relevant fund (or share class) to “report” 100% of its income to UK investors in respect of each accounting period, with such investors being taxable on their share of such reported income (even if no income is actually distributed). In overview, if the fund is likely to generate significant capital gains and is targeting UK individual investors or other classes of investor for whom capital gains treatment is favourable (such as UK-authorised funds and investment trusts that are exempt from tax on capital gains), the fund may wish to consider seeking approval as a reporting fund (which can be done on a class-by-class basis).
the fund’s base currency and the currencies to which its underlying assets are exposed. Such provisions can also be extended to permit the manager to hedge other potential exposures, including interest rate and other macro and micro risks. The costs, profits and/or losses attributable to such transactions are generally borne by all the investors in the fund. Many hedge funds offer investors the opportunity of investing in multiple currencies (i.e., currencies other than the base currency of account) represented by different classes or series of shares or interests in the fund. The value of such classes will be affected (positively as well as negatively) by foreign exchange movements between the currency of the relevant class and the fund’s base currency and underlying currency exposures. Hedge fund terms often entitle the manager to conduct hedging transactions in relation to the relevant class. The costs, profits and/or losses attributable to such transactions are generally borne by the relevant currency class and the investors invested in that class. New Issues A fund may need to have separate classes for persons who are limited in their ability to invest in “new issues,” which is a U.S. concept, although the restrictions will apply to both U.S. and non-U.S. investors meeting the relevant definitions under the applicable rules. “New issues” are initial public offerings ( IPOs ) of equity securities made pursuant to a registration statement or offering circular. As a general rule, members of the U.S. Financial Industry Regulatory Authority ( FINRA ) are prohibited from allocating new issues to restricted persons 2 and covered persons, 3 and such persons are restricted in their ability to invest in new issues. 4
Base Currency of Account and Currency Classes
In common with other types of funds, the currency in which a fund is valued and in which it reports its performance is important to investors and the manager. A fund whose investments are largely traded or valued in a particular currency (such as U.S. dollars or euro) may choose to value its portfolio and report its performance in that currency. This is usually termed the “base currency” or “currency of account” of the fund. Where a fund is exposed to multiple currencies, the chosen base currency tends to be the primary currency to which the performance of the fund is exposed, although sometimes managers will adopt a base currency that equates to the currency in which investors are primarily investing in the fund. Hedge funds often include, as part of their investment strategy, efficient portfolio management powers entitling the manager to enter into forward foreign exchange and derivative transactions to hedge against (or mitigate) the risk of adverse foreign exchange movements between
2 The term “restricted person” generally includes any of the following: (i) broker-dealers; their officers, directors, general partners, associated persons and employees; their agents engaged in the investment banking or securities business; and their immediate family members, except for broker-dealers and their employees who limit their business to the purchase and sale of investment company, variable contract or direct participation securities; and owners of a broker-dealer and their immediate family members; (ii) finders and fiduciaries and their immediate family members, but only with respect to initial public offerings in which they are involved; (iii) portfolio managers (e.g., any person with authority to buy or sell securities for an investment manager or any collective investment account (even if it is not the account for which the new issues are being purchased)) and their immediate family members. See FINRA Rule 5130. 3 Covered Persons are, generally, directors and executive officers of certain public companies and covered non-public companies that may be investment banking clients of the allocating broker, as well as persons materially supported by such executive officers or directors. See FINRA Rule 5131(b). 4 However, note that as an exception to the general rule, a fund that has restricted persons as investors can invest in new issues provided that the level of restricted persons investing in the fund does not exceed the threshold level of 10 percent of the beneficial interests of the fund. Similarly, a de minimis exception is available for a fund having covered persons investing in the fund below the threshold of 25 percent of the fund’s beneficial interests.
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