Today’s proposed Securities and Exchange Commission (SEC) rule lifting the outdated ban on “general solicitation” by hedge funds and venture capitalists is a victory for entrepreneurs, small investors, and, most of all, the First Amendment. Pursuant to the bipartisan Jumpstart Our Business Startups (JOBS) Act signed by President Obama, the SEC voted 4-1 to scrap a rule that had turned into an effective ban on routine communication with the general public from hedge funds, private equity firms, and venture capitalists.
The Competitive Enterprise Institute had previously filed an amicus brief supporting the Bulldog Investors hedge fund’s challenge to state variants of this ban as unconstitutional restrictions on free speech. We argued — as did Bulldog’s outspoken co-founder and chief Phillip Goldstein and his counsel, the famed liberal First Amendment attorney Laurence Tribe — that the general solicitation ban was keeping the “99 percent” of ordinary investors in the dark about the workings of financial markets.
Over the decades, the SEC rule had come to broadly define just about any type of communication with the general public as an illegal stock “offering” to investors not wealthy enough to qualify to invest in hedge funds and venture capital. Under the solicitation ban, venture capitalists had less freedom to communicate over the Internet than the pornography industry. Non-wealthy adults who couldn’t meet the threshold for investing in vehicles exempt from SEC rules were treated as children who couldn’t be trusted with any information about investments not available to the general public.
Worries that lifting this ban will cause an increase in fraud, such as those expressed by dissenting Democratic SEC Commissioner Luis Aguilar, are wholly misplaced. Nothing in the proposed rule restricts the SEC’s ability to punish falsehoods and deceptions in dealing with investors. Hedge fund managers and venture captialists still may only sign up investors meeting wealth criteria of more than $1 million in assets or $200,000 in income (though this should eventually be changed too for non-wealthy investors willing to take this risk). But they will now be able to communicate their strategies to everyone, and ordinary investors will be able weigh this new information in their investing decisions.
The general solicitation ban did nothing to prevent Bernie Madoff from peddling his fraudulent scam to “qualified” individual and institutional investors. With barriers to general communication lifted, there will be fewer shadows where fraudsters like Madoff can hide.
What’s ironic is that hedge funds and private equity firms are accused of not being transparent, but much of this is due to the government’s own rules that force them to keep mum. The SEC should move with all deliberate speed to get it right with the First Amendment and investor transparency.