Understanding the Regulatory Landscape for Private Fund Advisers

Edith Harold: Hello everyone and welcome to this Federalist Society virtual event. My name is Edith Harold and I'm an Assistant Director of Practice Groups with the Federalist Society. Today we're excited to host this webinar called "Understanding the Regulatory Landscape for Private Fund Advisors" Speaking on the panel today we have David Blast, Jennifer Choi, and Russ Ryan. Lindsay Keljo, the Managing Director and Associate General Counsel, and the head of Asset Management Group at SMA will be moderating today. If you'd like to learn more about today's moderator or speakers, their full bios can be viewed on our website fedsoc.org. Throughout the program, we may turn to the audience for questions. If you have a question, please enter it into the Q&A function at the bottom of your Zoom window, and we will do our best to answer as many as we can. Finally, I'll note that as always, all expressions of opinion today are those of our guest speakers, not the Federalist Society. With that, Lindsay, thank you for joining us today, and I'll hand things over to you.

Lindsey Keljo: Thank you, Edith, and welcome everyone. Great to see you all. We've got a great panel for you today that I'm sure will provide some very interesting insights into the regulatory landscape for private funds and what's next in light of the private fund advisors rule litigation. But first, before we get into the discussion, let me introduce our panelists. As Edith mentioned, we've got David Blas, who is a funds partner at Simpson Thatcher, where he heads the firm's asset management regulatory group. He's been involved in SEC policy matters almost all of his 25 year career as associate general counsel at the SEC. David was the primary legal advisor to the SEC for rulemakings, and in particular advised on Administrative Procedures Act issues. He also wrote Rules for investment advisors and broker dealers while serving in leadership roles in the division of Investment Management and Trading and Markets.

And he later served as general counsel of the Investment Company Institute or ICI, which is a frequent commenter to the SEC's Rule Proposals. We also have Jennifer Choi, who is CEO of ILPA, the Institutional Limited Partners Association, and she's been with the organization for 10 years at this point. Before becoming CEO, she led ILPA's policy and advocacy efforts, which include ILPA's engagement with the SEC and the creation of industry standards such as ILPA's fee template, which was first released in 2016. Before her time at ILPA, Jen spent more than 20 years in the private equity industry and she holds a master's in Law and Diplomacy from the Fletcher School at Tufts University. And last but certainly not least, we have Russ Ryan, who is currently senior litigation Counsel with the New Civil Liberties Alliance, which is a nonprofit that litigates to protect civil liberties from infringements by the administrative state. And that weighed in on the private fund advisors case in the Fifth Circuit. Previously, he was a partner at King and Spalding and an enforcement lawyer with both the SEC and finra. And for those who may have just joined in the last minute, I'll just remind folks again, we do want to make this interactive. And so if folks have questions, please do put them into the chat. And Edith or I will go into the chat and check out the questions as we go along and interrupt where there's a break in the action.

Okay. So first I'm going to kick it off with Russ. Russ. earlier this summer, the SEC's private fund advisors rulemaking was overturned by the Fifth Circuit, as I think everybody here probably knows. For those who may be less familiar with the rulemaking and the court case, can you give us a quick summary of what exactly happened and why it's so important?

Russ Ryan: Sure. Yeah. I see this case as just sort of an all too common example of a zealous federal regulator who really, really wants to regulate something, but Congress has never given them the power to do so. In some levels of frustration, they go off and they go searching for some old statute that they can claim, gave them the power all along. And in this case, we're talking about the SEC of course. And for whatever reason, at least the current SEC seems really, they really, really wanted to regulate private fund managers. But Congress never gave them a statute that did so. And so they went searching for snippets of other statutes that have been on the books for a while to see if they could find something that they could claim, gave them the power. And the two things that they found were one from the original Investment Advisors Act of 1940 and a second purported statutory basis in the Dodd-Frank Act of 2010.

So the rule was adopted about right around a year ago, and it imposed some new regularly onerous obligations on private fund managers. Now, these private fund managers are people that are managing money for the super wealthy and super sophisticated investors, typically institutions that have plenty of sophistication, they have good lawyers, good advisors, and plenty of bargaining leverage when it comes to negotiating the contracts that they have with the advisors who advise the funds. So they're hardly the types of investors who you would think need the protection of federal regulators. But in any event, the SEC decided to do it.

A group of fund managers got together an organization, the National Association of Private Fund Managers challenged the rule in the Fifth Circuit. One of the questions, it's really not all that relevant to this case, is whether they had standing. Federal regulators liked to challenge standing because that means they don't have to deal with the merits of the case. And that was no exception here. But the Fifth Circuit made pretty light work of that. And a paragraph or two just said, look, this is an organization whose membership is affected by this rule, and pretty much every member of the organization is affected. So they clearly have standing. So then they turn to the merits, and they found that neither the Investment Advisors Act nor Dodd-Frank gave the SEC authority to promulgate these rules. The original Investment Advisors Act does have an anti-fraud provision in it, and it does give the SEC summary rulemaking authority, but the court found that not persuasive because the rules that they were trying to adopt here really weren't.

The SEC couldn't make any real connection between the rules and what the rules were requiring and preventing fraud. So they dismissed that basis for the rules. They turned to the Dodd-Frank Act, and the SEC was claiming that a provision of Dodd-Frank, which if you read it in context, dealt solely with protection of retail investors, not private funds or even sophisticated investors. The SEC was claiming that that was another statutory basis, but justified these rules, but that the provision they were relying on, not only was it in a section that deals with retail investors, but it was hundreds of pages from another part of Dodd-Frank that explicitly dealt with private fund managers and imposed some limited registration and record keeping obligations. But the court, I think correctly found that there's no way that Congress would've put in a section titled in effect regulation of private fund managers and not, and then hidden in a mouse hole, hundreds of pages later in the same legislation would've varied some statutory authority for the SEC to do sweeping regulation of private fund managers. So the court unanimously three to zero vacated the rule, and that's where it stands. Now, the time to seek rehearing has expired. I don't think the time to seek CERT has, but it's about to expire, I think. And I've seen no evidence that the SEC is going to try to keep this alive. I think they're going to lick their wounds and move on, perhaps trying to redo it, but time is running short, I think.

Lindsey Keljo: Thanks, Russ. So Jen, I think you might have a little bit of a different perspective on some of what Russ had to say. So why don't I turn to you next? Do you want to talk both about maybe how your members received the verdict and then anything else that you want to add on background or add to what Russ said?

Jennifer Choi: Thanks so much, Lindsey. Great to be with all of you. And maybe just for the benefit of this audience who may not be as familiar with ILPA or who we serve, we're a trade association representing about 600 different institutional investor asset owners, allocators across 50 countries, the bulk of which sit in North America, but that includes all the folks you'd expect, the private and public pension funds, endowments, foundations, sovereign wealth funds, family offices, insurance companies. And so that's sort of the prism through which we've engaged with the SEC over the last decade and specifically around these rules. And as you can imagine, everything that we've put on paper, everything that we have said publicly and to the SEC directly is very much informed by what our members are telling us directly. And then that includes a lot of both what they're experiencing over the life of the relationship that they have with their general partners, the kinds of information that they are receiving, the kinds of governance matters that might be coming up or how conflicts of interest are addressed, but also as relates to what's in the contracts to which they are agreeing, and what is the process wrapper around getting to those negotiated agreements.

And so that really informs a lot of how we're responding to the conversation today and everything that led up to it. And I would say that it's also important to call out that when Dodd-Frank first came into effect, LPs weren't necessarily tracking it as closely. They hadn't been exceedingly engaged in the Dodd-Frank Act itself and implications for private funds more than a decade ago. And so like the GP community, the LPs were coming along on a learning journey and really understanding is this a net positive for us and for the industry? And so in the very early days when I first joined Elba, there was not the deep level of awareness of what does this mean for us? How will it impact us? How will it impact disclosures? What should we expect from the regulator? And so it took a period of education, I think, for everyone to settle into.

What does it mean that now gps have to provide mandated disclosures to the SEC through form ADV, for example? What does it mean that managers now have to go through compliance-based or risk-based examinations or surprise examinations based on risk themes? 

And so now a decade later, I think LPs have gotten very accustomed to what those beneficial impacts were leading up to February of ‘22 when the rules were first proposed. We certainly saw at the outset some things that LPs have been interested in for a long time, one being more consistent presentation of information on fees and expenses. That's been something really hard for even the most sophisticated, deepest, pocketed LPs to obtain through negotiation. I have loads and loads of statistics about it if people were interested, but we're always serving the members around, what are you getting? Are you happy with the quality of disclosures you're getting on costs from your managers?

And the answer is consistently unsatisfied, not sufficient. We want more. Well, how do you get more information? You negotiate more. Yes, you get those rights in the contract to a degree, yes. But what tends to happen is if they get a commitment from a manager to provide those disclosures, it's done in a very bilateral way, in a very bespoke fashion that only accrues to them. So they may get a commitment to get those disclosures, but it may not be codified in the contracts. It may not be codified in the side letter. It's certainly not going to be codified in the LPA, the limited partnership agreement, and it may not be documented anywhere. So one of the benefits that our members saw, at least in the original proposal, was the notion that the friction created by having to negotiate for something that seems very common sense, which is how much am I paying you and what does it cost me is removed if everyone is being held to the same standard.

So that was beneficial when we learned of the verdict from the fifth circuit. It was days after we had started a comment period process around a set of templates that would've complied with the new rules. And I think our members appreciated that. Now we have to really rely on the industry's will to embrace standardization, which is not a guarantee, but we have to go back to something that's entirely industry driven without any catalyst or momentum behind it. At the same time, there were elements in the package of rule proposals that were finalized in August of 2023 that would've posed potentially large problems or challenges operationally and mechanically for LPs, excuse me, gps and their legal advisors as far as how do you negotiate side letter agreements with the requirements around disclosure or prohibitions on preferential treatment. So that was a very long-winded answer, Lindsay, but lots to say about how LPs felt about the rules.

Lindsey Keljo: No, that's super helpful context. Jen, thank you very much. We do have a first question in the chat. I think actually David, you're probably best suited to answer it, and it can then sort of lead into where we were going to go next. So let me just read off this question and then we'll talk. So the question is, I understand that all of this applies to private funds. Whose limited partners are accredited investors? If an unaccredited investor invests in a private fund, do they have an automatic right of rescission under federal securities laws, even if there's no available fraud related cause of action? So maybe as you're talking about some of your thoughts here, let's just keep that in mind and maybe we can weave it into the answer. But where I'd like to take the conversation now is to talk a bit about how this rulemaking generally fits within the broader SEC rulemaking agenda and building upon what Russ and Jen also said about the authorities here and sort of the history, get your thoughts on the broader narrative here in the context of the securities laws.

David W. Blass: Yeah, I'm happy to answer both of those questions, Lindsay, but maybe I'll start with a question you didn't ask me, if that's okay, and just comment on the rule itself from a slightly different perspective, if that's okay, because I work a lot with...

Lindsey Keljo: Yeah, yeah, yeah. No, that's great. That's great.

David W. Blass: I work a lot with the general partners, the private fund sponsors, and I think about what my life today on August 29th would be like if this rule had not been vacated. It was set to go into effect next month, and there was a mad scramble before the verdict came out from the fifth circuit, vacating the rule, getting ready for the rules implementation, and through that exercise, I have a couple of observations on this rule. The rule effectively has three components to it. It's a complicated set of rules. It's really a hodgepodge of rules built into one package. One set of obligations is substantive regulation of the relationship between a general partner or the fund manager and the fund and limited partners. Another is reporting, as Jennifer pointed out, reporting to limited partners. I will say the reporting regime that was established was partly understandable, partly inscrutable because it would've required reporting both fees and expenses at the fund level, which you can kind of understand and which I think ILPA's template addresses.

But it also imposed out reporting at portfolio company levels that in all honesty, I still today don't understand how that regime was meant to work. There's a third component to it that's pretty fascinating to me, and I don't know that I can point to example at the SEC of this. So the third part of this rule kind of addressed the relationship of limited partners, so the investors in the funds one to another and assumed that larger, more sophisticated limited partners would win advantages at the expense of smaller limited partners. So I just point that out as an observation. I'm not going to make much of it, but it's just interesting to see that in the SEC rulemaking because you don't often see the SEC distinguish between types of investors and regulate the relationship as it relates to them in different categories. The other observation I'd make is this is not the first time the SEC has been through exactly this situation where they've gone out with a big ambitious rulemaking package only to have the courts question their ability to execute on that package.

I would lived through it in the two thousands before the financial crisis where the SEC pushed through to Russ's point rules on suspect authority or suspect rationale like economic analysis or just market problems that the SEC C's looking to address. Some examples are rulemaking under the Investment Company Act, pushing out independence requirements for fund boards through the SEC'S process. So they issue exemptive rules and the SEC who said, well, you can't have the exemptive rule even though it's unrelated to the fund governance unless you have an independent chair as your fund on your fund and other independence or requirements. There's a famous decision called the Goldstein decision. Phil Goldstein of Bulldog Investors challenged the SEC's rule requiring hedge fund managers to register. The SEC changed a longstanding interpretation of what investment advisors required to register. Phil Goldstein challenged that change in interpretation and won, and that rule was vacated.

I will say though, those rules, if you look back at that period of time, led to either market changes or legislative changes, legislative in the Dodd-Frank Act requiring hedge fund managers and private equity fund managers to register, even though they had nothing that I could see to do with the financial crisis in market changes, because you do see more independent boards, more independent chairs today for funds. So the point I'm making is rules can be overly aggressive, they can be challenged, and you can have a regulator with their wrist slapped. And that's exactly what happened here with the SEC. It's an embarrassing date for the SEC to have a rule overturned in this fashion. But those types of rule changes where you have efforts to get into compliance can often have lingering effect even if they're vacated.

The question about accredited investors, so we are talking about private funds. These are funds offered to accredited investors, qualified purchasers. There's a whole waterfall of standards of types of investors across the regulatory regime. The accredited investor standard is important because if you limit a fund or a company's offering to accredited investors, the offering itself can be exempt from the Securities Act requirement to register the offering. That's where accredited investor comes in. If you have a person who's not an accredited investor that's invested in a private fund, you may have a recision, right for that investor. The offering presumably should have been registered or maybe another exemption was available for it, but you kind of got a problem. You need to sort out if you have a non-accredited investor in your fund. So the short answer is maybe, maybe, maybe not. It depends on if there's another exemption for that offering available.

Many private funds that we're talking about offer and have investors who meet a higher threshold than a credit investor or credit investors about a million dollars in net worth putting aside your home, the value of your home qualified purchasers at a $5 million or higher investable assets mark for human being investors, higher for some institutional investors. So it's a step up for the most part. Those are the types of funds we're talking about that would've been subject to this rule. Lindsey, I'm going to come back to your question. Apologies for my diversion. So yes, the short answer is yes. This challenge clearly affects the SEC's rulemaking, and the fifth circuit decision on the private fund advisor rule comes in the context of a larger set of developments addressing agency rules beyond the SEC, you have the challenge to the Chevron deference. That's not really an issue for the SEC because the SEC never really got Chevron deference.

The SEC'S set of statutes it administers are of a sort that for the most part, a judge can assess for themselves themselves. It doesn't require specialized technical knowledge like the EPA, the Environmental Protection Act type statutes, which require scientific background to be able to interpret. So the SEC never counted on Chevron deference. If you look at the Fifth Circuit decision, it never even talks about Chevron deference, but there is this atmosphere of courts viewing the agencies as overstepping. And the Private Fund Advisor Rule is a great example of an agency overstepping its legal authority, as Russ pointed out, that has to have an effect on the SEC because they've had this role challenge. They had another one challenged in the fifth circuit having to do with proxy rules, and they've got others that are currently being challenged, including a very controversial one in my opinion, reassessing longstanding interpretations of what it means to be a dealer in the securities market.

So if you look at the secs, we'll make an agenda, some that come immediately to mind. First of all, we just had a rule adopted yesterday on liquidity risk management for registered investment companies. The SEC had some very controversial, incredibly impactful requirements in its original proposal. For those of you familiar with that area, the swing pricing was a big one, which would've upended how mutual funds are priced and how they provide liquidity to their investors. The SEC dialed that back a lot. They ended up not addressing or not adopting that swing price in the controversial part of that proposal at all, and instead did more of a reporting regime for liquidity as part of the risk management changes so dialed dramatically back. Do I know that the private fund advisor rule and the other litigation resulted in these changes? I don't know, but it had to have been on their minds that litigation challenge.

One little tidbit, like if you're adopting, you're an agency adopting rules and you think you're going to be challenged, you have to have litigators at the agency that are able to defend those challenges. I don't know how many litigators the SEC has, but they must be overstretched these days. So one would think that that would factor in just the staffing could factor in decisions as well, more relevant to private fund advisors. So you've got a few others that were outstanding proposals that were outstanding that many of us scratched our head about what the SEC thought about them when they issued the proposal. There's outsourcing by investment advisors. 

There's a big custody rule that the SEC refers to safeguarding a very controversial proposal called predicted data analytics. It's a proposal meant to address the use of artificial intelligence and nudging investor behavior, but they define the cover technology so broadly it would include things like using an Excel spreadsheet to prepare marketing materials.

All of those even before the Fifth Circuit decision came out. The SEC, I think because of the litigation challenges and the robust challenges in the common file, all of those have slowed down as far as I can tell. The SEC had originally set a pretty aggressive agenda for adopting those rules. And the SEC has indicated some of them predictive data analytics, the safeguarding proposal would be re-proposed if they move forward at all with those. So I think the Fifth Circuit decisions clearly have had an effect even if the SEC doesn't say it publicly on its rulemaking agenda in the investment advisor space. Lindsay, I'll pause here in case you have follow up.

Lindsey Keljo: Yeah, so I do actually, I'm going to come to you in a minute, Jen, to talk a bit. I think your folks are focused on the marketing rule and how this could all sort of play together when it comes to that. But before we get there, we do have two questions for you, David, in the chat. The first is building upon a comment that you made about the Investment Company Act and asking you to briefly explain the context of this rule in relation to the Investment Company Act. In other words, how are there many investment company act like provisions in the PFAR, the private fund advisors rule, but private funds were explicitly exempted from the prescriptive requirements of that statute. And the SEC was attempting to end around is what it looked like to many in the industry. And the question is whether or not you think that colored the court's analysis?

David W. Blass: On the latter point, it clearly did color the court's views of what the SEC was doing. So just to level set everyone on what this question is about under the Investment Company Act, if you're an investment company, you have to register it's mutual funds, exchange trade funds, closing funds. You have to register and comply with a very robust set of obligations that affect the fund. Private funds, the funds we're talking about are completely exempt. They're statutorily exempt from the Investment Company Act. They're definitionally not investment companies. They would be investment companies but for their exemption. So none of that regime applies. There were some portions of the private fund advisor rule that were clearly based on the Investment Company Act regime, including performance reporting. The SEC basically incorporated some of the performance reporting requirements from the Investment Company Act regime into the private fund advisor rule.

And a lot of the fee disclosure had hallmarks of types of disclosure you'd see to investment companies that are registered, and I should say those registered investment companies, those are offered to retail investors. So not accredited, not qualified purchasers. There's a retail oriented investment, and the SEC was incorporating some of those requirements into an institutional setting, which the court expressly said, you can't do that. You can't find an end run as a question asked through the advisors act to substantively regulate the investment, the private funds where Congress didn't give you authority. Did I cover that question?

Lindsey Keljo: Yeah, yeah, yeah, that was a great answer. And just one other quick question related to what you were talking about. We mentioned the dealer rule and the litigation happening there. You're being asked to handicap the potential outcome of the litigation and give a status update as to where that case stands,

David W. Blass: And I'm never hesitant to make predictions. So the dealer rule, it's been adopted, the SEC reformulated its guidance on who is and who is not a dealer. I don't think Jennifer, your members or your organization focuses as much in the space, but Lindsey, yours probably does.

Lindsey Keljo: We're very focused on it. Yeah, certainly do.

David W. Blass: The rule would require the funds themselves. This is a dealer rule, so it's someone who's buying and selling in the marketplace for their own account. That's the fund in our space would require funds themselves to register with the SEC as dealers and to become members of the self-regulatory organization in the space finra that has knock on effects. It's not just like an easy thing to register and you're off and running as a dealer. You're prohibited, for example, from investing in IPOs, you have to have net capital set aside. So there's a drag on performance for a fund, and in generally you're regulated in a way that's not natural for a fund. The SEC changed the guidance lowered thresholds. I think it's a $25 million threshold off the top of my head for buying and selling in the marketplace during certain periods of time. So you'd have a lot of obligations to come into registration under that rule.

As I said, the rule has adopted, it's been challenged. There's been a hearing at least on the papers, there've been filings. I think there's been a hearing already, I can't recall. And it's being challenged by a group in the Fifth Circuit. If you look at the Fifth Circuit's record on the SEC where it's been aggressive in its rulemaking agenda, if you look at the Goldstein decision that I mentioned earlier, which was a DC Circuit Court of Appeals decision, but has to be influential in the fifth Circuit where the SEC changes guidance on decades long interpretations for scant evidence of a need for the change, I would expect the SEC to have another embarrassing day on its hand with the rule. That's again vacated. I don't know that, but that would be, sitting here today, if I was forced to make a prediction, that would be my prediction.

Lindsey Keljo: That's your handicap?

David W. Blass: Yes.

Lindsey Keljo: Okay. Moving back to the private fund advisors rule, Jen, David mentioned the marketing rule, and I know that your organization has been focused on the interplay between the private fund advisors rule and the marketing rule, which was finalized last year. I guess at this point, do you want to comment maybe about how you sort of see the interplay there and the effects it could have?

Jennifer Choi: Sure. And our understanding is, and David can correct me if I've got the timeline wrong, but that the rule actually went into effect November of 22, is that right? So it's been in place for a while. And so we're now at point in the rulemaking cycle where we're getting FAQs and further clarification and statements from the SEC to aid everyone with the interpretation of the rule, including in a private funds context. So when the private fund advisors rule prior to the fifth circuit's decision, let's say, so when it was still in litigation, we had to operate under the expectation that gps, as David said, were scrambling to figure out how they were going to comply with certain elements of the rule and critically important to us and our members, the quarterly statements, pieces, the fees and expenses pieces, the performance reporting and the changes necessary to comply.

And so when you're talking about performance reporting under the PFA rule, you have to look at it in the context of the marketing rule as well, obviously. And they didn't necessarily perfectly line up something that was consistent in both the marketing rule and in the PFA rule was the notion that you'd have to present gross in net and you'd have to present it with and without the impact of subscription lines of credit, which for those unfamiliar is it a tool utilized basically for cashflow management, but it has a very distinctive impact on reported performance and specifically the IRR, the internal rate of return. So it is effectively like a credit card if a general partner is utilizing one of these subscription lines, they have the ability to make the investment without calling any capital from their LPs. And of course that has a distinct impact on the time component of the IRR calculation.

And so their ability to make the investment and then return capital to the investors sometimes without even calling capital can create an astronomically high IRR. So that was addressed within the marketing role. It was a component of the PFA role as well. But we have always innovation in the marketplace and in a time of challenged fundraising in part because distributions cash back to LPs has slowed down quite a lot. Other tools have emerged such as NAV based facilities, which is another form of leverage that gps are beginning to employ that allows them to give cash back sometimes early distributions to LPs secured by underlying assets in the portfolio or multiple portfolios. And the question is whether the marketing rule, which still stands, will also extend to something like application or impact of nase facilities in the with and without impact of leverage requirement. So as a standard setter in the industry as a group that's now working on our own performance templates, which we can talk more about, we have to read between the lines. We don't have a clear signal from the SEC aside from some statements made or signals provided. And so in this environment that has described, and Russ has alluded to, there is uncertainty as to which of the existing rules will stand and how they should be interpreted in light of the fact that the PFA rule was vacated by the fifth circuit. So I think it puts the industry in a challenging place for a fairly important body of information - for LPs who are making decisions as to whether or not to invest in a GP.

Lindsey Keljo: And maybe just to follow up on that, Jen, I don't know about if this has been ILPA's experience, but at least at AMG, we've found this SEC far more reticent to provide the guidance that you're talking about once Rulemakings go live. And also we've been more careful about when we approach the commission asking them for guidance when we're not necessarily sure that they will work with us on what that looks like or what would be included or what the answers to the questions we have would be. Has ILPA gone back to the commission asking for guidance here? Where does your actual advocacy stand at this point?

Jennifer Choi: Without getting into a lot of detail, of course we respect that while the litigation was pending, there was very little that they could say to guide us on some of these pending matters. And so now that the PFA rule has been vacated, if the pivot is to how should we interpret existing rules in the private funds context, we are making requests for more detail, not necessarily seeing statements on the record that we could point to as we finalize our own guidance to the industry. So hopeful that that will come, but that's the current state of things.

Lindsey Keljo: That's great. And David, I saw you, you off mute too.

David W. Blass: I was just going to emphasize something you said Lindsay, about be careful what you ask for in terms of guidance because the limited FAQs that did come out on the marketing rule, almost every one of those had the worst possible answer, kind of non-intuitive answer to them. So you kind of do have to be careful of what you put at play with an FAQ request.

Lindsey Keljo: I couldn't agree with that more, better said from outside counsel, but I couldn't agree with that. All right, Russ, turning back to you here, would love your thoughts on how you think the PFA rulemaking fits within the broader context of the rulemaking agenda and how your organization is looking at it. In particular, do you see the SEC reacting to this series of litigation losses? Are you sort approaching your advocacy here differently based on this win with the courts? Where does that sort of stand for you all?

Russ Ryan: Yeah, and David covered a lot of the sort of collateral rules that this may impact. I just add that Fifth Circuit also struck down the SEC's stock buyback rule a few months ago that it's not one that affects advisors. And there's also right now pending litigation, it's all been consolidated in the Eighth Circuit, challenging the SEC's climate disclosure rules. And I think that's another example where I think the SEC is very vulnerable to the charge that this goes well beyond their statutory power and their statutory mandate. And just for an even broader context, the SEC has not been doing well, at least with the Supreme Court in the past decade. When I was a younger lawyer back in the eighties and nineties, it seemed like the SEC was just almost bulletproof, at least at the higher courts, especially in the enforcement context. You never really saw the Supreme Court even taking on enforcement cases.

But in the past decade, they've taken on at least a half a dozen, and I think with one exception, the SEC has lost sometimes unanimously. So I think I'd like to believe at least that when you get these losses, one after the other by the top courts in the country, that deters you a little bit from overreaching. I'm not seeing evidence of that yet. But our organization is very optimistic based on not just the Chevron deference case that David mentioned, but the case where basically the court said the SEC's administrative adjudication system needs to be essentially stopped for most fraud cases and cases seeking penalties. So it's a much broader context where I think the SEC is just not doing well in court. At a certain point, you'd like to believe that there'd be some introspection and maybe some pulling back of things that are objectively overreaching.

David W. Blass: Russ, it feels like we have almost a yo-yo effect at the SEC. You've got eras where you go through where things are really solidly built, you're addressing market impacts. Think about it like the years immediately after Dodd-Frank was passed where the SEC had 90 something rulemaking mandates by Congress that it did a very good job, in my opinion, implementing. And then you go through periods where you have leadership come in and feel that the SEC has been too lax and they go with a big agenda. That's the era, like what I was talking about, the investment company act before and the Goldstein decision with hedge fund managers. There was no mandate by Congress to do any of that. In fact, it was in a very clear lack of a mandate. Here you've got the same thing with private fund advisor role. In my opinion, the dealer rule, if there's no congressional mandate for the private fund advisor rule under the advisors act, there definitely is not a mandate under the dealer regime for bringing private funds into dealer registration.

And you just have this environment. And I agree with you, Russ. I think fortunately the reputation of the SEC has suffered. When you have these kind of challenges, you become more vulnerable When you are being aggressive, the courts look for it and expect it and don't like it. So I feel like the challenges to the rules need to happen. The private fund advisor rule had to be challenged because the SEC was asserting such broad authority. It was basically blank check authority for future rulemaking. It had to be challenged even if a lot of it could have been managed livable. But when you have this kind of an era that the reputation of the SEC unfortunately suffers and makes it harder to do things that it might need to do later on.

Russ Ryan: Yeah, I'm glad you made that point. I think it really does affect the reputation of the agency, and I think I agree with you. We go through eras here where at times the SEC seems to have among the highest credibility in government, and I think they've squandered some of that over the past decade by a series of significant court defeats that exposed sort of overreach and I think have, as you say, damaged the agency's overall credibility.

Lindsey Keljo: Maybe just, and we've talked about this, we've hit on it a couple of different times, but I'd love to drill down for this group a bit more. David, could you just spend another minute on the fact that, as Russ pointed out, there were several different authorities that were cited in the PFAS rulemaking, but the anti-fraud piece in particular I think is super important because it's also the basis for some of the other rulemakings that you mentioned where it's not only right that Dira and others need to be further involved in the rulemaking process, make sure they're shoring up their cost benefit analysis, make sure that they're on solid ground. Russ said that it's unlikely that this will be, that they will appeal this decision. The one piece why we were focused on the appeal so closely was exactly this piece that we're sort of talking about here in terms of the authority and the blank check nature of the anti-fraud authority in terms of what they were doing in the past. So maybe spend another minute or so on that. I think that'd be helpful for this audience.

David W. Blass: Yeah, so let me dispose of the blank check authority really quickly. Russ did a great job explaining it, and basically if you read the words would allow the SEC to adopt rules addressing compensation, conflicts of interest, business practices of a private fund advisor. If you accepted the SEC's interpretation of the statute, clearly was written in the context of retail matters, so dealings with retail investors, and it was under the label other matters in the statute. That's the authority that basically forced the industry to challenge the rule because if the SEC was allowed to adopt this rule package under that authority, they'd have blank check authority later on, you are pointing out a different authority. So the SEC said, all right, if you don't think the Fifth Circuit, don't think we have the blank check authority. We have other authority under the Advisors Act that we've relied on for decades to adopt rules.

That's section 2 0 6 4 of the Advisors Act, which is anti-fraud authority. The SEC has adopted a lot of rules under that authority. The marketing rule is the most recent one, but some big rules, the compliance program rule form ADV is disclosure rule that Jen referred to earlier was adopted in part under that authority. A large part of the SEC's regime paid a play role is another example that was adopted under that authority. A large part of the SEC's regime for investment advisors was adopted under that authority. The Fifth Circuit rejected the SEC's argument that it could rely on that authority for the private fund advisor rule. And in a major lesson to an agency that's being very aggressive, they actually lost turf like the Fifth Circuit interpreted that authority more narrowly than the SEC ever had in the past and may make it difficult for the SEC to adopt future rules under that authority.

Specifically the Fifth Circuit said you can't adopt rules for disclosure and reporting under the anti-fraud authority under section 2 0 6 4, which the SEC done, they have disclosure reporting rules adopted under section 2 0 6 4. Now, Jen was alluding to the marketing rule, which was adopted under that authority. I don't know of anybody who's going to say, I'm not going to follow the marketing rule. That's a very brave investment advisor to say, I'm going to assume that that rule is invalid, but in the future, it'll be difficult for the SEC to adopt rules under that authority. If their disclosure and reporting rules because of what the Fifth Circuit said, they'll have a very clear liability risk if they move forward with that kind of a rule under that authority. And if the marketing rule revisions hadn't been adopted before the Fifth Circuits decision, they'd have to grapple with the fifth circuits decision. And it's a challenge, and it's another example. An agency that's being too aggressive can not only lose that aggressive authority that they're citing, but they could lose traditional authority that they thought they had all along and make their rulemaking regime more challenging.

Lindsey Keljo: Yeah, no, that's super helpful and thanks for the clarification on what we've called a blank check in our organization for quite some time. You're right, it is losing ground for them. We have a question that came through the chat for either me, David, or Jennifer, maybe all of us. Given our leadership and experience at trade associations, it seems like members have had to rely on their trades to challenge these rules in court, which for years trades were reluctant to do. Has that impacted your ability to work or advocate with the commission or its staff? Do you think the SEC will be more willing to listen to market participants to potentially stave off litigation? So who wants to start on that? Jen, do you want to kick us off?

Jennifer Choi: I am maybe not the most appropriate given that we submitted. I figured we'd start there, and submitted an amicus brief in support of the SEC in this particular instance. But I would just comment more broadly that to the extent that we see more rulemaking in future end up in litigation, I see one of the detrimental impacts to that of creating more uncertainty. LPs, my members hate uncertainty. David knows this well. They hate regulatory uncertainty because with private funds, they're making 10 in some cases 15 year bets. And so when they make that commitment to a fund, it's very hard to extricate yourself without taking a haircut or at least the likelihood of a haircut on trying to sell your interest. So you want to know going in that the regime that surrounds the investment that you're making will more or less be in place over the life of your investment in that fund.

So anything that's creating uncertainty, when the rules were pending, when the litigation was pending, we saw a real impact on how do we think about negotiating the contracts that are live right now? How does this impact live negotiations while we're waiting for a court to make a decision on what the GPs must do and what the SEC will require versus what we have to try to negotiate for in the contract. So I think that that is one detrimental impact of every single rulemaking from the SEC from this point, hence is caught up in the courts because the industry needs clear signals, particularly when there's not a mandate or a standing issue in doubt where there's clearly a market need and the SEC has been mandated to address it. We don't want the time from proposal, final rule to implementation to be delayed by an additional 12 months every time. That would just be challenging operationally.

Lindsey Keljo: Yeah. I'll just add from Sigma's perspective, we obviously were very careful about when we decided to sue the agency, but it's often more for the reasons that Jen is articulating about people in the market. Our members need to work toward implementation when a rulemaking goes final and if it's caught up in litigation, if we don't get a stay in particular, they're still working toward the implementation deadlines and spending the money and the cost and the build out to do so with the uncertainty still being sort of out there with the rulemaking. So often they are making the calculation when we talk to our members about whether or not litigation would be appropriate, they're making the calculation that by the time they were to figure it out, they'd probably have made the spend anyway. And so maybe it just makes sense to ask for guidance, make changes around the edges where it's impossible to implement and let the rulemaking stand unless it's so egregious or there's issues with the authority that could affect us down the line or whatever the case may be.

Now that being said, I do think that all of the trades, SIFMA included, have seen this as a more active tool in our tool belt than maybe we did in the past. And in terms of how it affects our engagement with the SEC or other agencies, I think the agencies recognize, and David having been at the SEC, maybe he could speak to this piece as well. I think they recognize that that is one of the roles of a trade association, that there is a clear role for trades to allow the industry to aggregate, have it not be where an individual firm has to take on the agency themselves. Obviously we've been in litigation with Chair Gensler when he was at the C ft c, now at the SEC, so there's obviously history there. We joke about it with him. I think he sort of understands some of that.

But I do think that the SEC to the point we've made sort of all along in the last hour, the SEC has been sort of looking a bit more deliberately at the rulemakings. And we continue, at least to make the point to them that if they came to us earlier on in the process before proposing rulemaking and talk through with us their end policy goals, we would always come to the table to help them figure out if they're understanding the markets correctly and assuming that they are, how to get to their policy goals in a way that doesn't have collateral damage attached to it, which is a lot of what we're talking about in some of these rule makings as well. I dunno, David, if you've got anything to add there,

David W. Blass: I completely agree. I do want to just from an SEC perspective, say the us I love America. The US has benefited tremendously from the regulatory environment that the SEC administers. The capital markets are the crown jewel of our economy. And a lot of that is because of the regulatory environment, the certainty, the Jen's point that you feel and investing in the us, the cop on the beat aspect of what the SEC does. So it's very important to have a robust, highly competent regulator in the space. And that's the challenge with these rulemakings that force litigation and have diminished the SEC standing a bit with the courts and in public perception. The SEC itself will never stop talking to an agency because it sues. It may stop during the litigation, but it's not going to stop talking to a trade association because it litigates for the reasons Lindsey lays out.

It is an aggregation of member voices and they need to understand, and they should have done a better job of outreach, in my opinion, on the rulemaking agenda over the last couple of years in understanding where those red lines lie. What is the concern that's going to lead to litigation? Is there a way to manage a rule set that's needed around those concerns? And that's the back and forth you have with commenters and trade associations to understand what's the market problem that the rule is trying to address and what's going to be the reaction of industry participants in particular trade associations. If we adopt a rule and you try to find a good fit for addressing the problem but not going so far as the trigger litigation, that'll continue. Hopefully they'll do a better job of it in the future, but if they don't, it won't be because someone's sued. It'll be for other reasons, just a rush to get things out the door, which is how I interpret the rulemaking package over the past couple of years.

Lindsey Keljo: Okay. Maybe pivoting a bit in our last couple minutes, assuming the SEC is just going to go back to their offices in Washington and lick their wounds here, where do they go from here? Do they go back to the drawing board? Will there be another rulemaking down the line? Will there be more enforcement actions? How do you sort of handicap that? David?

David W. Blass: Well, I saw Russ go off mute. Maybe I'll turn over to him.

Lindsey Keljo: I missed that. I had the question box in front of your side there

Russ Ryan: Go. I don't think it's going to affect the enforcement environment much. I mean, most of the cases they brought against private fund managers I think have involved traditional allegations of fraud and things like that. I don't think the new rules were, I don't think enforcement was chomping at the bit to enforce the new rules. I mean, they would've if there'd been violations, but I think they're primarily focused on fraud cases. So in that respect, I don't expect it to have much impact on enforcement. But I'll let David talk to the regulatory side.

David W. Blass: Well, I agree, Russ. I wouldn't expect, I mean, enforcement's not slowing down and they're going plenty fast already, so it's hard to imagine them going any faster after this. And the exam program's the same. I don't think that they really, their role will really change as a result of this decision other than just not having another set of rules to examine compliance for on the rulemaking side, I don't know what's happening within the SEC, but I was around when one of the decisions out of the DC Circuit Court of Appeals overturned one of the investment Company Act rules that I mentioned earlier, and not inside baseball at all. It's all public. One of the grounds for overturning that role was a lack of adequate economic analysis. The SEC is one of the few agencies that by statute is required to conduct economic analysis for its rules, which is great, I think, because it forces you really to think through the consequences of rules.

And when the court struck down that rule on inadequate economic analysis grounds, we read the court's decision and we're like, how will we ever comply with this standard that the court has set? But the SEC prepared and published guidelines for how it does economic analysis, it enhanced its practices. I'm not saying they're perfect today by any stretch, but they're much better today than they were 10 years ago or 15 years ago. And that's how, well 15 years ago or 20 years ago, that's how it reacted. And I would expect it to do something similar here. Maybe draw in more the voice of litigators into their rulemaking packages to be sure they understand the litigation risk profile around a rule that may be one reaction they have, similar to how they drew in a the division of economic risk analysis for economic analysis grounds. I wouldn't be surprised if they react that way for future rulemakings. I can't imagine a situation though, Lindsay, to your question, that they try to adopt this set of rules. Again, that would be kind of shocking to me if they come back to this set of rules without a congressional mandate,

Lindsey Keljo: At least not soon. Jen, assuming that they don't, what do you think the LPs reaction is going to be and what is happening in the marketplace right now? It's a great place for us to wrap up, I think.

Jennifer Choi: So the industry, I think, and we've kind of painted this picture, the industry was already moving to develop a differentiated, evolved, more comprehensive reporting standard in anticipation of the rules standing and coming into effect, which would've been September of this year and the next quarter March of 2025 for the smaller funds. So the industry was already mobilizing. We were already leading an effort around the fee and expense disclosure requirements in the performance requirements. And I would say to what David reflected on earlier, even if rulemakings fall, even if they are successfully challenged in court, it does bring certain matters forward. It does force the industry to focus in a helpful way, I think, on certain questions and to come to a more mature answer perhaps on some things. And so that's exactly what we've experienced. We had been mobilizing a coalition of LPs, software providers, fund administrators, lawyers on these disclosure requirements before the fifth circuit's decision.

When that decision came out, we paused the work, went back to what we had already done and said, okay, without the forced compliance with the rule, what do LPs require? How does this make sense practically and operationally for gps? How do we get to an answer that's better for everyone? And we are getting there. We have these templates out in the market for comment right now. The comment period goes through October. We'll be releasing the templates in December. And I can tell you the response from industry has been very positive. This was something a long time coming. LPs were asking for more information, the questions were getting harder, and GPs needed a rallying cry, a center of gravity and a real catalyst and momentum to do something to again force these questions into the limelight and really focus our attention on them. And that's been a positive outcome in all of this. Adoption is another matter without the SEC requiring adoption, this will be a bit of hand-to-hand combat, I think between LPs and gps. It will continue to be, but we're getting to a good answer. So it's a good development. Maybe not without the regulatory requirement behind it. Maybe not quite what LPs had hoped for, but it is a good development.

Lindsey Keljo: Thank you, Jen. I think that's wonderful and a great way for us to wrap up here. If folks have additional questions, feel free to reach out to any of us. Hopefully you have our contact information or it's readily available, and thank you to all of the panelists today. We definitely appreciated the time.

David W. Blass: Thank you, Lindsey. Thanks to Federalist Society.

Edith Harold: Yeah, on behalf of the Federalist Society, thank you so much to David, Jennifer, and Russ for speaking, and Lindsey moderating. We're so grateful for your time and expertise today, and thank you also to our audience for joining us. We really appreciate your participation. You can stay up to date with announcements and upcoming webinars on our website fedsoc.org or on all major social media platforms. Thank you once more for tuning in and we are adjourned.