Regulation of Hedge Funds

Abstract

The growth in numbers of, and of capital managed by, hedge funds as well as their activities have spurred a debate about regulation of hedge funds worldwide. In Germany, however, the discussion focused on the hedge funds' voting behavior and their investment strategies, which is due to the fundamental animosity against entirely short-term oriented investors that we sometimes experience in Germany. The term locusts used for hedge fund investors by some prominent politicians provides a vivid example for this sentiment. This article analyses the case for regulating hedge funds. It examines the positive and negative effects of hedge funds' activities on capital markets and provides an overview of the legal frameworks regulating hedge funds in Germany, the USA and the UK. Further, it provides an overview of the international discussion about hedge fund regulation. Whereas in Germany the discussion focuses on the impact of hedge fund activities on corporate governance, the international debate concentrates on preserving the stability of financial markets and on improving investor protection. This paper holds that the negative effects of certain types of conduct on the stability of capital market, which may further the occurrence of so called 'market shocks', provide a sound explanation for hedge fund regulation through, in particular, the imposition of strict transparency requirements. At the same time, the authors argue against restricting the business conduct of hedge funds and the imposition of corporate law-oriented regulations, such as limits on the exercise of voting rights.