Section 206(4) of the Investment Advisers Act of 1940 (the “Act”) makes it unlawful for investment advisers to engage in any activity that is fraudulent, deceptive, or manipulative. Rule 206(4)-1(a) specifically prohibits an investment adviser from directly or indirectly publishing or distributing any advertisement: that refers directly or indirectly to any testimonial of any kind concerning the investment adviser or any advice, analysis, report or other service rendered by the investment adviser; which contains any untrue statement of a material fact, or which is otherwise false and misleading. In this respect, SEC guidance indicates that the advertisement of any rankings or award designations bestowed upon an investment adviser or its representatives from third parties (collectively, “Awards”) may be false and misleading without a concurrent disclosure of certain factors.
Further, an investment adviser’s advertisement containing direct or indirect references to Awards raises the concern that the investment adviser is advertising prohibited testimonials, because they may reflect the positive experiences of the investment advisers’ clients. Nevertheless, in a series of no-action letters, the SEC Staff has permitted the distribution of articles concerning an investment adviser where the articles are prepared by an unbiased third party and do not include a statement of a client’s experience or a client endorsement.
The SEC Staff concluded in the DALBAR, Inc. no action letter (available March 24, 1998) that the distribution of advertising materials containing reprints of a research firm’s investment adviser ratings would constitute “testimonials” within the meaning of Rule 206(4)-1(a)(1) because the ratings could be based upon responses to questionnaires issued to investment advisory clients, therefore constituting testimonials. However, in the DALBAR, Inc. no action letter SEC Staff agreed not to recommend enforcement action if investment advisers distributed advertisements containing reprints of the ratings, based on the view that such materials do not raise the types of concerns that the provision was designed to prevent. The SEC staff later clarified its position in the Investment Advisers Association no action letter (available December 2, 2005).
Taken together, SEC guidance, the DALBAR, Inc. and Investment Advisers Association no action letters require the consideration and/or disclosure of the following factors with respect to the Firm’s (BDF) advertisement of Awards (as applicable to the specific Award):
- Whether the advertisement fully discloses a description of each Award’s qualifications, including a description of all criteria upon which the Award is based;
- Whether the Firm pays any fee to receive the Award, which includes payments provided for initial consideration, and payments made after receiving the Award for such items as plaques, article reprints, or similar indicia of the Award;
- Whether the Award was independently granted;
- Whether the Award emphasizes favorable client responses or ignores unfavorable client responses;
- Whether the Award represents all, or a statistically valid sample, of the responses of the Firm’s clients;
- Whether the questionnaire sent to clients towards granting the Award was prepared to produce any pre-determined results that could benefit any adviser;
- Whether the questionnaire sent to clients towards granting the Award is structured to make it equally easy for a client to provide a negative or positive response;
- Whether the research firm granting the Award performs any subjective analysis of survey results, or if it instead assigns numerical ratings after averaging the client responses for each adviser;
- Whether participating advisers meet certain eligibility criteria reasonably designed to ensure that a participating adviser has an established and significant history and record free from regulatory sanctions;
- Whether the research firm granting the Award is affiliated with the Firm;
- If participating advisers are required to pay a fee, whether they are all charged a uniform fee paid in advance:
- Whether the research firm granting the Award issues ratings to an adviser if the ratings are not statistically valid with respect to that adviser;
- Whether any survey results published by the research firm granting the Award contains information that clearly identifies the percentage of survey participants who have received such designation and the total number of survey participants;
- Whether the Firm is advertising any favorable rating without disclosing facts that the Firm knows would call into question the validity of the rating or the appropriateness of advertising the Award (e.g., the Firm has received numerous complaints relating to the rating category or in areas not included in the survey);
- Whether the Firm advertises a favorable rating without disclosing any unfavorable ratings;
- Whether the advertisement states or implies that the Firm was a top-rated adviser in a category when it was not rated first in that category;
- Whether, in disclosing the Firm’s rating, the advertisement clearly and prominently discloses the category for which the rating was calculated or determined, the number of advisers surveyed in that category, and the percentage of advisers that received that rating;
- Whether the advertisement discloses that the Award may not be representative of any one client’s experience because the Award reflects an average of all, or a sample of all, of the experiences of the Firm’s clients;
- Whether the advertisement discloses that the Award is not indicative of future performance; and
- Whether the advertisement discloses prominently who created and conducted the survey, and that the adviser paid a fee to participate in the survey (as applicable).
Accordingly, the Firm and/or its representatives shall not advertise Awards or without prior approval from the Chief Compliance Officer. In making the determination about whether to advertise receipt of such Awards, the Chief Compliance Officer shall consider all of the applicable factors described above.
The Chief Compliance Officer shall also ensure that any advertised Awards are accompanied by prominently displayed disclosures, a description of any conflicts of interest involved, and address as many of the factors described above, as applicable.