Op risk for hedge funds focus of PwC white paper

Report stresses transparency, tax and operational controls for the hedge fund industry

LONDON – Operational Risk: an alternative challenge is the title of a new paper looking at hedge funds by financial consultant PricewaterhouseCoopers (PwC). The sixth annual global hedge funds white paper looks at regulation, transparency, taxation and the distribution of hedge funds throughout the world.

The report says investor and regulatory pressure will require the industry to increase the transparency of its operational controls and procedures with its investors. Relatively unregulated hedge funds and their sophisticated investors are traditionally associated more with opacity and privacy than transparency or disclosure.

Graham Phillips, European hedge fund practice leader at PricewaterhouseCoopers, says: “Market volatility will cause investors to ask whether they have enough knowledge and comfort over the operational risks and controls at the hedge fund manager complex responsible for their investment.

“This does not mean the hedge fund manager has to make public the intricacies of the fund’s investment strategies, but it does mean the operational control environment must be sufficiently robust to withstand proper scrutiny.”

Last year’s report predicted the flow of money into the industry would encourage transparency, and tightened systems and controls. The UK this year published new hedge fund standards, while in the US the President’s working group has published best practices, providing benchmarks for appropriate controls frameworks.

“It has been interesting to see the industry voluntarily producing its own best practice standards, as it has done in the UK and as is currently being proposed in the US,” says Phillips. “It remains to be seen whether adherence to this self-certification framework of standards will meet both investors’ and regulators’ oversight and monitoring requirements.”

Robert Mellor, head of PricewaterhouseCoopers’ UK financial services taxation consultancy, says: “Managing tax liabilities will move centre stage as increasingly fiscally challenged tax regimes focus more and more on cross-border capital flows. Withholdings taxes, beneficial ownership, substance and permanent establishment risk are all weapons in the armoury of tax-seeking fiscal authorities from the developed world to emerging economies.”