Senate Panel Scrutinizes Hedge Funds

Senate Panel Scrutinizes Hedge Funds
Lawmakers are being urged to regulate the high-risk, high-reward funds

WASHINGTON -- Senators are being urged to regulate hedge funds, the high-risk investment pools that traditionally served the very wealthy but are increasingly luring ordinary investors.

The Senate Judiciary Committee is examining two complex hedge fund cases in a hearing Wednesday.

In one, a former attorney at the Securities and Exchange Commission who led the agency's investigation of a major hedge fund for possible insider trading says he was blocked by superiors when he tried to question a prominent Wall Street executive. The attorney was fired from his job last summer.

The other case involves allegations by a former employee of a research firm that it colluded with its hedge fund clients to issue biased research reports on companies.

Hedge funds have become more popular with small investors in recent years. Today thousands of hedge funds in the United States command trillions of dollars in assets and leave a wide footprint in the financial markets, as they are believed to account for as much as 20 percent of all U.S. stock trading.

Story Continues Below

At the same time, SEC regulators have seen an upswing in fraud among hedge funds, and the agency has been bringing more enforcement cases against them _ charging fund managers with defrauding investors of a total exceeding $1 billion in the last five years.

Attorney General Richard Blumenthal of Connecticut, where many hedge funds are based, says Congress must act to bring the burgeoning and largely unbridled industry under government supervision. A federal appeals court decision Friday that overturned the SEC's new regulation of hedge funds has left them in "a regulatory black hole," Blumenthal said in testimony prepared for hearing.

"If Congress fails to act, states will have to fill the void," Blumenthal said Tuesday in a telephone interview. "My hope is that Congress feels a sense of urgency about this problem."

The former SEC enforcement attorney, Gary Aguirre, also was called to testify at Wednesday's hearing. So was Demetrios Anifantis, a former employee of Gradient Analytic's predecessor firm, Camelback Research Alliance, who has accused the firm of conspiring with hedge fund clients to issue biased research reports on companies.

Aguirre says his firing from his job by the SEC last September was related to his efforts to take testimony in the probe of Pequot Capital Management Inc. from John Mack, the chief executive of investment house Morgan Stanley Inc. Mack, a longtime investor in Pequot and a friend of its founder, served briefly last year as the hedge fund's chairman.

No charges have been brought against Pequot, a hedge fund with some $6.5 billion in assets that is overseen by Arthur Samberg, a well-known money manager and philanthropist. Pequot has denied that there was any improper activity by the fund. The SEC investigation of the fund and Aguirre's accusations were first reported Friday by The New York Times.

SEC officials have denied Aguirre's allegation that Mack was spared from questioning because of his political ties as a major fundraiser for President Bush's campaigns. No one tried to exert improper influence, they have said.

Anifantis was a client relationship manager for Gradient's predecessor firm, Camelback Research Alliance. He was fired in November 2004.

A spokeswoman for Gradient, Karen Hinton, said Tuesday that the firm has raised "serious questions" with the Judiciary Committee staff "about the integrity of Demetrios Anifantis's testimony."

Lawyers for online retailer Overstock.com Inc. - which has sued Gradient and hedge fund Rocker Partners alleging stock manipulation - appeared to have played a role in writing Anifantis's testimony, Hinton said.

Overstock alleges in the suit that Gradient issued negative reports on Overstock in exchange for payments from Rocker, which sought to profit from a drop in the retailer's stock price. Gradient and Rocker have denied the allegations, which the SEC has been investigating.

Officials of Utah-based Overstock were not asked to testify at Wednesday's hearing. Gradient officials were invited, but declined, citing the litigation.

Overstock CEO Patrick Byrne, the leading political donor in Utah, has enlisted Gov. Jon Huntsman and state legislators in his campaign for a crackdown on short selling. The Rocker fund "shorted" Overstock shares, making a legal bet in 2004 that the stock price would decline.