While historically seen as an industry burden, perspectives have recently begun to shift on the topic of disclosure, particularly in light of new SEC rules. What is it that makes disclosure so powerful in improving investor relationships? Our latest article explores how asset managers can best grasp this opportunity.
On August 23, 2023, the SEC adopted a new set of wide-ranging rules for private fund advisors under the Investment Advisors Act of 1940. The new rules add an additional layer to the compliance and disclosure burdens that private fund sponsors are expected to carry.
However, while it is yet another layer for asset managers to consider, it also represents opportunity. This is because a culture of disclosure offers asset managers a unique chance to deepen their rapport with their investors - fostering a connection based on trust, participation and partnership. Not only is this an effective way in which to develop a working relationship, that trust can also be crucial when it comes to raising fresh capital, launching new products, and retaining investors as clients during periods of underperformance.
Radical transparency
For decades, many fund managers believed in operational secrecy, with the only data disclosed to their investors being that of monthly, quarterly and annual performance. How that was achieved – from investments, risk management and operations – was deemed to be a fund manager's 'secret sauce'.
Yet times have changed. Firstly, regulators have heightened expectations of what needs to be disclosed across a wide range of material information. Regulators have also detailed how these disclosures are to be made - for instance by, detailing that placing disclosures in a virtual data room is now insufficient. Managers now need to communicate that a disclosure has been made through a separate electronic notification.
Secondly, investors themselves now have much greater need for access to the data that is being disclosed. They want to know performance data at a positional level. They want to know the basis on which valuations are being calculated, and other information which informs their understanding of where performance is coming from.
They also have their own sustainability obligations, for which they need detailed information from all funds in which they invest. This could range from diversity and inclusion data, to the sustainability scores of underlying investments. Fund managers looking to raise funds from public pension plans, university endowments or other philanthropic endowments need to be prepared for levels of disclosure far greater than they may have been previously used to.
Fund managers are also increasingly expected to adhere to ESG principles when investing. The PRI, a UN-supported network of investors, works to promote sustainable investment through the incorporation of environmental, social and governance factors into investment decision-making. Fund managers sign up to the body and then agree to adhere to its principles. Two of the six principles (outlined below) are specifically around disclosure, demonstrating just how deeply intertwined the topic is with responsible investing.
- 'Principle 3: We will seek appropriate disclosure on ESG issues by the entities in which we invest'.
- 'Principle 6: We will each report on our activities and progress towards implementing the Principles'.
The number of fund management firms that have signed up to these principles has grown exponentially in recent times – a big indicator that market practice on ESG disclosure will further permeate the US fund management industry over the next decade.
Disclosure as a growth play
"You can't even start thinking about growth unless you have best practice operations and disclosure...it certainly needs to be institutional quality," says Daniel Max, Head of Global Solutions at TMF Group. "If you have attracted the interest of an institutional investor or a Limited Partnership (LP), you need to show that you understand the importance of disclosure, reporting, and giving your investors exactly the information they need. This shows you understand the need for LPs to get the information they're looking for, when they need it."
Disclosure can become a differentiator - if a manager is both streamlined and compliant with regulatory changes.
"Fund managers should invest in the right technology, which helps them to service the fund and quickly generate the increasingly detailed reports and disclosures that investors are looking for," says Max.
LPs are also welcoming the increased levels of disclosure that are coming from their allocations to General Partners (GP). "We appreciate the intention of the SEC's Private Fund Advisers final rule to promote greater governance, alignment and transparency across private funds," said Jennifer Choi, CEO of the Institutional Limited Partners Association (ILPA), the industry body for institutional investors. "We're heartened to see the rule take steps forward on fee and expense reporting and begin to address persistent conflicts of interest we've observed for some time, such as with GP-led secondaries transactions."
The direction of travel is clear: LPs and the regulatory authorities expect more disclosure, better disclosure, and more timely disclosure. That trend is not going away and managers would do well to embrace it.
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