By: Adrian Lopez Casab
In recent days, the Mexican Senate approved an initiative for the amendment of the Securities Market Law to include a Simplified Securities Registration mechanism and to regulate the operation of Hedge Funds in Mexico.
Hedge Funds are an investment vehicle which should be incorporated as a partnership or corporation (according to the amendment initiative, in Mexico they will have to be incorporated and operate as a corporation [Sociedad Anónima]), whose name derives from the characteristic that its investments, which are generally of high risk, are usually directed in positions that in principle appear to be contradictory, but whose strategy helps to cover the risk assumed in the initial position due precisely to the high risk involved. These positions can be both within the same sector, as well as in sectors with different timing or characteristics, e.g. short-term versus long-term investments, cyclical sectors (tourism) versus non-cyclical sectors (manufacturing), among others. More recently, this kind of funds has also been widely involved in investing in non-conventional or alternative investment instruments like digital assets such as non-fungible tokens (NFTs) and crypto. Due to the very nature of risk and complexity of hedge fund investments, their operations are predominantly directed to institutional or qualified investors.
In terms of their organization, investment funds of this type are usually composed of partners known as limited partners (“LP”), who limit their activity only to the contribution of funds and, therefore, are not involved in the operation or investment strategies of the fund; on the other hand, regarding their operation, this kind of funds generally operate with a general partner ("GP") who is solely responsible for the general management and to direct the inversion strategy of the fund and any sub-funds that the fund may have, as well as the companies or other type of vehicles (usually trusts), which limit their activity to the management and investment of the funds provided by the GP, the foregoing to limit the liabilities of the fund and which are usually directed to certain sector or class of investments. Until now, only a few of the aforementioned vehicles have operated in Mexico, which, since they are not corporations and do not raise funds from investors (since their funds are provided by the GP), were not subject to stock exchange regulation neither to the Investment Funds Law.
Hedge Funds have had a presence in the stock markets for a long time, being a risky investment vehicle for their investors, but which, in exchange, usually offer them very attractive returns. Despite being a type of investment fund that has been operating for some time in the main financial centers, international regulation of this vehicle and its administrators was accentuated with the financial crisis of 2008, the main points regulated being (i) its registration and the minimum requirements for it; (ii) the delivery of information to regulatory agencies; (iii) the implementation of good practices both by the fund itself and by its service providers; and (iv) authorities for the regulatory agents to request relevant information and prevent systemic risk.
In the explanatory memorandum of the proposed amendment, the legislator details that the intention of the amendment is to establish the regulation of companies so that they may be incorporated in Mexico as Hedge Fund GPs subject to Mexican regulatory bodies and to the provisions of the Mexican Stock Exchange and Investment Funds Law. The above, together with the concurrent proposal for the creation of a Simplified Registration of Securities mechanism -whose offerings will be directed to institutional or qualified investors only-, if approved by the Chamber of Deputies, could represent an important increase in the number of institutional investors in the country (which today are mainly formed by retirement pension funds), which would constitute an important advance to the Mexican stock market.
