SEC's Lifting of Ban Is Move in Right Direction

NEW YORK (TheStreet) -- An 80-year advertising restriction on hedge funds was partially removed by the Securities and Exchange Commission on Monday by a 4-1 vote.

Hedge funds, private markets and fraudsters now have fewer restrictions marketing to the investing public. It's the fraudsters component that is the cause of worry. The marketing ban was put in place to prevent evil-doers from soliciting the unsuspecting and "unsophisticated" (SEC's words, not mine). I will describe that in a moment, but let's first look at what it means:
  • Hedge funds and others raising investment capital can advertise their offerings to the general public. Specifically, the rule affects offerings that are private and are not required to report financial statements publicly.
  • The ruling does not change who may purchase these securities. Only "accredited investors" may purchase. Anyone can see the marketing, but issuers and hedge funds are required to make reasonable efforts to ensure only accredited investors are afforded the opportunity to participate.

According to the SEC, an accredited investor is a single person who earned at least $200,000 a year in the past two years and reasonably expects his or her income to continue.

For married couples, the minimum amount of income is $300,000 per year. Another way into the club is if you have at least $1 million in assets above and beyond your primary residence. If you don't meet the requirements, you now can look at the menu, but you can't order from it.

The dust hasn't settled yet, and other modifications and or further regulations may be adopted. For example, a proposal requiring issuers to notify the SEC 15 days before initiating and again at the completion of marketing passed by a 3-2 vote and is now available for public comment before final action is taken.

I hope the SEC doesn't tie up the relaxation with so many new rules that the final result is a de facto ban and nothing changes. It was a long overdue directional change that took an act of Congress to push the SEC into action.

Unfortunately, we can't give the SEC credit for finally discovering the U.S. Constitution and its First Amendment, including the "small part" about freedom of speech. After the passage of the 2012 Jumpstart Our Business Startups Act, the SEC was forced into action. The highly politicized SEC didn't act swiftly and decisively, but the action is positive news and a step in the right direction.

In fairness, the motivation to drag their feet is born from noble intentions. The lone nay vote came from Commissioner Luis Aguilar over his concern that the bar to commit fraud is lowered. Aguilar argues lowering restrictions will "...come at the expense of investors and place investors at greater risk."

He's probably right. It's rational to assume more advertising will equate to greater fraud, but it's equally rational to believe the positive aspects of less regulation will outweigh the negatives. The timing of the rule change is ironic though.

In 60 days, the new rules become effective, and the timing may prove embarrassing for the SEC. About the same time as we begin to see solicitations for investments, a movie about security fraudster Jordan Belfort The Wolf of Wall Street hits the silver screens.

After the movie Boiler Room (reportedly inspired by Jordan Belfort's exploits) was released, I received more "hot stock tip" phone calls (or maybe I noticed it more), and I expect the same by the time The Wolf makes it onto DVD.

Investors should expect to see investment marketing just in time for the holidays. I can see it now, "A diamond is forever, and now you can buy the mine."

At the time of publication, the author had no positions in stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

Robert Weinstein is an active trader focusing on the psychological importance of risk mitigation, emotion and financial behavior of market participants. Robert co-founded the investing blog StockSaints, where he writes a journal about his trading activity and experiences.

In addition to TheStreet, Robert also contributes to Real Money Pro, providing real-time trading ideas for stocks, options and futures.

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