends stay long enough for Managed Futures strategies to capture them.

Managed Futures Indices Performance(Disclaimer: Past performance is not necessarily indicative of future results)
(Barclayhedge CTA Index: 34% of funds reporting)

P.S. –Attain’s Family of Alternative Funds performance will be posted shortly. To get monthly performance and research updates on the family of funds, sign up here.

 

Podcast: The Many Avenues of RCM Alternatives

Where is the combined Attain/RCM headed? Founder and CEO Bobby Schwartz sat down with Options Insider recently for a quick podcast (radio) recording. Here’s your chance to see how we’re helping the funds and managers who utilize RCM’s services from the horse’s mouth:

Options Insider

Here’s the link to the Options Insider Radio.

Here’s the direct link to the MP3.