Should Govt. be regulating hedge funds or the process of entering a fund? (mutual funds, small business)

[CTbrooktrout]

smSmallBiz.com | Hedge Funds: The Other Small Business Lender (http://www.smsmallbiz.com/capital/Hedge_Funds_The_Other_Small_Business_Lender.html - broken link)

Just a short article about the Govt. trying to regulate the hedge fund industry and limit their investment strategies and options.

In college I did some research into hedge funds and I agree with those like Alan Greenspan that hedge funds do serve a purpose in the market. In my opinion they help keep prices honest by being able to short sell and bet against upward movement. There are obviously people willing to accept the amount of risk hedge funds bring with themselves or else they would have become so successful.

In my opinion if there is gonna be regulation brought about, I'd rather see it with the process for investors entering a hedge fund. I don't mind the process becoming stricter to make sure that investors truly understand the risks of their respective hedge funds. But lets not eliminate something that the market wants and has a place for.

What do you guys think?

[le roi]

I understand why: "helping keep prices honest by being able to short sell and bet against upward movement" is necessary and good.

Going along with this logic, I don't understand why this characteristic is considered to be limited to hedge funds. Seems that anyone can sell short.

I also do not understand how this line of thought justifies their opaqueness or the lack of regulations for them.

[pinetreecity]

I think the government should only regulate three things concerning hedge funds.

1. They should require them to register for the sake of transparency. When the markets were in danger of freezing up last year, rumors were flying about one mysterious hedge fund or another being in trouble. Regulators were left guessing on what was really wrong, and so they could do nothing, or worse, aggravate the problem using misinformation.
2. They should increase the restrictions on who can invest in hedge funds. Hedge funds were always supposed to be for those people or institutions that already knew what they were doing, but over the years, these restrictions were relaxed. It should be kept restrictive.
3. When a hedge fund's positions grow big enough, relative to whatever markets they are working with, to freeze things up should they need to unwind, then their leverage restrictions should increase gradually. It was leverage that caused the blowups to be so impressive and destructive. Of course, decreasing a funds flexibility during rough patches can be a problem in of itself.

I don't like the idea of restricting what hedge funds can invest in, or how they can invest. I'm not convinced these type of restrictions are effective, and they can backfire. I wonder how many mutual funds were forced to ride the markets down because they were restricted in the types of positions they could take. I've never understood why the lack of flexibility is considered to be a good thing.