If Bernard Madoff's Ponzi scheme wasn't enough to get some investors fired up over hedge fund regulation, then the Vice President's "hedge fund hotel" scandal is sure to do it.
Ponta Negra Capital: The Black Hole
A hedge fund Ponzi scheme scandal is breaking in the blogosphere - and it goes right to the top of political power. A little while ago, blogger John Hempton, who writes Bronte Capital, a finance blog, started sniffing around Connecticut-based hedge fund Ponta Negra. Hempton didn't like what he found. After legal threats from the fund's lawyers, Hempton retreated until a court ordered a freeze on the assets of Ponta Negra fund manager Francesco Rusciano amid allegations he lied to investors to raise more than $30 million. After that, the blogger published his findings.
All of this would not be the biggest story on my blog except that Ponta Negra is marketed out of the office of Paradigm Global - a fund of hedge funds owned and controlled by Hunter Biden and James Biden. Hunter and James are the son and brother of Vice President Joe Biden respectively.It's important to point out here that the Bidens' Paradigm empire is in no way being implicated right now in any wrongdoing, and neither is the Vice-President himself.
Still, another dubious-looking connection to the affair is the head of marketing for Biden's Paradigm suite of funds, Jeffry Schneider. As Felix Salmon points out, Schneider had been fired from a series of financial services firms before landing the gig at Paradigm.
Salmon continues with an interesting suggestion:
This is the bucket-shop end of the hedge-fund world: small and sleazy and shadowy. But here's the thing: if you're a rich individual who's phoned up by Jeffry Schneider and told about some fabulous new hedge fund you should put lots of money into, he has a pretty good explanation for why it's so difficult to get any information on him and his company: under the laws banning the advertising of hedge funds, he's not allowed to give out much in the way of information.Regulating These Schemes Is Harder Than It Looks
As part of the forthcoming regulation of hedge funds I think there should be a lot of efforts to make them more transparent, rather than allowing them to use SEC regulations to justify their opacity.
But the only way to encourage this kind of transparency is through full-disclosure advertising and marketing. Even if it's not intended, that's the net result. As one commenter on Salmon's blog points out, the problem with wider disclosure is that "many of these investments are so damned complex you could make almost any claim and it'd be almost impossible to prove it false (advertising should be 'probably true'). So when "Joe Punter" sees the advert reading "invest in Fool's Gold Securities with 30% returns and no tax burden" they'll demand that the SEC allows them to invest too."
In other words, allowing advertising - or more "transparency" - of hedge funds is probably more trouble than it's worth.
Here's another problem. Once they fall under regulatory guidelines, the kind of profit potential that incentivizes hedge fund managers today will likely slowly fall away. That's because, as the average retail investor is given increasing access to different hedge fund products (at their own request), regulators will begin to restrict the level of risk that a fund manager can employ.
In that scenario, all that happens is exactly what happened in this case: a smart, politically-connected money-hungry quantitative trader gets together with a dubious, though talented marketing guy and a bunch of heavy-handed lawyers. Together they set up a corporate structure even more opaque than a simple offshore hedge fund, and begin trading off a political name.
It's unfortunate that scandals such as this one and Bernard Madoff's gigantic Ponzi scheme emerge, but it's important to keep such events in perspective. These types of frauds are common in any bull market. No amount of regulation has ever proven an effective remedy against frauds generated during boom times. In fact, more regulation has only perpetuated the size of them.
Sometimes, it's better just to write off the costs of frauds as part of the price paid for our excesses.