In the first SEC ComplianceAlert issue, the United States Securities and Exchange Commission (SEC) cautioned registered investment advisors against inappropriate performance advertisements and inadequate policies regarding performance advertising. According to the ComplianceAlert article, the SEC discovered numerous deficiencies as a result of a risk-based sweep examination of several registered investment advisors.
The most common deficiency of registered investment advisors was the lack of sufficient disclosures necessary to prevent advertising from being misleading. The SEC provided the following as examples: firms failed to disclose they did not deduct investment advisory fees from the results, firms failed to disclose whether results reflected dividends, and registered investment advisor firms failed to disclose differences with the particular index used to benchmark performance claims. The SEC also noted firms had inadequate compliance policies and procedures designed to adequately control performance advertising. Another major concern of the SEC is a registered investment advisor firm’s inappropriate or inaccurate claim of compliance with the CFA Institute’s Global Investment Performance Standards (more commonly known as GIPS).
While the SEC does not require GIPS compliance, nor has it set specific standards to follow, RIA Compliance Consultants would remind registered investment advisor firms of the SEC’s guidance provided in its October 28, 1986 no-action letter to Clover Capital Management. This important no-action letter provides guidance about what’s prohibited when advertising performance of a model portfolio and when advertising actual performance. The following are some key takeaways from Clover:
Model and Actual Results
- Fails to disclose the effect of material market or economic conditions on the results portrayed;
- Fails to reflect the deduction of advisory fees, brokerage commissions, and other expenses that a client would have paid;
- Fails to disclose whether and to what extent the results portrayed include the reinvestment of dividends and other earnings;
- Suggests potential profits without also disclosing the possibility of loss;
- Compares results to an index without disclosing all material factors relevant to the comparison;
- Fails to disclose any material conditions, objectives or investment strategies used to obtain the performance advertised;
- Fails to disclose prominently the limitation inherent in model results;
- With respect to model performance results, fails to disclose, if applicable, material changes in the conditions, objectives or investment strategies of the model portfolio during the period portrayed and, if so, the effect thereof;
- With respect to model performance results, fails to disclose, if applicable, that some of the securities or strategies reflected in the model portfolio do not relate, or relate only partially, to the services currently offered by the adviser;
- With respect to model performance results, fails to disclose, if applicable, that the advisor’s clients actually had investment results that were materially different from those portrayed in the model;
- If actual performance results used in the advertising are only for a selected group of clients, fails to disclose the basis on which the selection was made and the effect of this practice on the results.
If your registered investment advisor firm has made performance advertising an integral part of its marketing campaign, have you made sure performance advertising is an integral part of the firm’s compliance manual? Registered investment advisors need to make sure all performance advertisements are consistent with the expectations set by the SEC. A well designed compliance policy with sufficient supervisory procedures is a must when trying to control and monitor performance advertising. If you would like to know how RIA Compliance Consultants can help your firm design reasonable policies and procedures for performance advertising, give us a call today.
Posted by Bryan Hill