Hedge funds would have to register with the Securities and Exchange Commission, as well as disclose information about their advisors and holdings, under rules proposed by the commission last week.
The SEC voted 3-2 to propose the rules last week, starting what is expected to be a contentious 60-day public comment period. Among those who have criticized the rules include most of the hedge fund industry and Federal Reserve Chairman Alan Greenspan.
The controversy is expected despite the fact that, according to the SEC, up to 50% of hedge fund advisors are already registered with the SEC.
The rule, among other things, would open up hedge funds to oversight and industry "sweeps" by SEC regulators, including information on trading practices, holdings and the backgrounds of the advisors who run them. The funds would also be required to adopt basic compliance controls and improve disclosures to prospective and current hedge fund investors, according to the SEC.
Hedge funds constitute up to $1 trillion in assets, according to the SEC.
Voting in favor of the rules were SEC Chairman William Donaldson and the commission's two Democratic commissioners. Donaldson's two fellow Republican commissioners voted against the measure.
The vote broke down along the very same lines last month when the SEC ruled that mutual fund boards have chairmen who are independent from the managers of the funds.
Donaldson has called hedge funds "an accident waiting to happen" and that a measure of regulation is needed to protect investors. Critics say hedge funds provide accredited investors with a more flexible approach to investing, and that heavy regulation could drive funds out of the country.