WASHINGTON -- With an eye toward shoring up shaky financial markets, Treasury Department officials unveiled a plan yesterday to provide greater transparency and management of risk in hedge funds.
However, the Bush administration's "best practices" proposal is voluntary, and fewer than two dozen of the more than 8,000 registered hedge funds signed onto the plan.
Hedge funds are large pools of investment capital owned by the wealthy. They are largely unregulated.
The plan, presented by Treasury Secretary Henry M. Paulson Jr., does not introduce new regulations. It depends instead on self-policing and good behavior by hedge fund managers - two qualities missing in recent years as Wall Street excesses have led to what former Federal Reserve Chairman Alan Greenspan recently called the worst global financial crisis since World War II.
A former chief executive officer of investment bank Goldman Sachs & Co., Paulson did not rule out the possibility of future regulation.
"Both market and regulatory practices will evolve from here, but this is certainly a logical step at this time," Paulson said. "We must implement best practices and continually seek to strengthen our market and regulatory practices."
Critics of the plan, such as Connecticut Attorney General Richard Blumenthal, say they believe it gives hedge fund managers, who helped devise the "best practices," a free pass.
"This plan is one small step when giant strides are needed. The Treasury Department's proposals for greater transparency and risk disclosure must be mandatory or they are meaningless," Blumenthal said. "Nonbinding best practices or voluntary guidelines are an imaginary fence and virtual farce: They stop nothing."
Many economists have warned that loosely regulated hedge funds pose a systemwide risk to financial markets, but so far they have emerged from the credit crisis in good shape. Instead, it has been the investment banks - their business partners - whose losses now pose risks to global finance.
Hedge funds require investors to have a minimum net worth of more than $1 million and prior-year income above $200,000. Investors also are required to have a minimum investment, matched by a small pool of partners, that can range from $250,000 to as high as $10 million.
These hedge funds are closed to small investors under the premise that only the rich can afford the risk of high hedge fund losses. The funds also offer far greater rewards to investors than are generally available through safer mutual funds and 401(k) retirement plans.
Although the average American cannot invest in hedge funds, which now boast more than $2 trillion in assets under management worldwide, state pension funds can and increasingly do.
This has raised concerns about accounting practices, fees, transparency and risk-management practices, particularly after the spectacular September 2006 collapse of Amaranth Advisors LLC. It had such a large concentration of investment in contracts for future delivery of natural gas that it was later charged by federal regulators with price manipulation.