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Nearly 20 brokerages have been subpoenaed by federal regulators investigating hedge funds that made direct investments in publicly traded companies, a sometimes shady area of last-resort finance that has burned unsuspecting investors in the past.

The subpoenas, issued over the past two months, are part of an ongoing investigation by the

Securities and Exchange Commission

into allegations of stock manipulation by hedge funds involved in the transactions, which are known on Wall Street by the acronym PIPE, for private investment in public equity.

Regulators want information about any role the brokers may have played introducing the hedge funds to companies seeking to enter into PIPE deals.

The SEC has been looking into the PIPEs market for nearly two years. The deals can be ripe for abuse since they often are negotiated in secret between savvy investors and companies with an urgent need for money. Since the deals are put together quickly, they usually don't undergo the SEC scrutiny to which most initial public offerings and bond deals are subject.

SEC spokesman John Nestor declined to comment.

PIPEs are popular with hedge funds because the buyers can get preferred stock or bonds that convert into shares at a discount to market prices. The deals often include sweeteners, such as warrants, that permit the private investors to buy additional shares at prices well below what ordinary investors would pay.

In return, the companies -- many of which would have difficulty getting a traditional bank loan or public-market financing -- receive badly needed cash. The loser is often existing investors, who see their ownership stakes reduced by the conversion of bonds or preferred stock into common shares.

In some such deals, the conversion price at which a security can be turned into common stock is allowed to be continually reset lower, offering a kind of insurance if the initial bet doesn't pay off. That can create an arbitrage opportunity in which a sophisticated investor seeks to accelerate the downward spiral by shorting the shares.

Despite the potential hazards, 2004 is shaping up as the second-best year ever for PIPEs, according to information compiled by PlacementTracker. To date, U.S. companies have entered into 535 PIPE deals with a total dollar value of $6.3 billion. Last year, there were 910 deals with a combined value of $12.1 billion.

In what could be a sign of things to come, the SEC last year brought one of its first enforcement actions ever involving a PIPE deal.

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In February 2003, regulators imposed a $1 million fine on

Rhino Advisors

, charging an unregistered investment advisory firm with manipulating the stock of


, a tiny software company, following a $3 million private investment.

Regulators charged that Rhino shorted the stock on behalf of one of its clients, Swiss-based

Amro International

, which had purchased a $3 million convertible note from Sedona in a deal negotiated by Rhino.

The terms of the PIPE deal entitled Amro to receive more shares of Sedona stock if the company's share price fell significantly before the date the note was due to convert. The PIPE, however, prohibited Amro from trying to hedge its interest by shorting Sedona's shares during the life of the note.

But Rhino, the SEC charged, effectively began shorting the stock as proxy for its client, in a move that dramatically drove the share price down and that meant Amro ultimately collected more shares of Sedona stock than it otherwise would have received. Amro, which wasn't charged by the SEC, benefited from Rhino's action, because it got a ready supply of stock to cover earlier short bets it had made.

A regulatory source says investigators believe situations such as the one involving Rhino are more common than previously thought.

Regulators are looking for situations in which hedge funds, despite promises not to short a company's stock, used either shell partnerships or other entities to serve as stalking horses to place bets on a company's shares falling. Another thing regulators are looking into is whether a hedge fund involved in negotiating a PIPE deal placed short bets on a company's stock just before inking the deal.

The investigation is said to be fairly active, but it's too soon to say when regulators might bring their next enforcement action.