Friday, January 08. 2021
The revisions are the first modifications made to either rule since the advertising rule’s adoption in 1961 and the cash solicitation rule’s adoption in 1979. The amendments exemplify the regulatory changes and market developments and practices since each rule was adopted, including tremendous advancements in communications and especially in the areas of mobile communications and electronic media. The expectations of investors pursuing advisory services have evolved and expanded just as the profiles of the investment advisory industry have. The new marketing rule gives special attention to these changes and to the SEC’s experience overseeing the current rules. The modifications will allow advisers to provide investors with beneficial information when choosing investment advisers and advisory services (with requirements designed to prevent instances of fraud).
The current advertising rule contains extensive limitations with principles-based provisions intended to accommodate the ongoing advancements and interaction of technology and guidance. The amendments, described below, include customized requirements for certain types of advertisements.
Updating the Definition of Advertising
The modified definition of “advertisement” has two facets. The first captures communications usually covered by the advertising rule but excludes almost all one-on-one communications and contains certain exclusions. The second regulates solicitation actions previously covered by the cash solicitation rule. First, the definition includes all direct or indirect communication an investment adviser makes that: 1) offers the investment adviser’s services concerning securities to potential clients or private fund investors, or 2) offers new investment advisory services regarding securities to existing clients or private fund investors.
Second, the definition commonly includes any endorsement or testimonial for which an adviser provides cash and other compensation directly or indirectly. This includes awards or other prizes, directed brokerage, and reduced advisory fees.
Changing Requirements for Advertisements Using Third-Party Ratings
The amendments would require advertisements that include third-party ratings to meet certain requirements related to the preparation of the rating and provide specific disclosures to stop them from being misleading.
Prohibit Certain Information about Performance
Particular types of information about performance would be excluded from advertisements, such as:
- gross performance, except when the advertisement also presents net performance
- any performance results unless they are provided for specific periods of time
- performance results from less than all portfolios with objectives, investment policies, and strategies considerably similar to those presented in the advertisement (with limited exceptions)
- performance results of a subset of investments extracted from a portfolio, unless the advertisement provides, or offers to furnish expediently, the performance results of the total portfolio
- hypothetical performance (not including performances generated by interactive analysis tools), except when the adviser adopts policies and measures intended to ensure that the performance is relevant to the likely financial situation and investment goals of the intended audience and the adviser provides certain information underlying the hypothetical performance
- predecessor performance unless there is appropriate likeness between the personnel and accounts at the predecessor adviser and the personnel and accounts at the advertising adviser and the advertising adviser includes all appropriate disclosures clearly and prominently in the advertisement.
Prohibit the Use of Testimonials and Endorsements
The use of certain testimonials and endorsements is prohibited unless the following is satisfied:
Disclosure – The advertisements must clearly and obviously disclose if the individual giving the testimonial or endorsement (the “promoter”) is a client and whether that promoter is compensated. Further disclosures are required regarding compensation and conflicts of interest. For broker-dealers registered with the SEC experiencing certain circumstances, there are exceptions from the disclosure requirements. The rule nullifies the existing rule’s requirement that advisors obtain from each investor acknowledgements of receipt of the disclosures.
Oversight and Written Agreement – An adviser using testimonials or endorsements in an advertisement is required to monitor compliance with the marketing rule. Advisors also must enter into a written agreement with promoters, except in instances when the promoter is an affiliate of the adviser or the promoter receives minimal compensation ($1,000 or less, or the equivalent value in other compensation, during the previous twelve months).
Disqualification – Subject to exceptions where other disqualification provisions apply, the rule bans certain “bad actors” from being promoters.
Prohibit Certain Advertising Practices
Certain advertising practices are banned by the amendments, such as:
- sharing information that could likely cause an untrue or misleading intimation of a material fact relating to the adviser
- discussing possible benefits without offering fair and balanced treatment of any substantial related risks or limitations
- citing specific investment guidance given by the adviser that is not presented in a fair and balanced way
- including information that is otherwise materially misleading
Amendments to the Books and Records Rule and Form ADV
The SEC has revised Form ADV (the investment adviser registration for) to make it mandatory for advisers to provide more information concerning their marketing practices for the purpose of facilitating the SEC’s inspection and enforcement capabilities. The agency has also made related amendments to the books and records rule (Rule 204-2).
Withdrawal of Staff Guidance
The Division of Investment Management staff expects to remove no-action letters and other guidance concerning the application of the advertising and cash solicitation rules. A list of the letters will be available on sec.gov.
The revised marketing rule, amended books and records rule, and related Form ADV amendments will be published on sec.gov and in the Federal Register. Each will become effective 60 days after publication in the Federal Register. The SEC has approved a compliance date 18 months following the effective date that allows advisers a transition period in which to comply with the amendments. To assist with planning for compliance with this new rule, advisers are encouraged to contact SEC staff by sending inquiries via email to IM-Rules@sec.gov.