SEC Issues Risk Warning Regarding Compliance with Rule 206(4)-1, the Marketing Rule | Kramer Levin Naftalis & Frankel LLP

On April 17, 2024, the Examination Division (Department) of the Securities and Exchange Commission (SEC) issued a Risk warning to provide information regarding investment advisers’ compliance with amended Rule 206(4)-1 (Marketing Rule) of the Investment Advisers Act of 1940 (Advisers Act). The SEC investigated whether investment advisers had implemented written policies and procedures to prevent them and their supervised persons from violating the Advisers Act and its rules, including the Marketing Rule.

The Department found that most consultants had the necessary policies and procedures in place to comply with the Marketing Rule and were training their employees on the Rule. Advisors have also generally updated their written marketing policies and procedures to establish a process for advertising pre-approval and review. However, the SEC also identified instances in which the established policies and procedures were not sufficient in their design or implementation to ensure compliance with the Marketing Rule. They noted that some guidelines:

• Contains only general descriptions and expectations related to the Marketing Rule
• The marketing channels used by consultants, such as social media and websites, were not taken into account
• They were informal and not written
• Were incomplete, out of date or only partially updated for certain relevant marketing topics
• Were not tailored to the consultants’ specific advertisements
• The storage and maintenance of advertisements and related documents, including copies of questionnaires or surveys used in the preparation of third party reviews, has not been adequately regulated

The department also found deficiencies in the maintenance and retention of books and records in accordance with the Marketing Rule. Consultants often failed to retain copies of questionnaires or surveys used to produce third-party assessments. Consultants also failed to retain copies of information posted on social media and failed to retain documentation to support benefit claims in advertisements.

In addition, the Department found certain deficiencies in some advisors’ Form ADV, whereby those advisors falsely stated that their advertisements did not include third-party evaluations, performance results, or hypothetical performance. In addition, the Department found that advisors used outdated language in their Form ADVs, falsely indicated that no referral arrangements existed, and omitted material terms and compensation of referral arrangements.

The department also identified a number of deficiencies with regard to compliance with the general prohibitions of the marketing rule. These observations included:

• Untrue and unfounded statements of material facts: This included the claim that the consultants were “free from all conflicts” despite existing conflicts. There were also cases where advertisements provided inaccurate information about consultants’ activities, such as the number of employees providing consulting services to clients and their qualifications. Certain advertisements contained false information about advisory services or products, such as references to environmental, social and governance standards that did not actually apply. Some advertisements also made reference to the receipt of awards or honors that were not received.
• Omission of essential facts: Some advertisements contained information that could lead to untrue or misleading conclusions, such as: B. (i) recommendations for specific investments without disclosing related conflicts, (ii) untrue or misleading performance statements and (iii) misleading testimonials.
• Fair and balanced handling of material risks: Certain advertisements contained statements about the potential benefits of advisors’ services or methods that did not provide a fair and balanced treatment of the potential material risks or limitations associated with those benefits.
• Specific investment recommendations that were not presented in a fair and balanced manner: Some advertisements included only the most profitable investments or specifically omitted certain other investments without sufficient context to assess the reasons for their exclusion. Some advisors also failed to establish criteria in their policies and procedures to ensure fair and balanced presentation of references to specific investment advice in their advertisements.
• Inclusion/exclusion of performance results or periods that were not fair and balanced: Some advertisements did not disclose the period over which the returns presented were calculated or whether the returns were calculated for the same period as additional performance information contained in the same advertisement. Some advertisements also excluded unrealized investments in the overall net return and only considered the performance of realized investments.
• Otherwise materially misleading advertising: This included displaying disclosures in illegible fonts on websites or in videos.

The Department urges advisors to review their own practices, policies, and procedures and, based on these observations, make necessary changes to their training, supervision, monitoring, and compliance programs.