SEC Proposes to Modernize the Advertising and Cash Solicitation Rules for Investment Advisers

November 5, 2019 

The Securities and Exchange Commission on November 4 announced that it has voted to propose amendments to modernize the rules under the Investment Advisers Act addressing investment adviser advertisements and payments to solicitors. The proposed amendments are intended to update these rules to reflect changes in technology, the expectations of investors seeking advisory services, and the evolution of industry practices.

“The advertising and solicitation rules provide important protections when advisers seek to attract clients and investors, yet neither rule has changed significantly since its adoption several decades ago,” said SEC Chairman Jay Clayton. “The reforms we have proposed today are designed to address market developments and to improve the quality of information available to investors, enabling them to make more informed choices.”

The proposed amendments to the advertising rule would replace the current rule’s broadly drawn limitations with principles-based provisions. The proposed approach would also permit the use of testimonials, endorsements, and third-party ratings, subject to certain conditions, and would include tailored requirements for the presentation of performance results based on an advertisement’s intended audience.

The proposed amendments to the solicitation rule would expand the current rule to cover solicitation arrangements involving all forms of compensation, rather than only cash, subject to a new de minimis threshold. They also would update other aspects of the rule, such as who is disqualified from acting as a solicitor under the rule.

The public comment period will remain open for 60 days following publication of the proposal in the Federal Register.

FACT SHEET: Investment Adviser Advertisements; Compensation for Solicitations

Highlights

The Commission today voted to propose amendments to the rules that prohibit certain investment adviser advertisements and payments to solicitors, respectively, under the Investment Advisers Act of 1940 (the “Act”). Neither rule has been amended significantly since its adoption in 1961 and 1979, respectively. Since that time, the Commission and our staff have continued to learn about adviser marketing and solicitation practices, as those practices have evolved significantly with advancements in technology and the changes within the asset management industry and its investor base. The proposed amendments to Rule 206(4)-1 and Rule 206(4)-3 are designed to respond to these changes.

The Commission has also voted to propose amendments to Form ADV, the investment adviser registration form, and Rule 204-2, the books and records rule, which would reflect the changes proposed to the advertising and solicitation rules.

Proposed Amendments to Advertising Rule

The proposed amendments to Rule 206(4)-1 would replace the current rule’s broadly drawn limitations with more principles-based provisions, as described below.

• Definition of Advertisement. The proposal would update the definition of “advertisement” so that it is flexible enough to remain relevant and effective in the face of advances in technology and evolving industry practices.  

1. 1. 1. The definition would include any communication, disseminated by any means, by or on behalf of an investment adviser, that offers or promotes investment advisory services or that seeks to obtain or retain advisory clients or investors in any pooled investment vehicle advised by the adviser.
      2. The Commission proposed exclusions from this definition for: (1) live oral communications that are not broadcast, (2) responses to certain unsolicited requests for specified information, (3) advertisements, other sales material, or sales literature that is about a registered investment company or a business development company and is within the scope of other Commission rules; and (4) information required to be contained in a statutory or regulatory notice, filing, or other communication.

• General Prohibitions. The proposed rule would prohibit the following advertising practices: 

1. 1. 1. making an untrue statement of a material fact, or omission of a material fact necessary to make the statement made, in light of the circumstances under which it was made, not misleading;
      2. making a material claim or statement that is unsubstantiated;
      3. making an untrue or misleading implication about, or being reasonably likely to cause an untrue or misleading inference to be drawn concerning, a material fact relating to the investment adviser;
      4. discussing or implying any potential benefits without clear and prominent discussion of associated material risks or other limitations;
      5. referring to specific investment advice provided by the adviser that is not presented in a fair and balanced manner;
      6. including or excluding performance results, or presenting performance time periods, in a manner that is not fair and balanced; and
      7. being otherwise materially misleading.

• Testimonials and Endorsements.  The proposal would permit testimonials and endorsements, subject to specified disclosures, including whether the person giving the testimonial or endorsement is a client and whether compensation has been provided by or on behalf of the adviser.

• Third-Party Ratings.  The proposed rule would permit third-party ratings, subject to specified disclosures and certain criteria pertaining to the preparation of the rating.

• Performance Information Generally.  The proposal would prohibit including in any advertisement: 

1. 1. 1. Gross performance results unless it provides (or offers to provide promptly) a schedule of fees and expenses deducted to calculate net performance;
      2. Any statement that the calculation or presentation of performance results has been approved or reviewed by the Commission;
      3. Performance results from fewer than all portfolios with substantially similar investment policies, objectives, and strategies as those being offered or promoted in the advertisement, with limited exceptions;
      4. Performance results of a subset of investments extracted from a portfolio, unless it provides or offers to provide promptly the performance results of all investments in the portfolio; and
      5. Hypothetical performance, unless the adviser adopts and implements policies and procedures reasonably designed to ensure that the performance is relevant to the financial situation and investment objectives of the recipient and the adviser provides certain specified information underlying the hypothetical performance.

• Performance Information in a Retail Advertisement. The proposed rule would provide additional protections for an advertisement targeted to a retail audience:  (1)requiring the presentation of net performance alongside any presentation of gross performance, and (2)requiring generally the presentation of the performance results of any portfolio or certain composite aggregations across 1-, 5-, and 10-year periods.

• Internal Pre-Use Review and Approval.  In addition, the proposed amendments would require advertisements to be reviewed and approved in writing by a designated employee before dissemination, except for advertisements that are:  (1) communications disseminated only to a single person or household or to a single investor in a pooled investment vehicle; or (2) live oral communications broadcast on radio, television, the internet, or any other similar medium. 

Proposed Amendments to Solicitation Rule

The proposed amendments to Rule 206(4)-3 would largely make refinements in scope, written agreement content, and disclosure requirements, as described below.

• Scope.

1. 1. 1. All Forms of Compensation.  The proposed rule would apply regardless of whether an adviser pays cash or non-cash compensation to a solicitor.  Non-cash compensation would include directed brokerage, awards or other prizes, and free or discounted services.
      2. Private Fund Solicitors.  The proposed rule would apply to the solicitation of current and prospective investors in private funds, rather than only to the solicitation of current and prospective clients of the adviser.
      3. Exempt Arrangements.  The proposed rule would substantially retain the current rule’s partial exemptions for (1) solicitors that refer investors for impersonal investment advice, and (2) solicitors that are employees or otherwise affiliated with the adviser.  However, these arrangements would no longer be subject to the current rule’s written agreement requirement.  The proposal would also add two new full exemptions for: (1) de minimis compensation to solicitors, and (2) advisers that participate in certain nonprofit programs.
      4. Disqualified Solicitors.  The proposed rule contains an expanded list of disciplinary events for which persons would be disqualified from acting as a solicitor, with a limited exception.

• Written Agreement.  Under the proposed rule, an adviser that compensates a solicitor for solicitation activities would be required to enter into written agreement with the solicitor, unless an exemption applies.  The proposed rule would require that the written agreement include: (1) a description of the solicitation activities and compensation, (2) a requirement that the solicitor perform its solicitation activities in accordance with certain provisions of the Advisers Act, and (3) a requirement that solicitor disclosure be delivered to investors.  The proposed rule would eliminate the current rule’s requirements that the solicitor agree to deliver the adviser’s Form ADV brochure and perform its solicitation activities consistent with the instructions of the adviser. 

• Disclosure Requirements. The solicitor disclosure required under the proposed rule would continue to highlight for investors the solicitor’s financial interest in the client’s choice of an investment adviser.  Our proposal would modify the current solicitor disclosure to include additional information about a solicitor’s conflict of interest. Our proposal would eliminate the current rule’s requirement that the adviser obtain from each investor acknowledgments of receipt of the disclosures.

• Oversight of Solicitors. The proposed rule would require that the adviser have a reasonable basis for believing that the solicitor has complied with the rule’s written agreement, including complying with the solicitor disclosure requirement. This requirement would be largely the same as the current rule.

Proposed Amendments to the Books and Records Rule and to Form ADV

The proposed amendments to Rule 204-2 relate to the proposed amendments to the advertising and solicitation rules.

Finally, today’s proposal would amend Form ADV to provide additional information regarding advisers’ advertising practices to help facilitate the Commission’s inspection and enforcement capabilities.

Review of Relevant Staff Guidance

Staff in the Division of Investment Management have issued a number of no-action letters and other guidance addressing the application of the current advertising and solicitation rules.  The Commission’s release accompanying the proposed amendments includes a list of the relevant letters and guidance.  The staff is reviewing these letters to determine whether any should be withdrawn in connection with any adoption of the proposed amendments.

What’s Next?

The proposed amendments will be published on the Commission’s website and in the Federal Register.  The public comment period will remain open for 60 days after publication in the Federal Register.

The Commission also approved for use two short-form tear sheets (“feedback flyers”) to gather information. Investors are encouraged to submit additional feedback about their experiences with adviser marketing on the investor feedback flyer. Smaller advisers are encouraged to submit additional feedback about how the proposed rules would affect them on the adviser feedback flyer The feedback flyers are available on the Commission’s website.

Source:  SEC