Transcript Highlights of Investment Adviser Advertising and Marketing

Highlights of
Investment Adviser
Advertising and Marketing
FIRMA National Training Conference
April 9, 2008
Orlando, FL
Chris Hardy
Partner
Ascendant Compliance Management, Inc.
Investment Adviser Advertising
 Definition
 Rules and Guidelines
 SEC interpretations
 Recordkeeping
 SEC Examinations
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Definition of an Advertisement
• “Any written communication addressed
to more than one person” that offers
investment advisory services related to
securities
• Broadest definition includes any
communication designed to attract
new clients or maintain existing clients
• Includes electronic and broadcast
advertisements
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What Is Not an Advertisement?
• Oral communications
• Customized RFP responses, letters or
e-mails (not sent to more than one
person)
• Personal account information sent to a
client
• Still possible to violate Section 206
antifraud provision
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Investment Adviser Advertising
• Specific Guidance
– Section 206 (general antifraud provision
of Advisers Act)
– Rule 206(4)-1 (SEC advertising rule)
– No-Action Letters
– SEC inspections and enforcement actions
– Rules focus solely on disclosure, not
calculation of performance
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SEC Advertisements
• General Antifraud Rule
• Applicable to both registered and
unregistered investment advisers
• Perennially one of the top SEC exam
deficiencies
“[It is] unlawful to engage in any act,
practice or course of conduct which
is fraudulent, deceptive or
manipulative.”
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SEC Advertisements
• Specific prohibitions applicable to
registered investment advisers:
– Testimonials
• Third Party Reports
• Partial Client Lists
– Past specific recommendations
– Charts/Formulas
– Claim of free service unless it really is
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SEC Advertisements
• General Prohibitions:
– Anti-Fraud Provision Depends On
• Form
• Content
• Inferences that may be drawn by reader
• Client sophistication
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SEC Performance Advertising
• Guiding Principals:
– Investment performance is false or
misleading if:
• it implies, or a reader would infer,
something about the adviser’s competence
or about future investment results that
would not be true had the advertisement
included all material facts
– Comply with investment performance
presentation guidelines
• Clover Capital series of No-Action Letters
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Clover Capital No-Action Letter
• Actual and Model Results
– Disclose the effect of market conditions
– Disclose relevant facts in comparison to
index
– Must be net of fees
– Must disclose reinvestment of
income/dividends
– Disclose the possibility of a loss
– Disclose material conditions, objectives,
or strategies used
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Clover Capital No-Action Letter
• Model Performance Results
– Disclose prominently the limitations inherent in
model results
– Disclose, if applicable, material changes in the
conditions, objectives, or investment strategies of
the model portfolio during the period portrayed
and the effect of those changes
– Disclose, if applicable, that the securities or
strategies reflected in the model do not relate, or
relate only partially, to services currently offered
– Disclose, if applicable, that the adviser's clients
had investment results were materially different
from those portrayed in the model
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Clover Capital No-Action Letter
• Actual Results
– Disclose prominently, if applicable, that
the results portrayed relate only to a
select group of the adviser's clients, the
basis on which the selection was made,
and the effect of this practice on the
results portrayed, if material.
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Clover Capital Exceptions
• Exceptions to Net of Fees
– Gross of fees performance
• Sophistication of prospect
• Must always be shown after transaction
costs
• Private, one-on-one meeting
• Ability to ask questions and negotiate
advisory fees
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Clover Capital Exceptions
• “One-on-One” Presentations must
disclose:
– Performance does not reflect deduction of
advisory fees
– The client’s return will be reduced by advisory
and other expenses the client may incur in the
management of its investment advisory
account
– Advisory fees are disclosed in Form ADV Part II
– A representative example (table, chart, graph
or narrative) showing the effect advisory fees,
compounded over years, could have on the
value of a portfolio
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Clover Capital Exceptions
• Net vs. Gross of Fees Presentation
– Model advisory fees
– Side-by-side gross and net
– Multi-manager accounts
– Model fees
• Permissible to use highest fee charged to
client in strategy
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“Backtested” Performance
• Use of theoretical performance developed
by applying a particular investment strategy
(typically, a quantitative or formula-based
strategy) to historical financial data
• Viewed as highly suspect as the adviser can
run the backtested model again and again
until it gets the results it wants.
• Does not involve market risk
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“Backtested” Performance
• In addition to Clover requirements, disclose, at an
absolute minimum:
– That the adviser only began offering the given service
after the performance period depicted by the
advertisement
– That the results do not represent the results of actual
trading but were achieved by means of the retroactive
application of a model designed with the benefit of
hindsight
– All material economic and market factors that might
have had an impact on the adviser’s decision-making
when using the model to manage actual client
accounts;
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Portability of Performance
• Permitted if following conditions are met:
– The person who manages accounts at the successor
adviser was also primarily responsible for achieving
prior performance
– The accounts managed at predecessor are so similar to
the accounts currently under management that the
performance results would provide relevant information
to prospective clients of the successor adviser
– All accounts that were managed in a substantially
similar manner are advertised unless exclusion of any
account would not result in materially higher
performance
– Advertisement includes all relevant disclosures,
including that performance results were from accounts
managed at another entity.
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Investment Advisor Advertisements
• Article Reprints
– Permitted, if comply with Advertising
Rules
– Can’t be false or misleading
• Edit problematic statements
– Use legends and footnotes to
• Correct inaccuracies
• Update information
• Fill in gaps (e.g., provide net performance
if article discusses only gross)
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Past Specific Recommendations
• SEC concerns re “cherry picking”
• Exclusion from Advertising Rule prohibition if advertisement:
– Offers to furnish list of all recommendations made by adviser
within previous 12 month period
– States
• name of each security recommended
• date and nature of each recommendation
• market price of the security at time of recommendation
• price at which the recommendation was to be acted on
• the market price of each security as of the most recent
practicable date
– Discloses that “It should not be assumed that the
recommendations made in the future will be profitable or will
equal the performance of the securities in this list”
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Holdings Lists – “Top Ten”
• Permissible, but adviser must:
– use objective, non-performance based criteria
in selecting securities
– use same selection criteria for each quarter
for each investment category
– Ensure report does not discuss extent to
which the investments were, or were not,
profitable
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Investment Advisor Advertisements
• Recordkeeping
– Client communications and distribution
lists
• Copies of all written communication
– Advertisements and Recommendations
• All advertisements sent to more than 10
recipients
• Document basis of all recommendations
• Document basis of all claims
– Retention Periods
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Investment Advisor Advertisements
• Performance Recordkeeping
– Records to support performance
calculations
• Necessary to form the basis for or
demonstrate the calculation of the
performance
• Internal account statements and worksheets
• Prepared contemporaneously
• Third party records to substantiate claims
– Necessary to support performance:
• In articles
• From prior firm
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SEC Advertising and GIPS
• How to avoid false claims of compliance:
– Educate marketing staff on appropriate
presentation usage
– Understand the limitations of verification
– Take GIPS compliance seriously
– Comply with all guidance statements
– Review all applicable Q&A on CFA Institute
website
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SEC Exams
• Recurring Problems:
– Cherry picking
– Comparing performance to inappropriate
index
– Representing model or back tested
strategy as actual performance
– Portability of performance
– Submission of misleading information to
publications or consultants
– Inaccurate assets under management
– False GIPS compliance claims
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Questions?
Chris Hardy
Tel: (860) 435-2255
[email protected]
www.ascendantcompliance.com
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