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Deal near on EU hedge fund rules

BRUSSELS — European Union finance ministers expect to cut a deal on new disclosure rules for hedge funds next week, diplomats said Friday, despite British and U.S. and financial industry worries that the new regulations could block foreign-based funds from the 27-nation bloc.

The EU executive reacted angrily this week to a letter from U.S. Treasury Secretary Tim Geithner on U.S. concern that American funds would be shut out from marketing to European investors under rules that insist all funds sold in Europe must have tight oversight that is similar to that in the EU.

EU spokesman Amadeu Altafaj Tardio told reporters Friday that regulators were “keen to make sure that any measures will not be protectionist.”

But funds are worried that the EU draft rules could be used to make it harder for alternative investment funds based outside Europe — including private equity funds and others — to reach European customers.

Christen Thomson of industry group the Alternative Investment Management Association, said European investors would ultimately lose out if they can’t use high-return investments from foreign-based funds for part of their portfolios — and that governments could lose some or most of the €9 billion they make from taxes and charges on the fund industry.

The new law would likely require managers of large funds doing business in Europe to register with local market regulators and to regularly inform supervisors about their trades and risk exposure to prove they don’t pose a threat to the financial system.

They would have to disclose their overall trading strategy, their risk management system and explain how they value and store assets — and be obliged to hold a minimum level of capital to cover potential losses.

High-risk and high-profile, alternative investment funds have been a popular target of European political ire since some activist funds challenged management at prominent German companies — prompting a German socialist to brand them as “locusts.”

Hedge funds were caught up in a vast wave of financial regulation in the aftermath of the financial crisis — with the EU executive rushing out a widely criticized proposal in April 2009 to increase oversight and crack down on financial players based in loosely regulated, low-tax havens such as the Cayman Islands.

At the time, EU officials said their insistence on tough oversight for foreign funds would pressure the U.S. and others to step up supervision.

It is unclear if the new rules — as they stand — would actually prevent U.S. funds from being marketed in Europe since they are regulated in the U.S., even if the EU demands more transparency from them.

However, the rules might block funds from other countries where there is little or no oversight.

Diplomats speaking under condition of anonymity said Friday that Britain — the home of most European funds and their managers — was now “very isolated” because it was the only EU country that would not agree to the proposed rules for foreign funds.

They said all other EU nations wanted to strike a deal Wednesday — and would probably do so without Britain’s assent.

This isn’t the only sticking point. France is keen to get support from other EU nations to make depositories — middlemen between investors and funds — liable for losses.

That aims to prevent a repeat of the large losses some French investors made when they placed money with Luxembourg depositories who channeled it into a vast pyramid scheme run by U.S. financier Bernard Madoff.

AIMA’s Thomson said this move to increase investor protection wasn’t wanted by all investors because it would likely increase costs for depositories

The European Parliament must also approve the new law — and the final shape of the new rules is far from final. If the rules are agreed as planned by July, they could be in place for EU funds by 2011 at the soonest and for funds outside Europe from at least 2014.

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