The United States Securities and Exchange Commission (the SEC) made a significant announcement on September 11, 2023, marking a potential turning point in how marketing rules are implemented within the sector. The regulatory body disclosed that it had settled with nine SEC-registered investment advisers (the Advisers) in incidence related to alleged violations of Rule 206(4)-1 under the Investment Advisers Act (the Marketing Rule).
Issues arose due to these Advisors using hypothetical model or backtested performance returns on their websites which is something that falls foul of the rules when done in the absence of required documentation. This situation underpins the criticality of complete books and records as demanded by Rule 204-2(a)(11) under the Act.
As we can discern from these actions, the SEC holds a firm stance on ensuring firms accurately abide by the Marketing Rule and related regulations. These enforcement actions bring to the fore an imperative need for companies to undertake self-reviews of their policies and procedures to make certain they fully align with the existing regulations, prior to any intervention from the SEC.
The specific issue at hand concerns the use of “hypothetical” or “backtested” performance results in the marketing materials of the involved Advisers. Use of such projections without proper applicable disclosures or lacking sufficient basis can lead to inaccurate representations, potentially misleading the investors and thereby breaching the laid out rules. In light of these events, firms should reassess their compliance with the Marketing Rule and the corresponding books and records requirements. This reevaluation would ensure firms are appropriately using performance data in all marketing materials, and maintaining the necessary records to justify any hypothetical performance metrics depicted.
In conclusion, the SEC’s recent enforcement actions underscore the importance of meticulous regulatory compliance around policies and practices in the use of hypothetical performance. Focusing on these issues now could help firms preemptively address potential future enforcement actions, and ensure they continue to operate within the bounds of the law.