Registered Funds Alert

May 2017

Table of Contents
Registered Fund Reforms Could
Support the New SEC Chair’s Mission to
Improve Capital Markets Access2

New SEC Chair Jay Clayton wants to improve accessto capital markets, both for private companies
looking to go public and retail investors looking forinvestment opportunities. In this Alert, we make a
few suggestions for the SEC to consider that would
allow registered funds, including ETFs, to support
this effort. Click here for more
The Time is Ripe to Re-Evaluate the
Burden on Registered Fund Directors

4

The SEC has been sending mixed signals regarding
its intent to reduce the burden on directors ofregistered funds. In this Alert, we highlight someindustry efforts to shift the SEC’s perspective andallow directors to focus on their oversight role, as
the Investment Company Act of 1940 originallyintended. Click here for more
Growing Academic Debate Over
6
Antitrust Concerns Involving Asset Managers
and Mutual Funds Piques PolicymakerInterest, But Includes Impractical Proposals
Policymakers have noticed the growing academic
debate over the antitrust implications ofinstitutional investors, such as mutual funds
and asset managers, owning stakes in multiplecompetitors in concentrated industries (such as theairline or banking industries). In this Alert, we pointout a few practical considerations that may inform
this debate. Click here for more
SEC Publishes Risk Alert on Top
8
Five Investment Adviser Compliance Issues
Found During Inspections
A recent OCIE risk alert outlined frequent issues
found in examinations of investment advisers.
Investment advisers and boards of registered funds
should take note of these issues. Click here for more
Notable Transactions: Q1 201710

A list of notable transactions that occurred in the firstquarter of 2017, including M&A transactions andclosed-end fund initial public offerings.
Click here for more
Simpson Thacher & Bartlett LLPThis latest edition of Simpson Thacher’s Registered Funds Alert discusses:
the potential role registered funds reform could play in supporting the
new SEC Chair’s mission to improve capital markets access; re-evaluating
the burden on registered fund directors; the growing academic debate
over antitrust concerns involving asset managers and mutual funds andpotential related policy changes; and the SEC’s published Risk Alert on the
top five investment adviser compliance issues found during inspections.

Registered Fund Reforms
Could Support the New SEC
Chair’s Mission to Improve
Capital Markets Access
President Donald Trump campaigned heavily on
promises to reform federal regulations. On May 3,
2017, the Senate confirmed the President’s nominee
for Chair of the Securities and Exchange Commission(“SEC”), Jay Clayton. Chair Clayton has indicatedthat he intends to play a key role in helping President
Trump fulfill those promises to deregulate. Chair
Clayton joins a short-handed SEC, which has been
operating with only two Commissioners since
January, when former Chair Mary Jo White resigned,and has lost a number of senior staff members since
the election, including the heads of multiple divisions
and offices within the SEC.1
During Chair Clayton’s nomination hearing on March
23, 2017, before the Senate Banking Committee, he
was questioned by senators about his views on a wide
range of matters, including his philosophy regarding
enforcement and rulemaking, and his potential
conflicts of interest. In this Alert, we will focus ona particular theme that dominated Chair Clayton’s
testimony—access to capital markets.

said that the fixed-cost nature compliance createsa disproportionately heavy burden for smaller andearly-stage companies, and that these regulatorydriven costs make public offerings less attractive tothose companies. He concluded that well-functioning
capital markets benefit all Americans, and thatall Americans should have the opportunity toparticipate in our markets. In other words, when
younger companies have IPOs, the general investing
public gets to participate in the growth of thecompany to a greater extent than when companies gopublic after they are more mature.
While Chair Clayton did not specifically discuss
registered funds and asset managers in relation to
his vision for capital markets reform, they could
be critical facilitators of capital markets access.
According to the 2017 Investment Company Fact
Book (“Fact Book”) published by the Investment
Company Institute (“ICI”), more than 93 million
Americans (44% of U.S. households) have invested
over $19 trillion in mutual funds and exchangetraded funds (“ETFs”). Registered funds and their
managers operate under heavy regulatory burdensthat have only increased in recent years. Accordingly,
Chair Clayton’s stated principle of ensuring thatall Americans have the opportunity to participate
in capital markets certainly would be furthered by
supporting reforms for registered funds.
Reduce Burdens on ETFs
One possible set of reforms for Chair Clayton toconsider relates to exemptive relief requirements
and listing standards for ETFs. ETFs are one of thefastest growing types of registered funds, with total
net assets increasing almost eight-fold in the pastten years, to nearly $4 trillion according to recent
reports. However, much of that growth has been
concentrated in a handful of key industry players,
at least partially as a result of the high regulatory
barrier to entry into the marketplace caused byexisting regulations.

In his prepared remarks and in many of his
responses, Chair Clayton laid out his vision forclearer and leaner regulation, focusing on the thesisthat complexity creates confusion and inflates thecost of compliance for companies. Throughout
his testimony, Chair Clayton repeatedly stated
his belief that the complexity and upfront costs ofinitial public offerings (IPOs), as well as continuing
compliance costs, are the main factors discouraging
companies from going public. Chair Clayton also
1. On May 9, 2017, Chair Clayton filled the first of those vacancies, theposition of Director of Corporation Finance, with retired Simpson Thacher
partner William Hinman.

One significant barrier to entry is that ETFs currently
require exemptive relief from the SEC in orderto operate. Historically, most ETFs that received
exemptive relief have tracked a specific index of
securities (such as the S&P 500). More recently, theSEC has granted relief for actively managed ETFs
that meet certain conditions. The exemptive orderprocess can be expensive and time consuming.
While the SEC proposed some rules to govern ETFs
in 2008, no rules were ever adopted. The time isripe for the SEC to adopt exemptive rules that would
allow ETFs that generally meet the conditions intypical ETF exemptive orders to operate withoutobtaining an exemptive order.
2

Another key regulatory burden for ETFs relates
to listing standards. As ETFs are listed on
securities exchanges, they must meet the listing
standards of an exchange in order to list. The
SEC has approved generic ETF listing standards
for various exchanges that allow listing of index
ETFs, and recently, actively managed ETFs, thatmeet the generic standards at the time of listing.
For ETFs that do not meet the generic standards,
an exemptive order must be obtained from the
SEC in order for the ETF to list. However, in 2016
several securities exchanges approached the SEC
for approval of continuous listing standards, which
impose ongoing requirements for ETFs. Industry
advocates failed to convince the SEC that many of
the ongoing requirements would impose significant
new compliance burdens on ETFs, which would
be difficult to implement and likely would raise
the cost of ETFs. In addition to increasing the costof investing in existing ETFs, the new continuous
listing standards may add another barrier to entry
for new ETFs. The continuous listing standards go
into effect later this year.
Given the increasing extent to which retail investors
have demonstrated familiarity and comfort with thestructure of ETFs, reducing barriers to entry into thespace would clearly further Chair Clayton’s goal of
improving access to capital markets.
Increase Retail Investor Access to Private Companies
Another way for Chair Clayton to expand retailinvestor access to growing companies would be
to make it easier for them to seek investment
exposure to private companies. Currently, retailinvestors can gain access to investments in privatecompanies through registered funds that invest
in hedge funds and private equity funds, but
the SEC generally requires that such funds only
be offered to “accredited investors.” Individual
investors must have earned $200,000 in annual
net income in the past two years or hold $1 million
in net worth, excluding their primary residence,
to meet the accredited investor standard. While
it is understandable that the SEC would want toensure that investors in such funds are sophisticatedenough to understand, and wealthy enough to bear,
the risks associated with the types of investmentsthat hedge and private equity funds make, thishigh qualification hurdle obviously reduces theability of retail investors to gain exposure to privatecompanies through registered funds of hedge funds
and private equity funds.

to improve access to private companies, the SEC
may have significant concerns about appropriate
safeguards to prevent end runs around the statutory
constructs for private funds. That said, the SEC also
could make it easier for retail investors to invest in
private equity or hedge-like investments without
raising such concerns. Specifically, by permitting
registered funds to co-invest more efficiently intransactions alongside private funds, the SEC
could meet Chair Clayton’s goal of providing accessto retail investors to younger companies while
not undermining important investor protection
concerns. Currently, SEC no-action guidance allows
registered funds to co-invest alongside private funds
if the only term being negotiated in the transaction is
price. In any other scenario, including most types ofinvestments in private companies, a registered fundmay need an exemptive order from the SEC, which
is a costly and time-consuming proposition. An
exemptive rule under Section 17 of the Investment
Company Act of 1940, as amended (“1940 Act”),
allowing additional types of co-investments, oreven codifying the exemptive relief that has been
granted to several companies, would immediately
enhance retail investor access to private companies.
Because the existing exemptive relief requires thatfunds not be disadvantaged vis-à-vis private fundswith which they co-invest, such a change would
also be consistent with the SEC’s mission to protect
investors, maintain fair, orderly, and efficient
markets and facilitate capital formation.
***
These are just two potential ways that Chair Clayton’sgoal of increasing access to capital markets could
tie in with reforms for registered funds. Indeed, we
believe that, given the role of registered funds in thesavings, retirement and investment accounts of retailinvestors, the SEC would be well-served to focus onregistered funds in the coming years as a primary
driver to bring Chair Clayton’s goals to fruition.

We acknowledge that while simply lowering the bar
for retail investors to invest in funds that invest inhedge funds and private equity funds is one way
3

The Time is Ripe to
Re-Evaluate the Burden on
Registered Fund Directors
Because mutual fund boards oversee an outsourced
business model – i.e., because all actions taken on
behalf of a fund are by agents, not employees – amutual fund board is by design an oversight board.
As such, day-to-day management of actions takenby those agents, such as the investment adviser,administrator or distributor, is not properly within
their purview. Given this design, a classical viewof the role of the fund board is one that focuses onoversight of conflicts of interests between the funds
they oversee and those agents that have contractual
relationships with the funds.
Historically, this conflict of interest view has been
embodied in both the statutory design of the 1940
Act and the rulemaking thereunder. For example,
directors are charged with reviewing advisory
contracts on an annual basis under the 1940 Act, andfor blessing affiliated cross-trades under a rule underthe 1940 Act. Over time, however, the SEC has placed
growing responsibilities on directors of registeredfunds. In some cases, these responsibilities
relate to conflicts of interest oversight. In others,
these responsibilities veer closer to day-to-day
management. The responsibilities that boards feelthey must shoulder sometimes stem from exemptive
orders, informal Staff guidance, administrative
actions or even speeches or remarks by SEC officials.
Even if one were to grant arguendo that each
responsibility placed on a fund board is appropriate,in the aggregate the sheer volume of theserequirements impedes a fund board’s ability to focus
on the key issues that it was intended to handle.
Industry groups, and the SEC, seem to recognize thatit may be time to revisit some of the requirements
imposed on fund directors.
Time for the SEC to Take Action
It has been 25 years since the Division of Investment
Management (the “Division”) issued a formal
report that included recommended reforms
regarding the role of fund directors. In framing its
recommendations, the report noted that “in order toallow directors to devote their time and attention to
truly important matters, we believe that provisions
that require directors to conduct reviews and [makedetailed] findings that involve more ritual thansubstance should be eliminated.” Nine years ago
it appeared as though the Division was on a pathto produce a similar report based on the “Director

Outreach Initiative” during which the Division’s thenDirector, Andrew J. Donohue, attended numerous
meetings with fund boards and received many
comments from various stakeholders on board
responsibilities. Unfortunately, unlike the previous
initiative in 1992, no formal report was issued as
the financial crisis quickly diverted the Division’s
attention to more immediate and urgent matters.
During the ICI’s annual mutual funds conference inMarch 2017, Amy Lancellotta, Managing Director of
the Independent Directors Council (“IDC”), indicatedthat the IDC intended to push the SEC to revisit andpublish a report building off of the Division’s work
during Mr. Donohue’s tenure.
It appears as though the Division may finally bemoving toward taking some action to reduce theburden on directors. Shortly after Ms. Lancellotta’s
remarks, during the Practicing Law Institute’s
Investment Management Institute in March
2017, the Division’s current Director, David Grim,
responded to a question regarding reassessing board
responsibilities by stating:“ … One of the … great developments in the asset
management industry has been the compliancerule and what it has spawned in terms ofenhanced compliance within the industry andin certain targeted ways I think … we’ve kindof tried to calibrate things where the board role
recognizes the existence of the CCO and thecompliance rule. But a lot of our rules predate
the existence of the compliance rule aroundboard obligations and so I think this is an
important topic for IM and potentially for theCommission to spend some time thinking about
and try to see if we can come up with ideas toenhance the way boards oversee funds.”
To the extent that the Division is actively considering
reducing the burden on fund boards, it should begin
with the still-relevant recommendations of the IDC
and the Mutual Fund Directors Forum (the “MFDF”)
made in 2008 in response to the earlier Director
Outreach Initiative.
In a 2008 letter to the Division, the IDC raised
points similar to Mr. Grim’s recent remarks. In
particular it stated, “[i]n many instances, the matters
are already being well handled by the fund CCO, andboard-level review has become an unnecessary andduplicative layer on a well-functioning system.” Asa result, the IDC made specific recommendations
for Rules 10f-3, 17a-7, and 17e-1 under the 1940 Act
that would (i) shift review of quarterly reports to aperson designated by the board (such as an employeeof the investment adviser), rather than to the board
itself and (ii) allow a designee to approve changes
to the policies and procedures under such rules and4

report material changes to the board. Similarly, the
IDC suggested that a board did not need to receive
reports under Rule 17f-5 (foreign custody), but rather
such reports should be provided to a designee. The
IDC also recommended that the requirement under
Rule 22c-1 that a board set the time or times during
the day that a fund’s net asset value is computed bereassigned to the fund’s investment adviser. Finally,
the IDC also commented on what must be discussed
in shareholder reports regarding the factorsthat form the basis for a board’s approval of aninvestment advisory contract. Specifically, it advised
eliminating the discussion of whether a board relies
upon comparisons of the services to be rendered andthe amounts to be paid under an investment advisory
contract with those of other types of clients, suchas pension funds or separately managed accounts.
The IDC argued that these comparisons may not
be relevant to a board’s consideration of a fund’sinvestment advisory agreement but still require timeand resources to address during the Section 15(c)process.
In addition to the IDC’s efforts, the MFDF offered
several recommendations in its own 2008 letter
sent in response to the Director Outreach Initiative.
It identified a number of responsibilities that werepotentially too detail-oriented (to the point ofpossible distraction), such as (i) the quarterly reviewof amounts expended under Rule 12b-1 plans, (ii) the
mechanics of making fair value determinations and(iii) review of routine transactions involving certain
affiliates. The MFDF believed that these burdens
could be reduced by either (i) eliminating or scaling
back these requirements or (ii) providing boards
with more freedom to delegate, which would allow
boards to “manage their own operations and focus
on those areas and activities they believe provide themost benefits to their shareholders.”
SEC Rulemaking Proposals Send Mixed Signals
While Mr. Grim’s remarks indicate a potential
willingness on the part of the SEC to reduce theburdens on fund directors, the SEC’s 1940 Act rule
proposals in 2015 and 2016 indicate otherwise. Rules
and proposals regarding liquidity risk managementand derivatives proposed to add specific duties tofund boards that either could fall appropriately
under the framework of Rule 38a-1 (the compliancerule) or appeared to involve day-to-day management
oversight. In commenting on the proposed
derivatives rule, for example, the IDC and others
took issue with several aspects of the proposed
rule, including questioning the need for the board
to approve specific policies and procedures or makedeterminations relating to portfolio management
and investment risk management functions. The IDC

argued that if a fund wanted to rely on the proposed
rule, it would need to concurrently comply with Rule38a-1 and adopt policies and procedures reasonably
designed to prevent violations of the proposed ruleand the board would be required to approve suchpolicies and procedures and oversee compliancewith them. As a result, mandating specific approvals
under the proposed rule was neither necessary nor
warranted. The MFDF echoed this sentiment in its
2016 comment letter and stated that by “imposing
these duties directly, rather than making themsubject to section 38(a) of the Act, the Commission
appears to be suggesting that boards have a more
direct role than just overseeing the fund’s compliancewith applicable laws.”
As with proposed derivatives rule, the IDC and
MFDF also took issue with certain aspects of therecently adopted “swing pricing” rule that theyfeared potentially placed additional managementlike responsibilities on a fund board. Under Rule
22c-1, effective November 19, 2018, an open-end
fund may, under certain circumstances, use “swing
pricing” to adjust its current NAV per share forcertain shareholders to mitigate dilution as aresult of their purchase or redemption activity.
However, for a fund to avail itself of this flexibility,
its board must specifically sign off on a litany ofitems including (i) the swing pricing policies andprocedures, (ii) the swing thresholds and upper limiton the swing factors used, (iii) designation to thefund’s investment adviser or an officer responsible
for administering the swing policies and proceduresand (iv) reviewing no less frequently than annuallya written report prepared by the designee who
administers the swing policies and procedures.
Consistent with its 2008 letter, in its 2016 comment
letter regarding the swing pricing rule, the IDC
recommended that while the board can oversee
swing pricing processes, the investment adviser,rather than the board, should designate the person
responsible for administering the swing pricing
policies and procedures so as to avoid being drawn
into management-level decisions. Similarly, in its
2016 comment letter, the MFDF encouraged the
SEC to “assign directors a role that is consistent
with their using their business judgment to oversee
funds on behalf of the fund’s investors and be careful
not to give directors and boards operational-type
responsibilities.” A review of the adopting release
for the swing pricing rule indicates that the SEC was
not convinced by these arguments, and the board’s
responsibilities under the rule were largely adopted
as proposed. With respect to the recently adopted
liquidity risk management rule, however, similararguments were at least partially accepted by the
SEC, as the adopting release clarified that a board is
responsible for general oversight, but not for changes
5to a liquidity risk management program or setting afund’s highly liquid investment minimum.
If the Division considers streamlining board
responsibilities, it should not only begin withthe still relevant recommendations of the IDC
and MFDF made in 2008, but also consider theaggregate burden on boards in pending and futurerulemakings. We believe a guiding principle
for board oversight is one that requires board
intervention primarily where there is a possibilityof a conflict of interest between the interests ofa service provider to a fund and the fund itself.
Furthermore, such conflicts should be evaluatedin light of the likelihood that such conflicts will
disadvantage the fund, and not merely on thepremise that a conflict could exist in theory where
it will not in practice. We also observe that industry
participants often resolve thorny regulatory issues
by proposing to the SEC that, instead of prescriptive
rules with respect to certain practices, the SEC
should simply leave an issue to a board to oversee.
It will be in the ultimate long-term interest of allindustry participants, including the regulator, if
boards are freed up to focus on the issues of greatest
importance to fund investors.

Growing Academic
Debate Over Antitrust
Concerns Involving AssetManagers and Mutual
Funds Piques PolicymakerInterest, But Includes
Impractical Proposals
In our November 2015 Alert, we highlighted two
academic papers that raised antitrust concerns
related to investments by mutual funds and asset
managers in competitors within concentrated
industries, such as the airline or banking industries.
Currently, passive investors enjoy an exemption fromthe Clayton Act, which is one of the federal antitrust
statutes, on the theory that a purchase of a security
by a person for investment purposes – rather thanfor purposes of exercising control – does not giverise to anticompetitive concerns with respect to theportfolio company’s industry. The academic papers
laid the groundwork for questioning the availabilityof the passive investor defense for institutional
investors, such as mutual funds and asset managers,
based on the theory that they may not be truly“passive,” and “horizontal ownership” could reducethe incentives for portfolio companies to compete(which could explain, for instance, the increase infares in the airline industry).
Since we initially addressed the topic, additional
academic papers have been published, bothsupporting and disputing the anticompetitive effectof such investments, and some policymakers havetaken an interest in the issue. For example, Bill Baer,
former Assistant Attorney General for the Antitrust
Division of the Department of Justice, testified
before a Senate subcommittee in March 2016 that the
Department was “looking at” the issue of horizontal
ownership in more than one industry. Additionally,
SEC Commissioner Kara Stein specificallymentioned asset managers’ ownership of competingcompanies as raising potential transparency anddisclosure issues in her speech at the annual SEC
Speaks conference, and Senator Amy Klobuchar(D-MN), ranking member on the Senate Antitrust
Subcommittee, noted in a March 2017 speech that it
is “easy to see” how such cross-ownership could hurt
consumers.
This issue seems to have garnered attention frompolicymakers after the New York Times publishedan opinion piece in December 2016 by the authorsof an academic paper that proposes restricting theability of institutional investors to own stakes incompeting companies in concentrated industries.
Some have cautioned policymakers from relying on
the early academic papers until further research isdone. For example, BlackRock published a ViewPointin March 2017, noting that the academic researchignored practical considerations and the realitiesof the asset management business. Additionally,an economic paper by Daniel P. O’Brien and Keith
Waehrer published in February 2017 found several
flaws in the early academic studies and argued that
it is premature for policy to be made when muchwork needs to be done to demonstrate whether there
may be a causal relationship between horizontal
shareholding and decreased competition.2 In thisAlert, we address the policy proposal set forth in that
New York Times opinion piece, and the underlying
academic paper, which suggest imposing a limit on
the ability of mutual funds and asset managers toinvest in concentrated industries. Our view is thatthe proposal would create significant market risks
that could outweigh any benefit.
Rise of Institutional Investors
The New York Times opinion piece and academic
paper by the same authors note that institutional
investors, including asset managers and mutual
2. The authors of this economic paper acknowledge that the ICI partially
funded their research, without substantive input.
6

funds, own approximately 70% of U.S. publicly
traded stocks, whereas in 1950 that figure was
7%. The authors also state that the rise of theinstitutional investor has “undercut middle-classliving standards.” What the authors fail to note,however, is that a large part of this growth is due tothe fact that mutual funds are now owned by average
investors. According to the ICI’s Fact Book, over
44% of U.S. households own investment companies(up from 4.6% in 1980), and retail investors own
89% of fund assets. Among households that own
mutual funds, 51% have household incomes of lessthan $100,000 and 89% have household incomes of“Institutional investors, including asset
managers and mutual funds, own approximately
70% of U.S. publicly traded stocks, whereas in1950 that figure was 7%.

”

less than $200,000.3 Since 1980, the percentage ofhousehold assets held in mutual funds has increased
from 3% to 22%. As the industry has grown, feesand expenses have shrunk, falling by 36% in thiscentury. In other words, average retail investors
have drastically increased their reliance on mutual
funds to access investment opportunities, and thoseinvestment opportunities are available to suchinvestors in increasingly cost-effective ways.
The Policy Proposal
Academics Eric A. Posner, Fiona Scott Morton
and E. Glen Weyl authored an academic paper in
November 2016, and the opinion piece referenced
above, in which they essentially propose thatmutual funds and asset managers be limited toeither (i) investing in only a single issuer within aconcentrated industry or (ii) owning less than 1%of the total size of a concentrated industry. Basedon recent academic papers, examples of potential“concentrated industries” include the airline andbanking industries. The proposal would apply the
1% industry cap to an asset manager’s clients in theaggregate, meaning that all of the registered funds ina fund complex would have to share that 1% exposure
with any private clients (but there would be no cap if
all clients were invested in a single issuer from thatindustry).

3. While there is no formal definition of “middle-class,” the Pew ResearchCenter has used the range of two-thirds to double the national medianincome, adjusted for household size. For example, based on 2014 data, afour-person household would be deemed “middle-class” if its income ranged
from approximately $48,000 to $144,000.

Impact on Diversification and Index Funds
The authors acknowledge that their proposal could
be interpreted as conflicting with modern portfolio
theory and the widely accepted principle thatdiversification, which reduces exposure to individual
issuers, is a key component of smart investing andrisk management. However, the authors downplay
the cost of the reduced diversification as “minimal.”BlackRock, in its ViewPoint piece, took issue
with this characterization of the costs of reducing
diversification. For example, BlackRock points to acomparison of the annualized return and volatilityof various sectors against the single issuer withthe largest market capitalization in each sector as
an illustration of how investing in a single issuer
generally presents greater volatility risk and does notalways mirror the sector’s investment performance.
In their opinion piece, the authors of the proposed
restrictions unwittingly provided the perfect
example of why diversification is important:“Large institutional investors could still provide
cheap, diversified mutual funds to consumers
under our proposal because the benefits ofdiversification within an industry are tiny
compared with diversification across industries.
A fund owning United Airlines can diversify withholdings in Walgreens; it does not need to own
Delta as well.”As recent incidents involving United Airlines haveshown, concentration in a particular issuer can be
extremely risky and subject investors to increased
volatility. United Airlines’ stock price reportedly fell
as much as 6.3% in a single day after a passenger was
forcibly removed from a flight and disturbing footageof the incident spread virally across the internet
and media outlets. Similarly, a large national bankrecently saw its stock price decline to an even greater
degree in the wake of a regulatory enforcement
matter and accompanying negative media coverage.
If an investor needed to redeem their investment
in an index fund, particularly one that focuses on
the financial sector, shortly after those incidents,
the value of their investment would have beensignificantly lower if the fund were concentrated in
the bank or airline in question rather than one thatwas truly diversified. Further, as noted above, funds
concentrated in a single bank or airline may not havebeen able to exit their positions, and if they were able
to, might have theoretically created extraordinary
downward pressure on the issuer’s stock price.
The authors also appear to acknowledge that their
proposal would disproportionately affect funds that
seek to track an index of securities. Index funds arewidely regarded as a low-cost way for retail investors7

to diversify their portfolios and gain exposure to
broad market sectors. Many of the market’s largest
index funds are run by the largest asset managers,
several of which manage in excess of a trillion dollars
of client assets. If these large index fund managers
had to comply with the proposed restrictions, absurd
results would occur. Index funds that track the S&P
500 Index currently invest more than 5% of theirassets in banks to track the weighting of the index.
If all bank holdings for these managers’ clientsneeded to be concentrated in a single issuer, thelargest S&P 500 index fund currently offered would
need to invest upwards of $10-12 billion in a single
bank. Further, if the manager’s other clients wanted
exposure to the banking industry, that concentrated
exposure would be much higher, and may even resultin the manager’s clients holding a significant, andpossibly even a controlling, position in the issuer.
For example, if a hypothetical manager’s clients,
in the aggregate, were to own 5% of each of theten largest airlines, consolidating those positions
into a single issuer could result in the manager’s
clients owning 30, 40 or even 50% (or more) of one
airline. Not only would that mean that the asset
manager could no longer be treated as a “passive
investor” for antitrust purposes, but in that scenario
the asset manager’s fiduciary duties to its clientsmight require it to take an active role in the airline’s
management. Additionally, a fund so concentrated
in an issuer could face significant obstacles todivesting its position to meet redemption requests
or to shift assets to another issuer in the same
industry, including Securities Act of 1933 restrictions
on the ability of large shareholders to dispose of
their positions.

SEC Publishes Risk Alert on
Top Five Investment Adviser
Compliance Issues Found
During Inspections

This example raises another issue that would arise
under the proposals. A large part of the reason
index funds are low-cost investment options is thatinvestment decisions are largely pre-determined,as the fund tracks its index and does not requiresignificant active management with respect to its
investment portfolio. In a world where an index fundmight be limited to a single issuer in a given industry
in order to track the exposure of its index, managers
would presumably, in the exercise of their fiduciary
duties, need to conduct research and diligence toinvest in the issuer that they believe is the best
investment for the fund. This likely would result inincreased costs for index funds.

Compliance

While it remains to be seen whether further study
finds any measure of causality between horizontal
shareholding and competition in concentrated
industries, the policy proposals put forth thus far are
not the answer, as they could have disastrous effects
on equity markets and reduce access to investment
opportunities for average retail investors.

In February the Staff of the SEC’s Office ofCompliance Inspections and Examinations (the“OCIE Staff”), issued a National Exam Program Risk
Alert (“Risk Alert”) presenting the five compliance
topics most frequently identified in deficiency lettersthat were sent to SEC-registered investment advisers.
The Risk Alert sampled over 1,000 examinations of
SEC-registered investment advisers conducted over
the two years prior to its release. The deficiencies
and weaknesses concerned certain requirements of
the Investment Advisers Act of 1940, as amended,
related to:• compliance requirements under Rule 206(4)-7;• required regulatory filings;• custody requirements under Rule 206(4)-2;• code of ethics requirements under Rule
204A-1; and• books and records requirements under
Rule 204-2.
Although the Risk Alert is focused on investment
advisers, boards and investment advisers ofregistered funds should be aware of these issues.

The Risk Alert highlighted a frequent lack ofattention to maintaining up-to-date and tailoredcompliance policies. Specifically, the OCIE Staff
detailed the frequent occurrence of compliancemanuals that are “off-the-shelf” template manuals.
These types of manuals generally are not reasonably
tailored to the investment adviser’s businesspractices because they fail to take into account
important individualized business practices suchas the investment adviser’s particular investment
strategies, types of clients, trading practices,valuation procedures and advisory fees. Relatedly,
many such policies are not reviewed annuallyor updated in response to changes in strategies,
personnel or applicable regulations. As registeredfunds are required to adopt compliance policies
and procedures under Rule 38a-1, and the SEC
is increasingly requiring specific policies andprocedures under new SEC rules, such as the recent
liquidity risk management rule, it is important for8

an investment adviser to have an established process
for developing and updating its compliance manual
to ensure it is appropriately tailored to its business.
Similarly, boards are required to approve compliancepolicies and procedures and should have an
understanding of the investment adviser’s process.
Regulatory Filings
With respect to regulatory filings, the Risk Alert
focused on inaccurate disclosures and untimely
amendments to disclosures. The OCIE Staff notedthat investment advisers made inaccurate disclosures
on Form ADV Part 1A or in Form ADV Part 2A
brochures, such as inaccurately reporting custodyinformation, regulatory assets under management,
disciplinary history, types of clients and conflicts.
Many investment advisers also failed to amend
promptly their required disclosures as a result ofmaterial changes.
Custody
The OCIE Staff found that investment advisers
frequently did not recognize that they may havecustody as a result of having (or related persons
having) powers of attorney authorizing them towithdraw client cash and securities, including wheninvestment advisers or their related persons served
as general partners of pooled investment vehicles,or having access to online accounts using clients’personal usernames and passwords. The Risk Alertalso highlighted that for many firms, surprise audit
examinations did not meet the requirements of thecustody rule, for technical reasons and also because
surprise examinations were not actually being
conducted on a “surprise” basis (e.g., exams occurred
during the same month every year). The Risk Alert
highlights that custody issues continue to be afocus of OCIE Staff, several years after the Madoff
scandals, and this focus almost certainly carries over
to examinations of registered funds.

Code of Ethics
The OCIE Staff reported that many investment
advisers’ codes of ethics were deficient because theyfailed to identify all access persons, specifically
call for review of holdings and transactions reports
submitted by access persons, or did not identify
the specific submission deadlines for such reports,
as required. Further, the Risk Alert observed thatcertain access persons submitted transactions andholdings less frequently than required and thatmany investment advisers’ ADVs did not include
descriptions of the firm’s code of ethics.
Books and Records
The Risk Alert observed that certain investment
advisers had errors and omissions in their books andrecords, such as inaccurate fee schedules and client
records or stale client lists. Additionally investment
advisers commonly failed to maintain all the books
and records required by the rules, such as traderecords, advisory agreements and general ledgers.
Takeaways
The findings of the Risk Alert are helpful inunderstanding the issues on which the SEC iscurrently focused. Investment advisers, whether or
not they have been examined, would be well advised
to review their policies and practices and in light of
the Risk Alert’s findings. Further, the Risk Alert canbe useful in reviewing a registered fund’s compliance
as well. Funds have many similar requirements
under the 1940 Act and, as a result, have their own
policies and procedures that should be reviewed.
Though they are separate from the investment
adviser’s policies, they generally are administeredby the fund’s investment adviser. If the investment
adviser has issues with its own policies, it’s possiblethat such issues could impact any funds managed by
the investment adviser as well.

9

M&A Transactions
Acquiror

Acquired or
Target Company

Type of Transactionand Status

Adviser Investments, LLC,
a money management firm withapproximately $4.5 billion AUM

Braver Wealth Management, LLC, an
investment management firm with approximately$200 million AUM

Acquisition(terms not disclosed)

Alger Associates, Inc., the parent
company of Fred Alger Management,
Inc. with approximately $19.5 billion
AUM.

Weatherbie Capital, LLC, a specialized growthequity manager with $800 million AUM

Acquisition(terms not disclosed)

BlackRock, Inc., an investment
management company withapproximately $5.1 trillion AUM

First Reserve Infrastructure Funds, the equity
infrastructure franchise of First Reserve withapproximately $3.7 billion AUM

Acquisition (terms notdisclosed). Expected to closeby the end of second quarter
2017

Cantor Fitzgerald Investment
Advisors, L.P., an investment
advisory firm owned by Cantor
Fitzgerald L.P.,

Efficient Market Advisors, an asset
management firm with approximately $1.1 billion
AUM

Acquisition. Efficient Market
Advisors will become adivision of Cantor Fitzgerald
Investment Advisors, L.P.

Citadel Finance SA, is a wealthmanagement firm with approximately$25 billion AUM

Trillium SA, a boutique independent asset
management firm with approximately $2 billion
AUM

Acquisition (terms notdisclosed; Citadel Financeand Trillium will continue
to operate as two separate
entities.)

Congress Asset Management,
an investment management firm withapproximately $8.1 billion AUM

Century Capital Management, a registeredinvestment adviser with approximately $670
million AUM

Acquisition(terms not disclosed)First Midwest Bancorp, Inc.,a financial institution withapproximately $9.5 billion AUM

Premier Asset Management, LLC., an
investment advisory firm with approximately $550
million AUM

Acquisition(terms not disclosed)

Fifth Third Bank, a diversified
financial services company withapproximately $27 billion AUM

Retirement Corporation of America, aretirement planning firm with approximately $500
million AUM

Acquisition(terms not disclosed)

Focus Financial Partners,
a partnership of independent wealthmanagement firms with approximately$60 billion AUM

Crestwood Advisors, an investment advisory
firm with approximately $587.5 million AUM

Acquisition(terms not disclosed)

Goldman Sachs’ Petershill II, LP,an alternative capital vehicle owned
by Goldman Sachs Asset Management
International Ltd with $262 billion
AUM, and Wafra Investment Advisory
Group, Inc. which is owned by the
Public Institution for Social Security of
Kuwait with $15 billion AUM

Arclight Capital, a private equity firm with $9.62
billion AUM

Acquisition of minority stake(terms not disclosed)

10

M&A Transactions (continued)
Acquiror

Acquired or
Target Company

Type of Transactionand Status

HNA Capital, a part of HNA Group
with approximately $90 billion AUM and
RON Transatlantic Holdings’

SkyBridge Capital, a fund-of-hedge funds
managing firm with approximately $12 billion
AUM

Acquisition of majority stake(terms not disclosed)

Marble Point Credit Management
LLC, an alternative asset manager withapproximately $3.6 billion AUM

American Capital CLO Management, LLC,
an investment firm with approximately $3.5
billion AUM

Acquisition. Marble Point andits affiliates received majority
equity positions in seven of
the eight CLOs managed byAmerican Capital

New York Life Investments, theasset management arm of New York Life
Insurance Company with approximately$93.7 billion AUM

Credit Value Partners, LP, a boutiqueinvestment advisory firm with approximately$1.91 billion AUM

Acquisition of majority stake(terms not disclosed)

OppenheimerFunds, a mutual fundmanager majority-owned by MassMutualwith approximately $232 billion AUM

SNW Asset Management, an independent
firm focused exclusively on building andmanaging high quality fixed income portfolios
with approximately $2.7 billion AUM

Acquisition(terms not disclosed)

Pine Brook, and investment firm withapproximately $6 billion AUM

Triumph Capital Advisors, LLC, a credit
investment firm with approximately $1.5 billion
AUM

Acquisition(terms not disclosed)

Rosemont Investment Partners,
LLC, a private equity firm

Hartland & Co., LLC, an institutional andwealth advisory firm with approximately $18
billion AUM

Acquisition of minority stakeas part of a management-led
recapitalization

Sanlam Emerging Markets, asubsidiary of The Sanlam Group withapproximately $60 billion AUM

PineBridge Investments East Africa
Limited, an asset managing firm withapproximately $82.7 billion AUM

Acquisition of majority stake

SoftBank Group Corp.,
a multinational telecommunications andinternet corporation with approximately$170 billion AUM

Fortress Investment Group LLC, an asset
management firm with approximately $70.1
billion AUM

Acquisition. SoftBank has
agreed to acquire Fortress
Investment for approximately$3.3 billion in an all-cash deal.

South Street Securities Holdings
Inc., a broker-dealer firm

Lebenthal Holdings, LLC, an asset
management firm with approximately $1.426
billion AUM

Acquisition of 49% ownershipinterest in Lebenthal & Co.,
LLC and its 100% ownershipinterests in Lebenthal AssetManagement, LLC and
Lebenthal Family Office, LLC

Teton Advisors, Inc., a multistrategy investment advisory firm withapproximately $1.4 billion AUM

Keeley Asset Management Corp., aprivately owned asset management firm withapproximately $1 billion AUM

Acquisition of certain assets(terms not disclosed)11Closed-End Fund Initial Public Offerings
Nuveen Preferred and Income 2022 Term Fund (NYSE: JPT)
Amount Raised(Inception Date):$216 million$162.5 million (January 26, 2017)

Investment
Objective/Policies:

The Fund’s investment objective is to provide a high level of current income and total return. The
Fund intends to liquidate and distribute substantially all of its net assets to shareholders on or before
March 1, 2022. The Fund seeks to achieve its investment objective of providing a high level of current
income and total return by investing in preferred securities and other income producing securities.
The Fund will maintain a short to intermediate duration (including the effects of leverage) throughout
its five-year term. The Fund’s overall strategy seeks to mitigate the risk of rising interest rates both bylimiting overall portfolio duration, and by investing a portion of assets in securities that have features(such as fixed-to-floating coupons) that are expected to reduce the impact of rising interest rates, andwhose value may consequently fall less in rising interest rate markets than otherwise similar securities
without such features. The Fund’s portfolio will be actively managed as markets change and different
opportunities arise to capitalize on the relative value opportunities of different instrument types, capital
structure positions and related features, and to separately capitalize on the relative value opportunities
of securities with different coupon structures.

Managers:

Nuveen Fund Advisors and Nuveen Asset Management

Book-runners:

Wells Fargo Securities, BofA Merrill Lynch and Nuveen Securities

BlackRock 2022 Global Income Opportunity Trust (NYSE: BGIO)
Amount Raised(Inception Date):$210 million(February 28, 2017)

Investment
Objective/Policies:

The Fund’s investment objective is to seek to distribute a high level of current income and to earn a total
return, based on the net asset value of the Fund’s common, that exceeds the return on the Bloomberg
Barclays 1-3 Month U.S. Treasury Bill Index by 500 basis points (or 5.00%) on an annualized basis overthe life of the Fund, under normal market conditions. Because the total return of the Fund described in
the Trust’s investment objective is calculated based on NAV, it is measured after expenses.
In accordance with its Agreement and Declaration of Trust, the Fund will terminate at the close ofbusiness on February 28, 2022 (the “Termination Date”). The Board of Trustees of the Fund may
terminate the Fund, without shareholder approval, prior to the Termination Date; however, the Board
does not intend to terminate the Fund earlier than August 31, 2021. The Board may also, without
shareholder approval, extend the Termination Date by up to six months to a date on or before August
31, 2022 (which date shall then become the Termination Date). The Board may, to the extent it deems
appropriate and without shareholder approval, adopt a plan of liquidation at any time preceding the
anticipated Termination Date, which plan of liquidation may set forth the terms and conditions for
implementing the termination of the Fund’s existence, including the commencement of the winding
down of its investment operations and the making of one or more liquidating distributions tocommon shareholders prior to the Termination Date. The Fund is not a target term fund and thus
does not seek to return its initial public offering price of $10 per common share upon termination.
The final distribution of net assets upon termination may be more than, equal to or less than $10
per common share.

Managers:

BlackRock Advisors, LLC, BlackRock International Limited and BlackRock (Singapore) Limited

Book-runners:

Morgan Stanley, BofA Merrill Lynch, UBS Investment Bank and Wells Fargo Securities

12Simpson Thacher’s dynamic, long-standing Registered Funds Practice encompasses all
aspects of the investment management business. Our practice is multidisciplinary—it brings
together such other areas as securities, mergers and acquisitions, banking, tax and ERISA.

Rajib Chanda • +1-202-636-5543 • rajib.chanda@stblaw.com
Rajib Chanda is a Partner in the Washington, D.C. and New York offices of Simpson Thacher & Bartlett LLP.
Rajib’s practice focuses on all aspects of issues facing registered investment advisers and sponsors of registeredfunds. Rajib has particular experience working with alternative asset managers seeking to access retail investor
channels through mutual funds, business development companies, closed-end funds, exchange-traded funds
and permanent capital vehicles. He also works extensively with more traditional registered fund sponsors andworks closely with the firm’s asset management M&A group on transactions involving registered advisers andfunds. In addition, Rajib provides counsel to boards of registered funds, and has substantial experience advising
companies on issues relating to social media and cybersecurity.

Sarah E. Cogan • +1-212-455-3575 • scogan@stblaw.com
Sarah Cogan is a Partner in the New York office of Simpson Thacher & Bartlett LLP and Head of the Firm’s
Registered Funds Practice. Sarah’s practice encompasses all aspects of the registered funds industry and she
represents closed-end investment companies, open-end mutual funds, investment advisers and independent
directors of investment companies. She has a particular expertise in advising underwriters and sponsors inofferings by closed-end funds and business development companies. In addition, Sarah advises fund clients on
corporate and securities law, including investment management, regulatory, compliance and M&A matters.

The contents of this publication are for informational purposes only. Neither this publication nor the
lawyers who authored it are rendering legal or other professional advice or opinions on specific facts
or matters, nor does the distribution of this publication to any person constitute the establishment of
an attorney-client relationship. Simpson Thacher & Bartlett LLP assumes no liability in connection
with the use of this publication. Please contact your relationship partner if we can be of assistanceregarding these important developments. The names and office locations of all of our partners, as wellas our recent memoranda, can be obtained from our website, www.simpsonthacher.com.

13

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14