The U.S. Securities and Exchange Commission’s Marketing Rule 206(4)-1 under the Investment Advisers Act of 1940 as amended has now been in effect for several years, yet performance advertising continues to be one of the most frequently cited areas of concern during regulatory examinations. SEC Risk Alerts, enforcement actions, and examination observations demonstrate that many investment advisers continue to struggle with Rule 206(4)-1 compliance including presenting performance information in a manner that fully complies with SEC requirements and expectations.
For many investment adviser firms, the challenge is not whether performance can be advertised. Rather, the challenge is understanding how performance must be presented, documented, reviewed, and supervised before it is used in advertising materials.
Performance Advertising Is About More Than Investment Returns
When investment advisers think about performance advertising, they often focus only on historical returns. The SEC, however, applies a much broader view.
Performance-related content can include:
- Composite performance presentations;
- Model performance;
- Back-tested results;
- Portfolio characteristics;
- Related portfolio performance;
- Extracted performance from a portion of a portfolio;
- Predecessor performance;
- Comparisons to benchmarks or indices; and
- Performance-related statements and claims.
In many cases, investment adviser firms create compliance concerns not because the performance information is inaccurate, but because the presentation lacks important context, disclosures, assumptions, limitations, or supporting documentation.
Common Examination Deficiencies
Recent SEC examination findings have highlighted several recurring deficiencies involving performance advertising. Some of the most common concerns include the following.
- Gross Performance Without Appropriate Net Performance: Investment adviser firms sometimes display gross returns while giving little attention to net returns. The SEC expects firms to carefully evaluate whether net performance must also be presented and whether the presentation is balanced and not misleading.
- Cherry-Picked Results: Presenting only favorable holdings, recommendations, accounts, or periods can create a misleading impression of overall performance. The SEC continues to focus heavily on selective performance presentations that may cause investors to draw inaccurate conclusions.
- Unsupported Claims: Statements such as the following may require substantiation – examiners frequent request support for performance related statements and factual claims contained in marketing materials:
- Our strategy consistently outperforms the market;
- Our process reduces downside risk; and
- Clients achieve superior risk-adjusted returns.
- Deficiencies in Hypothetical Performance Presentations: Hypothetical performance remains one of the highest-risk areas under the Marketing Rule. Investment advisers using model results, projections, or back-tested performance must carefully evaluate whether the intended audience can understand the assumptions, risks, criteria, and limitations associated with the presentation.
- Inadequate Books and Records: Even when advertisements appear compliant on their face, firms sometimes fail to maintain adequate records supporting the underlying performance calculations, assumptions, benchmarks, disclosures, reviewer comments, and approval process.
- The Importance of a Strong Review Process: One of the most effective ways to reduce regulatory risk is implementing a structured advertising review process before materials are published.
A strong review process by an investment adviser’s chief compliance officer typically evaluates:
- Whether the communication constitutes an advertisement;
- Compliance with the Marketing Rule’s general prohibitions;
- Performance calculation methodology;
- Required disclosures;
- Benchmark comparisons;
- Substantiation of factual statements;
- Supporting documentation; and
- Retention and recordkeeping requirements.
Investment adviser firms should also ensure that reviewers have sufficient training and authority to challenge performance claims before materials are distributed.
Documentation Matters
Many investment advisers spend significant time developing marketing materials but devote little attention to documenting the review process.
During an examination, regulators typically request the following:
- Copies of advertisements;
- Performance calculation workpapers;
- Source data;
- Benchmark support;
- Review comments;
- Approval documentation; and
- Records supporting performance-related claims.
A well-documented review file can help demonstrate that the firm exercised reasonable oversight and followed established compliance procedures.
A Continuing Area of Regulatory Focus
Performance advertising remains an active examination priority for the SEC. Firms that advertise investment performance should periodically review their marketing practices, internal controls, disclosure language, and recordkeeping procedures to help identify potential gaps before regulators do. As marketing practices evolve and SEC guidance continues to develop, investment advisers should periodically revisit their policies and procedures to ensure they remain consistent with current regulatory expectations.
Resources
Disclosures
This post is a brief summary which is general in nature and offered only for educational purposes. It should not be considered a safe harbor or even a recommendation for an investment adviser to introduce, recommend or use a digital estate planning tool. This is not a comprehensive review or analysis of digital estate planning tools, unauthorized practice of law issues, fiduciary obligations, Form ADV disclosure requirements, Regulation S-P, state law, insurance coverage, privacy, cybersecurity, or any particular investment adviser firm’s compliance obligations.
Nothing in this post constitutes an opinion on whether any specific activity constitutes the unauthorized practice of law in any jurisdiction, as UPL standards vary significantly by state. and the particular facts and circumstances of a situation.
This communication is not intended to constitute legal advice, a legal opinion, or compliance consulting advice for any particular firm’s specific situation. RIA Compliance Consultants, Inc. is not a law firm and does not provide legal services. Investment adviser firms should consult with qualified legal counsel regarding unauthorized practice of law issues, estate planning services, state-specific requirements, digital estate planning platforms, client disclosures, contracts, insurance coverage, Regulation S-P obligations, and other legal matters.
This post is not a safe harbor. The reader should study applicable statutes, rules, regulatory guidance, enforcement actions, ethics opinions, and state law in detail and consult with legal and compliance professionals. This information may become out of date.
Posted by Bryan Hill
Labels: Advertising, Performance Advertising
Tagged: Advertising
