In anticipated amendments to guidance on the Securities and Exchange Commission’s marketing rule, the regulator’s Division of Investment Management has lightened the burden for registered investment advisors when reporting investment performance in marketing materials.
In an amended frequently asked questions document published Wednesday, the division wrote that when an investment advisor advertises gross and net performance of a total portfolio “prominently,” then it can show gross performance of an extract of that investment or group of investments without also needing to show net-of-fee performance. If an advisor meets certain criteria for such marketing material, then the division “would not recommend enforcement action” to the SEC.
The guidance gives some relief to RIAs from stipulations in the SEC’s marketing rule that they must show the net-of-fee performance of an extracted investment or group of investments prominently beside any gross results, or figures before deductions, so as not to mislead clients.
“This is welcome news for advisors who are presenting this type of information and who were going through the motions of calculating these net metrics that they had not been calculating before,” said Julia Reyes, partner at the ACA Group, a regulatory consultant. “I would expect that many advisors are relieved …. they no longer have to keep up with these calculations or question themselves if they made the right calculation.”
Reyes added some firms would need to undo or retract programs they had implemented to calculate net-of-fee results for extracted investments. She said they will also now have to show the gross and net performance of the total portfolio, but that is generally more readily available and less onerous.
The original rule was created to ensure advisors would not “present misleadingly selective profitable performance with the benefit of hindsight.” In the new guidance, the division wrote that its staff believes that when an advisor shows the gross and net performance of the total portfolio that is “not otherwise materially misleading,” it’s unlikely to run afoul of compliance.
Reyes agreed with that assessment, saying that “there is always a potential for someone to be misleading,” but the FAQ provides additional criteria to help guard against such activity.
Under the amendments, advisors would have to meet four criteria in order to exclude net performance:
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The extracted performance must be shown as “gross,” or before any deductions;
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It must be accompanied by a presentation of the “total portfolio’s gross and net performance;”
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The gross and net performance is presented with “at least equal prominence to, and in a manner designed to facilitate comparison with” the performance; and
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The gross and net performance is calculated over the entire period over which the extracted performance is calculated.
The marketing rule took effect in May 2021, with a compliance date in late 2022. Generally, it dictates how and when advisors can use testimonials and endorsements in advertising and the portfolio performance metrics firms can show to sell themselves and their services.
The Investment Adviser Association had been lobbying the SEC under Chair Gary Gensler to clarify the rule, which advisors cited as a top concern in IAA surveying.
In a statement on the amendments, the association wrote that “the 2023 guidance was extremely problematic because it impaired comparability among investment managers and confused rather than protected investors. The updated guidance permits a reasonable alternative approach that the IAA supported.”
After four years of what the financial industry considered an active SEC regarding rulemaking and enforcement, the Trump administration tapped Paul Atkins to lead the commission, with a mandate in part to scale back on regulation. Atkins had been in the SEC during the George W. Bush administration and founded Patomak Global Partners, where he guided financial firms in managing and responding to government regulations.
The amendment to the marketing rule also noted that performance-related characteristics and extracted performance are not required to be calculated under the rules one, five, and 10-year periods as long as the timeline chosen is presented over a single, clearly disclosed period.
“The staff would not object if you are unable to calculate your one-, five-, and 10-year performance data in accordance with rule 206(4)-1(d)(2) immediately following a calendar year-end and you use performance information that is at least as current as the interim performance information in an advertisement until you can comply with the calendar year-end requirement,” the division wrote.
SEC staff announced that they were likely to publish two new marketing rules FAQs “in the near future” during the IAA’s compliance conference in Washington, D.C., in early March.
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