Alternative Investments

Posted on November 13, 2008

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With decline of the stock market, investors are turning from the stock market to alternative investments.  These alternative investments range from the widely known – hedge funds and promissory notes – to  little known niches – Star Wars action figures and vintage guitars.  To some, these more exotic items offer the excitement of making money in a less known field, but the risk associated with these investments and the opportunity for fraud is omnipresent. 

Joe Borg, the Alabama  Securities Commissioner, and the Chairman of the National Association of State Securities Commission, has tried to raise awareness of the risks these investments present to investors.  Below are some links which highlight his efforts:

Investors Diversify Creatively in Bad Economy
State Securities Regulators Warn Against Slippery Oil and Gas Deals

The most important issue to remember is that even though these investments are not  traditional, there are still regulatory dangers.  A “security” is defined broadly  as any investment of money in a common enterprise with the expectation of profits.  Promissory notes, for instance, are regulated

When you deal in these investments, you need to realize that other party may have more knowledge than you.  As my Grandpappy always said: for every buyer, there is a seller.  In short, be careful.

Also, particularly if part of your sale is the promise of profits, remember that you may have to deal with securities regulations.  That does not mean that every Star Wars action is a registered security, but be careful and talk to a person who has experience or is a licensed broker dealer in the securities area before you sell.  In order to give you a clear understanding of the rationale of the Alabama Securities Commissioner, here are two of his quotes:

Nor am I suggesting that regulators should, by adopting a paternalistic approach, withhold alternative investments from the average retail investor. What I do suggest to you today is the following: New investments with highly complex structures, opaque investment holdings and strategies, and dubious profitability have arrived on Main Street, and precisely because of this trend, the investor protections afforded by statutes like the Investment Company Act are more important than ever.

Alternative investments have a legitimate place in our financial markets. Indeed, we do not object to access to these investments by retail investors so long as they are accompanied by all appropriate and necessary investor protections, rights, and remedies. This can only be accomplished by ensuring such investments are offered pursuant the appropriate Act. Your constituents, America’s retail investors, are not accustomed to the realities of alternative investments: complex capital structures; portfolios of illiquid and difficult to value securities; the use of substantial leverage; concentration of investments; self-dealing transactions with affiliates; excessive compensation arrangements detrimental to their interests; and disenfranchisement as shareholders. Congress sought to eliminate these elements of alternative investments from the public marketplace. Surely your constituents are still deserving of the protections so wisely provided to them.

See Testimony of Joseph P. Borg (July 11, 2007)

Mike Goodrich, Goodrich Law Firm, LLC

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