The Securities and Exchange Commission (SEC) announced on Dec. 22, 2020, that it has finalized amendments to the current advertising rule (Rule 206(4)-1) and cash solicitation rule (Rule 206(4)-3) under the Investment Advisers Act of 1940. The amendments unify the current advertising and cash solicitation rules into a single rule (Marketing Rule) designed to comprehensively regulate an investment adviser's marketing communications.
The Marketing Rule contains: (i) general prohibitions concerning advertisements; (ii) certain requirements for testimonials and endorsements; (iii) rules governing inclusion of third-party ratings in advertisements; and (iv) requirements pertaining to performance advertising.
Definition of "Advertisement"
The amended definition of "advertisement" in the Marketing Rule contains two prongs – one that addresses communications that were previously covered by the advertising rule and one that addresses solicitation activities that were previously covered by the solicitation rule.
The first prong of the definition applies to any direct or indirect communication by an investment adviser that: (i) offers the investment adviser's investment advisory services to prospective clients or private fund investors or (ii) offers new investment advisory services to current clients or private fund investors. The first prong of the definition, however, excludes from the definition of "advertisement" (a) one-on-one communications unless they involve hypothetical performance not provided in response to an unsolicited investor request or to a private fund investor, (b) extemporaneous, live, oral communications, and (c) information contained in a statutory or regulatory notice, filing or other required communication, provided that such information is reasonably designed to satisfy the requirements of such notice, filing or other required communication.
The second prong of the definition applies to any endorsement or testimonial for which an investment adviser provides cash and non-cash compensation directly or indirectly (e.g., directed brokerage, awards or other prizes, and reduced advisory fees).
General Prohibitions Concerning Advertisements
Under the Marketing Rule, investment advisers are prohibited from engaging in the following advertising practices:
- Making an untrue statement of a
material fact, or omitting a material fact necessary to make the
statement made, in light of the circumstances under which it was
made, not misleading
- Making a material statement of fact
that the investment adviser does not have a reasonable basis for
believing it will be able to substantiate upon demand by the
- Including an untrue or misleading
implication about, or information reasonably likely to cause an
untrue or misleading inference to be drawn concerning, a material
fact relating to an investment adviser
- Discussing or implying any potential
benefits connected with the investment adviser's services or
methods without clearly and prominently discussing associated
material risks or other limitations associated with the potential
- Referencing specific investment
advice provided by the investment adviser that is not presented in
a fair and balanced manner (e.g., providing a reference to
profitable past specific investment advice without providing
sufficient information and context to evaluate the merits of such
- Including or excluding performance
results, or presenting performance time periods, in a manner that
is not fair and balanced
- Including information that is otherwise materially misleading
Testimonials and Endorsements
The Marketing Rule defines "testimonial" to include any statement by a current client or private fund investor about the client's or private fund investor's experience with the investment adviser or its supervised persons. "Endorsement" is defined in the Marketing Rule to include any statement by a person other than a current client or private fund investor that indicates approval, support or recommendation of the investment adviser or its supervised persons. Testimonials and endorsements include statements related to the investment advisory capabilities of an investment adviser or its supervised persons, as well as statements related to an investment adviser's or its supervised persons' qualities (e.g., trustworthiness, diligence or judgment).
The use of testimonials and endorsements is prohibited under the Marketing Rule, unless certain conditions are met, including: (i) clear and prominent disclosure as to whether the person giving the testimonial or endorsement is a client and whether such person is compensated; (ii) the investment adviser must enter into a written agreement with persons providing a testimonial or endorsement unless such person is an affiliate or receives compensation from the investment adviser that is $1,000 or less in value during the preceding 12 months; and (iii) certain "bad actors" are disqualified from giving testimonials or endorsements.
The Marketing Rule defines "third-party rating" as a rating or ranking of an investment adviser provided by a person who is not a related person of the investment adviser (as defined in the Form ADV Glossary of Terms), and such person provides such ratings or rankings in the ordinary course of its business. The use of third-party ratings in an advertisement is prohibited, unless the third-party ratings comply with the Marketing Rule's general prohibitions and certain additional conditions. The investment adviser must have a reasonable basis for believing that any questionnaire or survey used in the preparation of the third-party rating meets certain criteria and makes certain disclosures.
While the Marketing Rule's general prohibitions set forth above apply to advertisements that include performance results, the Marketing Rule also prohibits including the following items in any performance advertisement:
- Gross performance, unless the
advertisement also presents net performance (i) with equal
prominence and in a format designed to facilitate comparison with
the gross performance and (ii) calculated over the same time period
and using the same type of methodology as the gross
- Any performance results (other than
for private funds), unless such performance results are provided
for specific time periods (one-, five- and ten-year time
- Any statement, express or implied,
that the SEC has approved or reviewed any calculation or
presentation of performance results
- Performance results from fewer than
all portfolios with substantially similar investment policies,
objectives and strategies as those being offered in the
advertisement, unless the advertised performance results are not
materially higher than if all related portfolios had been included,
and the exclusion does not alter the presentation of any applicable
prescribed time period
- Extracted performance results from a
portfolio, unless the advertisement provides, or offers to provide
promptly, the performance results of the total portfolio from which
the performance was extracted
- Hypothetical performance (which does
not include performance generated by interactive analysis tools),
unless the investment adviser adopts and implements policies and
procedures reasonably designed to ensure that the performance is
relevant to the likely financial situation and investment
objectives of the intended audience and the investment adviser
provides additional information about the hypothetical performance
that is tailored to the audience receiving the advertisement, such
that the intended audience has sufficient information to understand
the criteria, assumptions, risks and limitations
- Predecessor performance, unless there is sufficient similarity with respect to the personnel and accounts at the predecessor adviser and the personnel and accounts at the advertising investment adviser. In addition, the investment adviser must include all relevant disclosures clearly and prominently in the advertisement, including that the performance results are from accounts managed at another entity
The staff of the Division of Investment Management will withdraw certain no-action letters and other guidance addressing the application of the current advertising and cash solicitation rules. A list of these letters will be available on the SEC's website.
The Marketing Rule will become effective 60 days after publication in the Federal Register. The SEC has given investment advisers 18 months after the effective date of the Marketing Rule to become compliant with its updated restrictions.
The final Marketing Rule can be found here.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.