fund of funds

Subscribe to fund of funds

The release adopting Rule 18f-4 (the “Adopting Release”) devotes an entire section to discussing how “a fund that invests in other registered investment companies (‘underlying funds’)” should comply with the value-at-risk (“VaR”) requirements of the rule. This post considers three circumstances in which a fund investing in underlying funds:

  1. Does not invest in any derivatives transactions (a “Non-User Fund-of-Funds”);
  2. Allows its derivatives exposure to exceed 10% of its net assets (a “VaR Fund-of-Funds”) ; and
  3. Limits its derivatives exposure to 10% of its net assets (a “Limited Derivatives User Fund-of-Funds”).

We use the term “Fund-of-Funds” for convenience, meaning to include funds that hold both direct investments and underlying funds in compliance with Rule 12d1-4 or other exemptions.

As we touched upon briefly in our previous post on the SEC’s recent Fund-of-Fund (“FOF”) rule proposal, proposed Rule 12d1-4 includes a provision that would limit an acquiring fund’s ability to redeem shares of an acquired fund. Specifically, proposed Rule 12d1-4(b)(2) would prohibit a fund that acquires more than 3% of an acquired fund’s outstanding shares from attempting to redeem more than 3% of the acquired fund’s shares in any 30-day period. Unlike most current exemptions from Section 12(d)(1), this limitation would apply to acquiring and acquired funds that are part of the same group of investment companies. However, the release asked for comments on whether to exempt funds within a group of investment companies from the limitation on redemptions.

On December 19, 2018, the SEC released a set of rule proposals (the “Proposals”) intended to streamline the regulatory framework for fund-of-funds (“FOF”) arrangements under the Investment Company Act of 1940 (the “1940 Act”). Investment advisers managing FOFs should consider looking closely with counsel at the impact these Proposals could have on their businesses and compliance programs. They might also consider responding to the substantive comment requests included in the Proposals.