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The staff of SEC’s Division of Examinations (the “Staff”) recently issued a Risk Alert (the “Alert”) outlining the Staff’s initial observations from sweep exams conducted to assess SEC registered investment advisers’ (“RIAs”) compliance with Rule 206(4)-1 (the “Marketing Rule”) under the Investment Advisers Act of 1940, as amended (the “Advisers Act”). The Staff previously announced that compliance with the Marketing Rule is a top examination priority for 2024.[1]

Examination Findings

Compliance Policies; Books and Records. The Staff found that RIAs had generally updated their compliance policies and procedures to address the Marketing Rule and that many RIAs had instituted a “pre-approval” process for advertisements. The Staff noted several deficiencies with respect to policies and procedures, such as those policies that:

• set only general expectations related to the Marketing Rule, rather than specific policies;
• failed to address marketing channels utilized by the RIA, such as websites and social media platforms;
• were unwritten, incomplete, outdated or only partially updated for certain topics;
• were not tailored to address specific advertisements (e.g., testimonials and endorsements);
• did not address the preservation and maintenance of advertisements and related documentation;
• were updated to reflect the Marketing Rule but were not implemented in the RIA’s advertisements (e.g., policies that performance would be shown net of fees and expenses but including only gross performance in advertisements).

With respect to books and records, the Staff observed that many RIAs failed to maintain certain records, such as questionnaires used to prepare third-party ratings, information posted to social media and documentation to support performance claims in advertisements.

Form ADV. The Staff noted that many RIAs updated their responses in Form ADV Parts 1A and 2A to reflect their advertising and client solicitation practices. Certain other RIAs however, included inaccurate or deficient responses in their ADVs (e.g., inaccurately reporting that advertisements did not include certain items, stale references to the prior Cash Solicitation Rule (Rule 206(4)-3) and inaccurate and incomplete disclosures with respect to referral arrangements in Part 2A).

General Prohibitions. The Staff observed the following deficiencies with respect to the Marketing Rule’s General Prohibitions:

• Advertisements with untrue statements of material fact, such as (i) statements that the RIA was “free of all conflicts” when conflicts existed; (ii) inaccurate statements regarding the operation of RIA’s advisory business and personnel qualifications; (iii) inaccurate statements regarding the services or products the RIA offered (e.g., ESG mandates and formal securities screening processes that did not exist); and (iv) statements that publicized the receipt of certain awards that the RIA never received.
• Advertisements that omitted material facts or were otherwise misleading, including advertisements that (i) implied an RIA was distinct from other advisers because it acted “in the best interest of clients” without mentioning that all investment advisers owe a fiduciary duty of loyalty and care to their clients; (ii) contained untrue or misleading performance claims (e.g., using lower fees in net calculations than those offered to the intended audience and omitting material information relating to fees and expenses used in calculating performance); and (iii) cited SEC registration as implying a level of skill or ability, or that the SEC had approved or passed upon the RIA’s business practices.
• Advertisements that were not fair and balanced, including statements regarding the potential benefits of an investment, without any discussion of the related risks, and containing references to specific investment advice that included only the most profitable investments. The Staff also observed RIAs who lacked criteria in their policies and procedures to ensure specific investment advice was presented in a fair and balanced manner.
• Advertisements that were otherwise materially misleading, such as those that had disclosures in an unreadable font or in videos.

Performance Presentation. The Staff observed the following deficiencies in performance advertisements:

• Misleading performance presentation, such as (i) benchmark index comparisons without sufficient context to understand the basis for such comparison; (ii) performance that had outdated market data or included lower costs than were presently available; and (iii) performance presentation that did not include disclosures for context (e.g., advertising performance during specific periods without disclosing that most investors would have received similar returns based on overall market performance).
• Performance results that were not fair and balanced, including advertisements that did not disclose the time period or clarify whether the returns were calculated for the same time period as other performance information included in the same advertisement, and advertisements that included the performance of only realized investments in the net return and excluded unrealized investments.

Takeaways

Compliance with the Marketing Rule is a top priority not only for the SEC’s Division of Examinations, but for the Division of Enforcement as well, leading to enforcement actions against several RIAs for alleged violations of the Marketing Rule. Most recently, the Division of Enforcement announced settlements against five RIAs for advertising hypothetical performance on their websites without following the Marketing Rule’s requirements for presentation of such performance.

In light of the deficiencies described in the Alert, RIAs should examine their own marketing materials and attendant policies and procedures to ensure they appropriately comply with the Marketing Rule. With respect to marketing materials, RIAs should, among other things, review all statements of material fact contained therein and determine whether they have sufficient recordkeeping to substantiate those facts upon demand by the SEC. For policies and procedures, RIAs should determine whether their existing policies and procedures addressing the Marketing Rule are relevant to their business practices and, where gaps exist, update appropriately. Finally, RIAs should examine their records to ensure they are creating and maintaining all prescribed records of the Marketing Rule.

[1] For a summary of the 2024 examination priorities, please see here.

For more information on the topic discussed, contact:

• Wayne H. Davis  |  davis@thsh.com  |  212-508-6705
• Haylie Gordon  |  gordon@thsh.com  |  212-508-6745
• Michele Itri  |  itri@thsh.com  |  212-508-6732
• Beth Smigel  |  smigel@thsh.com  |  212-702-3176
• Michael G. Tannenbaum  |  tannenbaum@thsh.com  |  212-508-6701