Hedge Funds, Unicorns May Open to More Investors in SEC Plan

(Bloomberg) -- U.S. regulators are poised to add new criteria for who’s considered a sophisticated investor in an effort to allow more people to invest in hedge funds or hot startups that have become known for raising billions of dollars outside of public markets.

The changes proposed by the Securities and Exchange Commission Wednesday would revise rules that determine who is an “accredited investor,” which qualifies them to buy into riskier, but potentially more lucrative, deals. Currently individuals must have a net worth of $1 million to be eligible for those investments.

The new SEC plan, adopted on a 3-2 party-line vote, would permit people with some professional financial certifications, such as Series 7, 65 and 82 licenses, to qualify regardless of their income. It would also allow “knowledgeable” employees at money-management companies to invest in their firms’ offerings.

The revamp is part of an effort by SEC Chairman Jay Clayton to open up private markets to more retail investors, many of whom have been unable to profit from technology or bio-tech startups that raise money from the rich long before an initial public offering. Because those investments are lightly regulated and have a higher potential for fraud, the agency has long required that they be set aside for more savvy individuals. Still, it hasn’t updated those standards in decades.

Silicon Valley

The issue has gotten more attention in recent years with the rise of so-called Silicon Valley unicorns, private firms whose market value exceeds $1 billion.

“Today’s proposals are an important step in our ongoing efforts to assess the private offering framework as a whole, including ways to increase opportunity for more of our Main Street investors to participate in the private capital markets,” Clayton said.

The SEC’s two Democratic appointees opposed the plan, saying it would push more small investors into high-risk investments without offering them any more protection.

“There is serious risk to retail investors, particularly elder investors who have spent a lifetime saving for retirement,” said Commissioner Allison Lee.

While Republicans Hester Peirce and Elad Roisman backed the proposal, both expressed some misgiving that it didn’t go far enough to loosen restrictions. Roisman noted that he isn’t considered an accredited investor under current rules or the new plan.

Small Win

Wall Street has long pushed for the SEC to lower the sophisticated investor requirements, and Wednesday’s plan doesn’t go as far as many firms would like. Nevertheless, the industry did get at least a small win because the commission decided not to raise the income and net worth thresholds required to invest in private funds.

The annual salary restrictions will remain at $200,000 for individuals and $300,000 for couples. And the net worth test will continue to be $1 million, not counting the value of a home.

An SEC official, speaking to reporters Tuesday, said the commission hasn’t been able to determine how many new investors will be deemed accredited under the new proposal. It’s not likely to be a large expansion, the official added.

The agency also considered indexing the income and net worth numbers to inflation, but decided that it could unfairly keep out investors who lived in areas of the country where salaries and the cost of living are lower, said the official.

Lee said the indexing was backed by the SEC staff and outside advisory committees, calling it “a common-sense approach with wide support.”

The SEC’s action puts the accredited investor proposal out for 60 days of public comment. The commission will need to vote on the plan again for it to become final.

In a separate 3-2 vote, the commission issued proposed regulations for companies
to report on payments they make to foreign governments for extracting oil,
natural gas or minerals.

The controversial anti-corruption measure has dogged the agency since it was
included in the 2010 Dodd-Frank Act, a law that imposed strictures on Wall
Street in the wake of the financial crisis. The SEC’s first attempt at a rule
was overturned by a federal court, while its second was blocked by Congress.

To contact the reporter on this story: Robert Schmidt in Washington at rschmidt5@bloomberg.net

To contact the editors responsible for this story: Jesse Westbrook at jwestbrook1@bloomberg.net, Gregory Mott

©2019 Bloomberg L.P.