SEC Marketing Rule: compliance and confusion

The SEC’s Marketing Rule came into force on November 4, 2022, making substantial amendments to Rule 206(4)-1. We look at how investment advisers can successfully demonstrate compliance despite its complexity.

12 January 2023 6 mins read
By Jennie Clarke

On November 4, 2022, the Securities and Exchange Commission’s (SEC) Marketing Rule came into force after an 18-month transition period. For many, these 18 months had posed more questions than they did answers, and firms entered the new ‘in-force’ period in a state of confusion rather than empowered compliance.

To add fuel to the fire, the SEC has made it clear that it will be undertaking thematic reviews imminently, with a view to establishing and understanding compliance. This was confirmed in a Risk Alert on September 19, 2022, in which the SEC said it wanted to “inform SEC-registered investment advisers […] about upcoming review areas during examinations” focused on the new Marketing Rule.

Rather than allaying the fears of investment advisers who have so far struggled to unpick the complexities of the new Marketing Rule, the Risk Alert compounded industry anxiety. The new Marketing Rule has faced a degree of criticism that, while the wording is clear, the application is complex and lacking much-needed regulatory clarity. Knowing that the regulator is actively looking for compliance in the midst of confusion brings little consolation to the industry.

What is the SEC’s Marketing Rule?

The SEC’s new Marketing Rule is a substantial amendment to Rule 206(4)-1 of the Investment Advisers Act of 1940, which sets the rules around what and how they can market and advertise services and products. The amendment to Rule 206(4)-1 is the biggest change in over 60 years and consolidates a series of rules into one overarching “Marketing Rule”.

For more information about the new Marketing Rule, see End of Transition Period for the New SEC Marketing Rule by Executive Vice President of Compliance, Chip Jones.

The challenges of the SEC’s new Marketing Rule

As noted above, the implementation of the SEC’s new Marketing Rule has not been without challenges – whether it’s through lack of clarity, inability to access relevant data, or otherwise. While the SEC implemented an 18-month transition period, there is a feeling that 18 months wasn’t long enough given the complexity of the amendments.

The Investment Adviser Association’s 2022 Investment Management Compliance Testing Survey found that 75% of respondents identified advertising and marketing as their “hottest compliance topic” for the second year running. This could be for myriad reasons.

One such example is the new hypothetical performance rule, which precludes firms from providing hypothetical performance information in advertisements unless they have a clear grasp of the audience’s likely investment objectives and financial situation. This is an ambiguous and difficult to apply rule as firms will not generally be able to understand the bespoke circumstances of each individual in a mass marketing campaign. As such, the rule appears to – though not expressly – prevent firms from advertising hypothetical performance to a mass audience as the group will be too large. It is for instances such as this that the industry has sought out wider regulatory guidance, with little in return.

As such, a “wait and see” approach has emerged, where firms aren’t making bold moves until they receive clarity – whether it be in the form of enforcements for their bolder peers, or direct regulatory guidance.

While some firms have taken a cautious approach, many advisers have pushed full steam ahead. This is particularly true for more lenient rules around third-party ratings, which lifts long-standing rules that prevent advisers from using the testimonials and endorsements of clients. Indeed, while some firms are confused by the new Marketing Rule, others feel empowered to be bolder with advertising.

How can firms successfully demonstrate compliance?

Following the September Risk Alert, the SEC has been clear that the new Marketing Rule is a regulatory priority for 2023. Investment advisers should anticipate and prepare for thematic reviews in the near future, which will likely focus on the topics raised in the Risk Alert. The SEC’s Marketing Rule transcends the responsibility of the compliance team and stretches the length and breadth of business, from what advisers say to clients through to the campaigns developed within the marketing team. As such, individuals responsible for the varying tenets of the new Marketing Rule should be looking at the following:

+ Do you have policies and procedures in place that will prevent violations? Have these policies been implemented and do they include “objective and testable means” designed to prevent violations?

+ Are you able to substantiate any facts that you make in advertisements, and do you have a reasonable basis for that belief? This will likely be a difficult burden of proof to achieve and you should look to make records that clearly demonstrate the foundation for your belief, or create policies, procedures and controls that show how and why you believe you can substantiate any claims.

+ Check whether you are complying with the new performance advertising requirements by reviewing all external communications regarding products and services, and ensure you are able to continuously monitor communications to ensure ongoing compliance. Communication capture will also be key to meeting new, more strenuous RIA recordkeeping requirements. As such, ensure that you have a functional and intelligent data archive that not only captures communication data but allows you to search and understand how – and whether – employees are complying with the SEC’s Marketing Rule.

+ Remember that compliance isn’t built in a day and will require ongoing training to ensure that all employees are cognizant of the new requirements.

Looking ahead, while the SEC has confirmed that it will be focussing on Marketing Rule compliance in the New Year, it is hoped that it will opt for education over enforcement when conducting its reviews. Given the complexity of the new rule, many will be hoping to see constructive feedback rather than immediate punitive measures. As is often the case, the industry is looking for clarity and leniency in the face of complex regulatory reform, with hopes that the regulator will go easy on good faith and unintentional violations.

If you need to capture and monitor communications for the new Marketing Rule, but aren’t sure where to start, speak to Global Relay.