Mad Men, the wildly popular AMC TV show about the fictional 1960s advertising agency Sterling Cooper Draper Pryce, is set in a haze of cigarette smoke, alcohol and chronically inappropriate behavior. Hedge funds, dating back to a similar era, have remained equally hazy to most Americans, as well as often being equally off-center in their behavior. Today, as a result of the JOBS Act (Jump-Start Our Business Start-ups), hedge funds are now allowed to advertise their products through the mass market. And, to further confuse consumers, hedge funds come in all flavors, all shapes and sizes. Speaking of them as a single asset class is akin to going to the zoo and telling the zookeeper, "I'm here to see the animal."
While the JOBS Act may be a "boom" for the media/marketing industry, it may also end up being a "bust" for consumers. This deregulation of hedge fund advertising, an unintentional consequence of the JOBS Act, will now expose consumers to the largely confusing world of hedge funds. Hedge funds were formerly restricted to marketing/communications with only those with whom they had had a previous relationship. This resulted in marketing to intermediaries -- expected to be sophisticated -- instead of the general public. While still restricted to accepting investors who are not "accredited," investments classified as hedge funds are now able to market to the public.
Most funds have created a proprietary and complex hedging strategy. To protect consumers, the SEC deemed this investment class as "complex" and thus limited these funds to sophisticated investors who could understand the risk/reward. These "accredited investors" were defined by the SEC as having more than $1 million in investable assets or earning more than $250,000. Many funds require this qualified standard. Whether or not meeting these requirements constitutes an "accredited" investor is the subject of another blog!
Where there is money to be made, there is money to be spent on creative advertising. Witness the marketing machine that is most of Wall Street and the confusion that has become a landmark of heated debate, lawsuits, and regulatory penalties. Hedge funds are likely to use this opportunity to lever Madison Avenue's prowess to market investments to consumers who are unable to understand the risk or unwilling to read the reams of "unreadable" and complicated disclosures that come with these investments.
With an almost unlimited variety of investment options, plus the potential for hedge funds to control their own advertising in the public space for the first time ever, even so-called "accredited investors" will be susceptible to becoming "accredited suckers," according to Steve Lockshin, co-founder of Advizent --a new firm focused on helping consumers figure some of this stuff out. They are creating a set of very simple standards that exemplify the measure of a true fiduciary with the capabilities to serve their client base. Advizent will provide a "mark" that identifies firms that adhere to the standard -- putting the consumer first, including operating without economic conflicts -- while ensuring these advisory firms can deliver top quality advice and service. Steve Lockshin and his co-founder, Charles Goldman, spoke to me of the "perfect storm" approaching, advising those wealthy investors and their advisors had better "build a house of bricks to prepare. Complex doesn't always mean better."
According to Charles, "If hedge funds begin to advertise, wealth managers, and other trusted advisors must begin educating their clients now. Not all funds are bad. Many are excellent. Advisors understand the differences and must be prepared to respond to their clients when they see the latest ads."
Most in the investment community worry that hedge funds (both large and small) may have the freedom to prepare slick advertising from an industry well-known for deep pockets and extravagant living. Heretofore, hedge funds have been mysterious, unknown and unavailable to most consumers as they were forbidden from generalized advertising.
Who will monitor the ads that hedge funds will put out? So far, the SEC must only ensure that the advertisements are in accordance with the rules and warnings about the "suitability" of the investors. This sounds like quintessential "small print." While hedge funds will still be restricted to selling their securities to accredited investors, the public at large will be battered with hedge fund advertising with little or no controls in place. Performance results and more are presently not part of the new rules and regulations. While there is still hope that the SEC will try provide more safeguards, for now the mantra is: "buyer beware."
To better understand this sudden change in market for hedge fund advertising, let's look at the changes in the advertisement of prescription drugs: Manufacturers used to only able to advertise to dispensing physicians, but are now allowed to directly market to consumers. This meant that patients who once relied on professional advice now could "diagnose themselves" and start asking for a prescription drug by name. "I can't sleep," patients now say. "I need Ambien."
Similarly now, consumers can call their financial advisers, bypass professional financial advice and demand to be invested in a particular hedge fund, the advertisement of which has caught their eye. What is the best strategy for consumers? For the answer to this, I went to Steve and Charles, each with decades of experience in the investment management industry; Charles having run two of the largest custodians and Steve as the current No. 1 ranked Independent Advisor in the nation according to Barron's.
Steve says, "As an industry, we have made it harder for consumers to protect themselves--not easier--through all of the disclosures required. At some point, it's overwhelming and people make decisions based on the summary that's presented to them by their advisor or broker."
Charles added, "Consumers have been disadvantaged by all of this disclosure, not protected. Since disclosure clearly isn't enough, the only way for investors to know that they are getting the right products is if their advisor is a true fiduciary, that is, is legally bound to always put their clients' interests ahead of their own." Mix "small print" and "mass market" and it's a recipe for potential disaster for investors.
When hedge funds, many of which have been prohibited from even having a website, are finally allowed to advertise to the public, how might high net-worth investors perceive their efforts? At first, these individuals may be skeptical of these attempts to "lure" them. However, a few good years of returns will bring the average investor begging for access as we've seen in tech stocks, for example. Conversely, there is a real opportunity in the hedge fund industry to create compelling messages to drive interest in specific funds or strategies. Social media platforms and a demographic shift toward a younger wealth makes this opportunity perfectly timed for some funds to on-board many new investors. Firms that can effectively communicate what might be complicated strategies in a concise and balanced manner should succeed.
The craziness of Madison Avenue advertising portrayed as in Mad Men has given way to professional organizations reaching consumers in new and interesting ways. Consumers focused advertising by the hedge fund world may be the equivalent of a Mad Men three-martini lunch following by a few packs of smokes -- you can ignore the warning labels to a point, but too much of this behavior could be the consumer's undoing.