What Investment Advisers Can Learn from the 2024 Marketing Rule Risk Alert

Investment advisers’ Marketing Rule compliance remains one of the examination priorities of the U.S. Securities and Exchange Commission (“SEC”). On April 17, 2024, the SEC’s Division of Examinations issued a Risk Alert sharing the staff’s initial observations (the “Observations”) from their real-life examinations of investment advisers’ compliance with amended Rule 206(4)-1 (the “Marketing Rule”) under the Investment Advisers Act of 1940 (“Advisers Act”). The Observations focus on advisers’ compliance with Marketing Rule–related aspects of Advisers Act Rule 206(4)-7 (the “Compliance Rule”), Advisers Act Rule 204-2 (the “Books and Records Rule”), and the Marketing Rule’s “General Prohibitions,” as well as accurate disclosure of their Marketing Rule compliance in Form ADV.

I.  Positive Observations

The Risk Alert mentioned some positive aspects of advisers’ activities that the staff observed during their examinations. The following list highlights those positive Observations.

A.  Compliance Rule

• Advisers’ compliance policies and procedures typically covered processes to comply with the Marketing Rule.
• Advisers typically provided training for relevant personnel on both the Marketing Rule’s statutory requirements and the advisers’ marketing policies and procedures.
• When advisers had updated their written marketing policies and procedures to reflect the Marketing Rule, the policies and procedures typically included a process for reviewing their advertisements.
• Many advisers required preapproval of advertisements before dissemination.

B.  Books and Records Rule

• Advisers had typically updated policies and procedures to include Marketing Rule–related books and records maintenance and preservation requirements.

C.  Form ADV

• Many advisers updated their Form ADVs and brochures with respect to advertising—in particular, Part 1A, Item 5.L and Part 2A, Item 14 (e.g., client referrals and other compensation).

Advisers can learn from the above positive Observations, because they tell what practices of other advisers have been recognized by the staff.

II.  Negative Observations

The Risk Alert highlighted more details about how advisers’ practices fell short of the Marketing Rule’s requirements. The following list identifies those negative Observations.

A. Compliance Rule

Some advisers’ policies and procedures:

• Only mentioned some general descriptions and expectations regarding the Marketing Rule.
• Failed to address how advisers’ marketing channels (e.g., websites and social media) can comply with the Marketing Rule.
• Were not in writing.
• Were not updated to reflect the Marketing Rule.
• Were incomplete or partially updated.
• Were not tailored to advisers’ advertising practices (e.g., how to comply with the Marketing Rule with respect to testimonials, endorsements, and third-party ratings utilized by advisers in advertisements).
• Failed to adequately cover how to keep marketing-related books and records (e.g., how to keep questionnaires or surveys used in third-party ratings).
• Were not implemented (e.g., advisers’ policies required net performance while their advertisements only included gross performance).

B.  Books and Records Rule

Some advisers failed to maintain copies of questionnaires or surveys used in third-party ratings, copies of information posted to social media, or substantiation documents supporting their advertised performance.

C.  Form ADV

On Form ADV, Part 1A, some advisers failed to disclose third-party ratings, performance results, or hypothetical performance.

On Form ADV, Part 2A, some advisers used outdated language, such as references to provisions of the prior Cash Solicitation Rule; failed to disclose referral arrangements in their marketing practice; or omitted material terms and compensation of their referral arrangements.

D.  Marketing Rule’s General Prohibitions

Advisers were found to have violated the Marketing Rule’s seven General Prohibitions in the following ways.

(1) Statements of material facts were untrue or unsubstantiated. For example, some advisers:

• Failed to disclose conflicts of interest.
• Exaggerated their number of advisory professionals.
• Inaccurately described advisers’ and/or their professionals’ credentials.
• Inaccurately described advisory services or products (e.g., included nonexistent investment mandates, investment process validation, risk tolerance consideration, approved securities lists, securities screening processes, and/or client base).

(2) Advertisements omitted material facts or were misleading. For example, some advisers:

• Misled clients to believe that the advisers’ acting “in their clients’ best interests” distinguished them from others, when in fact this is all advisers’ fiduciary duty.
• Failed to disclose compensation paid to or received by the advisers for their recommendations.
• Failed to disclose advisers’ appearances in national news media were paid ads.
• Failed to disclose celebrities did not endorse the advisers although their marketing materials included celebrities’ images in a manner that implied endorsement.
• Included untrue or misleading advertisements on performance (e.g., (i) advertised unachievable performance results, (ii) failed to disclose share classes specific to certain performance returns, (iii) used lower than actual fees in calculating net performance, or (iv) omitted certain fee/expense information used in calculating returns).
• Implied that SEC registration was representative of a particular level of skill or ability, or that the SEC had either approved or passed upon the advisers’ business practices, when actually all advisers are prohibited from advertising so.
• Advertised third-party ratings in a misleading way (e.g., (i) failed to disclose the advisers were not the sole/top recipients of such ratings, or (ii) failed to disclose the methodologies for such ratings).
• Advertised testimonials in a misleading way (e.g., misled people to believe testimonials about a third-party product were about the advisers’ services).
• Contained misleading performance advertisements (e.g., (i) failed to define the index used or sufficiently explain the basis for benchmark index comparisons, (ii) advertised outdated market data or unavailable investment products, or (iii) advertised misleading performance track records).

(3) Advertisements violated prohibitions related to the “fair and balanced” criteria. For example, some advisers:

• Failed to provide fair and balanced disclosure of any material risks/limitations associated with potential benefits connected with the advisers’ services or methods of operation.
• Advertised only the most profitable investments or specifically excluded certain investments without explaining why.
• Failed to establish criteria in advisers’ policies and procedures to ensure fair and balanced presentation of investment advice.
• Failed to disclose the time period or explain the time period related to performance information.
• Included or excluded certain performance results in manners that were not fair and balanced—for example, advertised only realized investments and excluded unrealized investments.

(4) Advertisements were also materially misleading in other ways; for example, advertisements on websites or in videos presented disclosures in an unreadable font.

Advisers may want to reflect on their own policies, procedures, and practices to avoid fraudulent or misleading advertising like the above negative Observations.

Conclusion

The Observations in the Risk Alert tie in closely with the discussion on page thirteen of the SEC’s 2024 Examination Priorities regarding examination of advisers’ Marketing Rule compliance. Therefore, the Observations provide itemized illustrations to investment advisers registered, or required to be registered, with the SEC of questions they may face in the SEC’s future examinations related to the Marketing Rule and frequent pitfalls they may want to avoid. Although the Marketing Rule does not apply to exempt reporting advisers or state-registered advisers, the Observations can help them understand how to better comply with the Advisers Act’s antifraud rules in their day-to-day advertising practices.