General Prohibitions Under the Investment Adviser Marketing Rule

Practus LawLegal Insights

attorneys reviewing general prohibition amendments

Authored By Karen Aspinall & Ethan Corey 

Section III: General Prohibitions Under the Amended Investment Adviser Marketing Rule

Overview

In this part of our summary, we explore the set of seven principles-based general prohibitions that will apply to all advertisements.  These general prohibitions were designed to provide investment advisers with a “principles-based” framework for applying these prohibitions to any particular advertisement, which we illustrate in more detail below.  

This summary is one part of a series of updates regarding the amended marketing rule. You can read this article for our complete Summary of the Investment Adviser Marketing Rule or you may click on any of the links below to view a particular section.

Defining General Prohibitions

The seven deadly sins are pride, greed, wrath, envy, lust, gluttony, and sloth.  What are the corresponding seven general prohibitions in the final rule?

Under the final rule, an adviser may not:

  1. include any untrue statement of a material fact, or omit to state a material fact necessary in order to make the statement made, in the light of the circumstances under which it was made, not misleading;
  2. include a material statement of fact that the adviser does not have a reasonable basis for believing it will be able to substantiate upon demand by the SEC;
  3. include information that would reasonably be likely to cause an untrue or misleading implication or inference to be drawn concerning a material fact relating to the investment adviser;
  4. discuss any potential benefits to clients or investors connected with or resulting from the investment adviser’s services or methods of operation without providing fair and balanced treatment of any material risks or material limitations associated with the potential benefits;
  5. include a reference to specific investment advice provided by the investment adviser where such investment advice is not presented in a manner that is fair and balanced;
  6. include or exclude performance results, or present performance time periods, in a manner that is not fair and balanced; or 
  7. otherwise be materially misleading.

2. What does the SEC view as an untrue statement or omission?

Context is key.  For example, advertising that an adviser’s performance was positive during the last fiscal year may be misleading if the adviser omitted that an index or benchmark consisting of a substantively comparable portfolio of securities experienced significantly higher returns during the same period.  Similarly, it would be misleading for an adviser to compensate a person to refer investors to the adviser by stating that the person had a “positive experience” with the adviser when such person is not an advisory services client of the adviser or an investor in a private fund advised by the adviser.

3. What does it mean to have a reasonable basis to believe that they can substantiate material claims of fact upon demand by the SEC? 

The SEC is distinguishing fact from opinion.  Performance falls on the fact side of the divide.  However, the SEC will not require opinions to be substantiated.  Moreover, advisers would be able to demonstrate their “reasonable basis to believe” in several ways.  For example, they could make a record contemporaneous with the advertisement demonstrating the basis for their belief.  An adviser might also choose to implement policies and procedures to address how this requirement is met. 

However, the SEC treats performance more strictly.  If an adviser is unable to substantiate the material claims of fact made in an advertisement when the SEC demands it, it will presume that the adviser did not have a reasonable basis for its belief.

4. What would be an example of including information that would be reasonably likely to cause an untrue or misleading implication or inference to be drawn concerning a material fact relating to an investment adviser? 

For instance, if an adviser were to state accurately in an advertisement that it has “more than a hundred clients that have stuck with me for more than ten years,” the SEC believes it may create a misleading implication if the adviser actually has a very high turnover rate of clients.  In addition, this provision will prohibit an adviser from stating that all of its clients have seen profits, even if true, without providing appropriate disclosures if, for example, it only has two clients, as it may be reasonably likely to cause a misleading inference by potential clients that they would have a high chance of profit by hiring the adviser as well.

5. What constitutes providing fair and balanced treatment of material risks or material limitations? 

An adviser need not discuss every potential risk or limitation in detail, but must instead discuss the material risks and material limitations associated with the benefits in a fair and balanced manner.  If an adviser lists one risk or limitation and hyperlinks to further risks and limitations, both the initial presentation and the hyperlinked presentation must provide fair and balanced treatment of material risks and material limitations.

6. Now that an investment adviser may present specific investment advice as long as it is fair and balanced, may it simply utilize FINRA’s interpretations of what constitutes “fair and balanced” under FINRA Rule 2210 to satisfy the final rule? 

No.  While in some cases advisers may wish to consider FINRA’s interpretations related to the meaning of “fair and balanced” for issues the SEC did not specifically address, FINRA Rule 2210 and its body of decisions are not controlling or authoritative interpretations with respect to the final rule.  

The SEC’s general principle is whether the adviser has provided sufficient information and context to evaluate the merits of that advice.  This could include providing unfavorable or unprofitable past specific investment advice in addition to the favorable or profitable advice or applying non-performance based criteria to determine how investments that are included in an advertisement are chosen, such as the top holdings by value in a given strategy at a given point in time.

Moreover, the final rule will prohibit an investment adviser from including or excluding performance results, or presenting performance time periods, in a manner that is not fair and balanced in an advertisement.  This is intended to prevent advisers from cherry-picking performance periods to create an impression of performance that is not reflective of the adviser’s general results.

7. How do I figure out what it means for an advertisement to be “otherwise materially misleading”? 

The SEC intends for the prohibition to cover materially misleading practices not specifically covered by the other prohibitions.  For example, if an adviser provided accurate disclosures, but presented them in an unreadable font, such an advertisement would be materially misleading and prohibited under this provision.

There’s a lot to digest here.  Who should we talk to if we have further questions?

Please call Karen Aspinall (949.629.3928), Ethan Corey (301.580.6489) or the Practus attorney with whom you deal regularly with questions.

About the Authors

karen aspinall practus attorney and partnerKaren A. Aspinall is a Financial Services Partner at Practus LLP.  She brings a wealth of experience and a solutions-oriented approach to our legal team as an authority on regulatory compliance matters involving SEC, DOL, NFA and CFTC matters.  Karen’s practical experience and pragmatic approach to problem solving are valuable for clients who are looking to navigate the complex and ever-changing regulatory landscape.

 

 

ethan corey headshot

Ethan Corey has spent 22 years as an investment management lawyer specializing in distribution issues (including FINRA rules) as well as 1940 Act and Advisers Act issues. Ethan is familiar with ERISA, MSRB and CFTC rules, as well as FCA Conduct of Business Rules and MiFID II. He has been an effective advocate with regulators as a member of industry trade groups.

 

 

 

Attorneys Phone Email
Karen A. Aspinall  (949) 629-3928 Karen.Aspinall@Practus.com
Ethan Corey (301) 580-6489 Ethan.Corey@Practus.com

Practus, LLP provides this information as a service to clients and others for educational purposes only. It should not be construed or relied on as legal advice or to create an attorney-client relationship. Readers should not act upon this information without seeking advice from professional advisers.