In light of recent SEC enforcement actions involving registered investment advisers, it's become increasingly clear that robust marketing compliance practices are essential for firms to uphold regulatory standards and avoid potential penalties. These actions have highlighted the significance of adhering to the Advisers Act Rule 206(4)-1, or the Amended Marketing Rule, and underscored the consequences of non-compliance.
The violations identified in these enforcement actions encompass a range of infractions, from making false or misleading claims about performance to failing to implement adequate policies and procedures. Notably, the firms advertised hypothetical performance to a mass audience without ensuring its relevance to the intended audience's financial situation and investment objectives, thereby violating the Amended Marketing Rule.
Beyond the prominent issue of disseminating hypothetical performance to a mass audience without adequate policies in place, other violations included false or misleading statements about performance metrics, such as stating unsubstantiated claims of outperforming the market. Failure to disclose material facts, such as commingling client funds, despite claiming otherwise in promotional materials. Omission of material information about the compensation arrangements with third-party endorsers. Failure to maintain records, such as copies of advertisements and necessary performance calculation documentation, further highlighted the inability to substantiate their performance. Â
There were shortcomings in compliance procedures, including the failure to conduct required testing of the firm's policies and procedures as mandated by Rule 206(4)-7. Failures to implement certain compliance policies and procedures outlined in the compliance manual, such as their own requirement that the Chief Compliance Officer review and approve all marketing materials in writing before dissemination and maintain a log of any such approvals. Moreover, it mandated individuals providing endorsements for compensation to furnish referred individuals with specific disclosures and necessitated written confirmation of receipt of these disclosures. However, according to the SEC’s order, the implementation of these policies and procedures was not done. Furthermore, the firm failed to conduct an annual review of the adequacy of its investment advisory compliance program or assess the effectiveness of its implementation since registering with the Commission in October 2021.
In response to these violations, certain firms demonstrated proactive measures by taking remedial actions even before SEC intervention. As a result, a few of the firms received lesser penalties because they implemented corrective steps prior to being contacted by the SEC’s staff. This underscores the importance of reviewing marketing compliance policies and procedures, as well as marketing practices, ahead of an SEC examination, as the severity of penalty charges can vary significantly or may even be avoided altogether.
For advisory firms seeking to bolster their marketing compliance practices, several key lessons can be gleaned from these enforcement actions. Firstly, it is imperative to review and update marketing materials regularly to ensure compliance with the latest regulatory requirements. This may involve scanning old data on websites and social media platforms to identify and rectify any non-compliant content. Secondly, comprehensive staff training on regulatory requirements and compliance procedures related to marketing activities is essential and may need to be conducted periodically. Leveraging enforcement cases and articles discussing violations as educational tools can help enhance staff awareness and understanding of compliance obligations. Moreover, promoting internal discussions between advisers and marketing teams can facilitate alignment with compliance standards and foster a culture of compliance within the organization. Regular compliance assessments, conducted either internally or with the assistance of compliance consultants, are crucial for proactively identifying and addressing potential violations.
In addition to these measures, it's crucial for firms to establish clear policies and procedures governing the use of hypothetical performance, encompassing both back-tested hypothetical performance and hypothetical projections. These policies should include specific requirements, such as creating, adopting, and implementing procedures reasonably designed to ensure that hypothetical performance information is relevant to the likely financial situation and investment objectives of the intended audience of the advertisement.
Furthermore, firms should refrain from using hypothetical performance in advertisements distributed to a mass audience or intended for general circulation, as it would be unreasonable to form expectations about the financial situation and investment objectives of such a broad audience.
Additionally, prospective clients must be assessed to ensure they possess the resources and financial expertise necessary to consider the hypothetical information provided appropriately. All relevant information, including the criteria used and assumptions made in calculating the hypothetical performance, must be disclosed to allow the intended audience to understand the methodology fully.
Firms must provide comprehensive disclosures regarding the risks and limitations associated with using hypothetical performance in making investment decisions.
Interactive tools may be used, provided they produce simulations and statistical analyses presenting the likelihood of various investment outcomes. However, these tools are subject to the general prohibitions of the marketing rule. Specific disclosures must be made describing the criteria and methodology used, including limitations and key assumptions of the investment analysis tool. It's imperative to explain that results may vary with each use and over time, disclose the universe of investments considered, and provide additional warnings about the hypothetical nature of the projections or information generated by the tool.
To avoid the use of misleading statements and omission of material information, firms should conduct thorough due diligence on all marketing materials, ensuring that they accurately represent the firm's performance and practices. It's crucial to maintain detailed records and documentation to substantiate any claims made in marketing materials and to ensure compliance with record-keeping requirements. Regular reviews of compliance policies and procedures, including those related to referral sources and client disclosures, should be conducted to identify and address any gaps or deficiencies. Additionally, although not required by the rule, Â firms should establish a process for logging approvals of marketing materials by designated compliance personnel to ensure accountability and oversight. Dissemination of required disclosures to clients should be done promptly and consistently, with documentation maintained to demonstrate compliance.
All information provided is for educational purposes and shall not be construed as specific advice. The information does not reflect the view of any regulatory body, State or Federal Agency or Association. All efforts have been made to report true and accurate information. However, the information could become materially inaccurate without warning. Not all information from third-party sources can be thoroughly vetted. Coulter Strategic Services and its staff do NOT provide legal opinions or legal recommendations. Nothing in this material shall be considered as legal advice or opinion. If you would like specific compliance education, training, and services to help with your compliance program or project, please contact Coulter Strategic Services.Â
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