Sec sends out a risk alert

SEC Issues Risk Alert on Investment Advisers’ Due Diligence Processes for Selecting Alternative Investments

01/28/2014 11:09 AM EST

The Securities and Exchange Commission’s Office of Compliance Inspections and Examinations (OCIE) today issued a Risk Alert on the due diligence processes that investment advisers use when they recommend or place clients’ assets in alternative investments such as hedge funds, private equity funds, or funds of private funds.
“Money continues to flow into alternative investments.  We thought it was important to assess advisers’ due diligence processes and to promote compliance with existing legal requirements, including the duty to ensure that such investments or recommendations are consistent with client objectives,” said OCIE Director Drew Bowden.
The alert describes current industry trends and practices in advisers’ due diligence. Compared to observations from prior periods, the staff noted that advisers are:

• Seeking more information and data directly from the managers of alternative investments
• Using third parties to supplement and validate information provided by managers of alternative investments 
• Performing additional quantitative analysis and risk assessment of alternative investments and their managers.

Additionally, staff observed certain deficiencies in several of the advisory firms examined, including:

• Omitting alternative investment due diligence policies and procedures from their annual reviews, even though these investments comprised a large portion of certain advisers’ investments on behalf of clients
• Providing potentially misleading information in marketing materials about the scope and depth of due diligence conducted
• Having due diligence practices that differed from those described in the advisers’ disclosures to clients. 

The following OCIE staff contributed to this Risk Alert:  John Sweeney, Kenneth Clowers, Zerubbabel Johnson, and Mavis Kelly.