October 12, 2007
Och-Ziff and Black Market Capital
It is being reported that Och-Ziff, the hedge fund adviser, set a price range of $30 to $33 a share for its proposed initial public offering of 36 million shares. When it occurs, this will be the third hedge fund or private equity fund adviser ipo after Blackstone and Fortress and marks a return of these ipos post-August market crisis. KKR is the next one on-deck, but expect more of them. I outline the reasons why in my recent paper Black Market Capital:
In my paper, I note that retail investors cannot invest in hedge funds or private equity funds but they can invest in the funds' managers. I argue that the trend of hedge fund and private equity fund adviser initial public offerings is in part due to the SEC rules which prohibit public investment in these funds. Prevented from buying the funds directly, public investors look for something replicating their benefits. The investment banks and other financial actors act quickly meet this demand, but with less suitable and riskier investment vehicles such as fund adviser IPOs, special purpose acquisition companies, business development companies, structured trust acquisition companies, and specialized exchange traded funds all of which largely attempt to mimic private equity or hedge fund returns and have been marketed to public investors on this basis. I term these investments “black market” capital since they are a product of the ban on direct hedge fund and private equity public investing. I argue that these investment tend to be more risky on an individual basis than the hedge fund and private equity funds they substitute for. So, public investors who buy them bear more risk and together inject more risk into the US capital markets than if they were allowed to invest in the funds. These are a perverse consequence of the SEC’s current prohibition. I argue that the SEC should resolve these issues by amending the securities laws to permit public investors to invest directly in private equity and hedge funds. This would recognize the costs in the current regime, end black market capital and allow investors to access the benefits of hedge funds and private equity: excess returns and diversification.
You can download Black Market Capital here.
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