Secondary Markets Expand Services

Terry Flanagan

The secondary market for hedge funds is experiencing a rebirth thanks to the Jobs Act, which lifted the ban on general solicitation for hedge funds.

“For 80 years, issuers have been constrained in their private capital raising efforts: allowed only to reach out to those potential investors with whom the issuer or the broker dealer engaged to assist with the offering have a pre-existing relationship,” said SecondMarket general counsel Annemarie Tierney in a blog post. “Thanks to the JOBS Act, all that changes, as the SEC’s rules allowing issuers to generally solicit go into effect.

The final rule approved by the SEC makes changes to Rule 506 to permit issuers to use general solicitation and general advertising to offer their securities provided that the issuer takes reasonable steps to verify that the investors are accredited investors, and that all purchasers of the securities fall within one of the categories of persons who are accredited investors.

Companies seeking to raise capital through the sale of securities must either register the securities offering with the SEC or rely on an exemption from registration under Rule 506.

Prior to the JOBS Act, exemptions from registration prohibited companies from engaging in general solicitation or general advertising – that is, advertising in newspapers or on the Internet among other things – in connection with securities offerings.

Trading of hedge fund shares using secondary platforms and providers has become increasingly popular in the last five years. Since the credit crisis, investors from across the investment spectrum have used the secondary market as a liquidity tool – with many now considering secondary platforms as a vital part of their investment process.

Hedgebay Trading Corporation, which provides a gateway for secondary market transactions, has launched an electronic settlement service for the hedge fund secondary market. The new electronic functionality will assist in the settlement process, significantly enhancing the transaction experience for users.

Hedgebay’s Electronic Settlement Service is expected to initially reduce overall trading time by up to an estimated 20%. Currently, secondary market participants rely on a manual trading and settlement process. Typically, a transaction takes at least 90 days to close.

“The ultimate endgame of this progression is being able to complete secondary trades in a single day. That is what Hedgebay is working towards,” said Hedgebay founder Jared Herman. “That point may be a while away, but the launch of the Electronic Settlement Service is a massive step in that direction. This is a glimpse into the future of the secondary trading industry.”

SecondMarket, a registered broker-dealer, is offering a general solicitation service that allows an issuer to offload much of the administration burden involved in closing a Rule 506 private placement – on-boarding potential investors, verifying their accredited investor status by through manual review of documents uploaded onto our platform, electronic transaction document execution, and funds transfer.

At the end of the verification process, SecondMarket will provide the issuer with a report for their files that certifies which investors were determined to be accredited. It will also maintain all materials provided by investors for three years in accordance with Finra’s books and records requirements.

“I am seeing a growing range of funds and startups taking advantage of the ability to publicly discuss the fact that they are raising capital,” Tierney said. “It is so exciting to see these issuers take the first steps into previously forbidden territory. The private placement market will never be the same.”

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