Investment advisers registered with the Securities and Exchange Commission (SEC) must comply with the SEC’s amended marketing rule (Marketing Rule) by Nov. 4, 2022. The Marketing Rule governs investment adviser advertising and related activities. The SEC adopted the Marketing Rule in December 2020 and provided a long lead time for advisers to prepare. The Marketing Rule combines and replaces the previous advertising rule and cash solicitation rule, and also replaces many no action letters.

The Marketing Rule expands the scope of permissible investment adviser advertisements. Testimonials and endorsements, subject to required disclosures, and performance results, subject to certain restrictions and disclosures, are now permitted. The SEC recognizes that social media and other internet communications play a large role in firm marketing activities, and the Marketing Rule addresses some of the complex questions involved in social media endorsements and testimonials. But, it imposes numerous new and potentially burdensome requirements on communications that are subject to the Marketing Rule.

Firms should prepare for the upcoming compliance date by reviewing existing advertising and performance reporting, determining whether disclosures and other policies must be modified, adopting new compliance policies, and training and educating employees impacted by the Marketing Rule.

Scope of Marketing Rule and Key Definitions

The Marketing Rule applies to “advertisements,” “testimonials,” and “endorsements” made by registered investment advisers.

• Advertisement. An “advertisement” is defined as: (a) any communication with customers, which is any direct or indirect communication made by an investment adviser to more than one person or to one or more persons if the communication includes hypothetical performance, that (i) offers investment advisory services with respect to securities to prospective clients or private fund investors or (ii) offers new investment advisory services with respect to securities to current clients or private fund investors, and (b) any solicitation activity, which is any endorsement or testimonial for which the investment adviser provides direct or indirect compensation.

  Exceptions to the scope of customer communications covered by the Marketing Rule include extemporaneous, live, oral communications, and any communication that includes hypothetical performance if made in response to an unsolicited request from a current or prospective client or private fund investor.

• Testimonial. A “testimonial” is defined as any statement made by a current client or private fund investor that: (a) describes the client’s or investor’s experience with the investment adviser or its supervised persons, (b) directly or indirectly solicits any client or investor — current or prospective — to be a client or private fund investor of the investment adviser, or (c) refers any client or investor —current or prospective — to be a client or private fund investor of the investment adviser.
• Endorsement. The SEC’s new rule defines an “endorsement” as any statement made by a person other than a current client or private fund investor that: (a) indicates approval, support, or a recommendation of the investment adviser or its supervised persons, (b) describes the endorsing person’s experience with the investment adviser or its supervised persons, (c) directly or indirectly solicits any client or investor — current or prospective — to be a client or private fund investor of the investment adviser, or (d) refers any client or investor — current or prospective — to be a client or private fund investor of the investment adviser.

  The Marketing Rule applies to an investment adviser that pays direct or indirect, cash or non-cash, compensation for testimonials and endorsements, which would include activities formerly governed by Rule 206(4)-3, the Cash Solicitor Rule.

• The Communication Must be an Advertisement. A threshold question for many investment advisers is whether a particular communication is an “advertisement,” and therefore subject to the Marketing Rule. This depends on whether the communication offers an investment adviser’s investment advisory services with regard to securities to prospective clients or to investors in a private fund advised by the investment adviser. An offer of new investment advisory services to current clients or to investors in a private fund advised by the investment would also be considered an advertisement. If a communication is branding to promote a firm generally or made by a firm affiliate for non-investment advisory services, the communication is likely not an advertisement. For example, a firm communication that indicates a sponsorship of a philanthropic or a cultural event is likely general branding as opposed to advertising advisory services with regard to securities. But, promoting a particular private fund or disseminating performance results of private funds would likely be considered advertising subject to the Marketing Rule. The analysis of whether a particular communication is an advertisement is a facts and circumstances test. Social media and other internet communications may be considered advertisements depending on the facts and circumstances.

General Prohibitions

The Marketing Rule contains seven general prohibitions on investment adviser advertising. An advertisement may not include:

• Any untrue statement of a material fact, or omission to state a material fact necessary in order to make the statement, in the light of the circumstances under which it was made, not misleading.
• A material statement of fact that the investment adviser does not have a reasonable basis for believing it will be able to substantiate if demanded by the SEC.
• Information that would reasonably be likely to cause an untrue or misleading implication or inference to be drawn concerning a material fact relating to the investment adviser.
• Discussion of any potential benefits to clients or investors connected with or resulting from the investment adviser’s services or methods of operation without providing fair and balanced treatment of any material risks or material limitations associated with the potential benefits.
• Reference to specific investment advice provided by the investment adviser if such investment advice is not presented in a fair and balanced manner.
• Performance results or performance time periods, or exclude performance results or performance time periods, in either case in a manner that is not fair and balanced.
• Anything that is otherwise materially misleading.

Performance Information

The Marketing Rule permits performance information to be used in advertisements, except for the following information, which is prohibited:

• Gross performance, unless the net performance is presented with at least equal prominence and is based on the same time periods, type of returns, and methodology as the corresponding gross performance.
• Any performance results of a portfolio or composite aggregation of performance results, unless it includes performance results for the same portfolio or composite aggregation for periods of one, five, or 10 years.
• Performance results that represent fewer than all of the portfolios with substantially similar investment policies, objectives, and strategies as those being offered.
• Performance results of a subset of investments extracted from a portfolio, unless the advertisement includes, or offers to promptly provide upon request, performance results of the complete portfolio.
• Hypothetical performance — excluding performance generated by interactive analysis tools — unless the investment adviser (a) provides information that is sufficient to enable the intended audience to understand the criteria that was used and the assumptions that were made in calculating the hypothetical performance, and the risks and limitations of using such hypothetical performance, and (b) adopts and implements policies and procedures that are reasonably designed to ensure that the hypothetical performance is relevant to the likely financial situation and investment objectives of the target audience.
• Predecessor performance, unless the investment adviser provides all relevant disclosures clearly and prominently in the advertisement, and that the personnel and accounts of the predecessor adviser and the advertising adviser are sufficiently similar.
• Express or implied statements that the SEC has approved or reviewed the calculation or presentation of performance results.

Testimonials and Endorsements

The Marketing Rule permits the use of advertisements that contain testimonials and endorsements, including payment of solicitors, but only if a number of conditions and requirements are met:

• An advertisement that contains a testimonial or endorsement must include clear and prominent disclosure of:
  • Whether the testimonial or endorsement was made by a current client or private fund investor, or a person other than a current client or private fund investor,
  • Whether any compensation — direct or indirect, cash or non-cash — was paid for the testimonial or endorsement, and
  • A description of any material conflicts of interest with respect to the person providing the testimonial or endorsement — such as due to a relationship with the investment adviser or any compensation arrangement.
• To comply with the Marketing Rule, the investment adviser must:
  • Have a reasonable basis for believing that each testimonial and endorsement complies with the Marketing Rule, and
  • Enter into a written agreement with each person providing a testimonial or endorsement, other than those who receive no compensation or de minimis compensation. De minimus compensation is defined as $1,000 or less or equivalent in non-cash compensation in a 12-month period.
  • Not have “bad actors” provide testimonials or endorsements — including acting as solicitors.

Third-Party Ratings

An investment adviser is permitted to include third-party ratings in advertisements, subject to meeting certain standards for the preparation of the ratings and the inclusion of certain disclosures. Notably:

• An investment adviser must have a reasonable basis for believing that a questionnaire or survey that is used to prepare a third-party rating report is structured to make it equally easy for a participant to provide favorable and unfavorable responses and that it is not designed or prepared to produce a predetermined result.
• Any third-party rating used in advertisements must have clear and prominent disclosures of the date on which the rating was given and the period of time upon which it was based, and the identity of the third party that prepared the rating.
• If applicable, the compensation that was provided — directly or indirectly — by the investment adviser in connection with the third-party rating.

Related Amendments to Form ADV

The SEC modified Form ADV to include information about advisers’ marketing practices. The amended form requires disclosure about whether advertisements include testimonials, endorsements, third-party ratings, or hypothetical or historical performance results.

Updated Books and Records Requirements

The SEC also amended investment adviser recordkeeping requirements to include preserving copies of all advertisements; information used to establish third-party ratings, including questionnaires and surveys; communications regarding predecessor performance; and records of the purported “intended audience” of hypothetical performance.

Private Fund Advisers

Private fund advisers registered with the SEC are subject to the Marketing Rule, but exempt reporting advisors are not. The Marketing Rule removed a previously recognized exception for payments by registered private fund advisers to placement agents, which means these payments are now subject to the Marketing Rule. Private fund advisers are exempt from only a few provisions of the Marketing Rule, such as the requirement to present one, five, and 10-year performance data and the prohibition on providing hypothetical performance results in one-on-one investor communications.

Recent Risk Alert

In September 2022, the SEC’s Division of Examinations issued a Risk Alert to remind firms of the upcoming compliance deadline and provided notice of the SEC’s examination priorities, which are:

• Compliance with the rules regarding advertisements of performance results (i.e., the general prohibitions).
• Substantiation of material statements of fact included in advertisements.
• Adoption and implementation of written policies and procedures that are reasonably designed to prevent Marketing Rule violations.
• Observance of the amended books and records requirements.

Preparation for Compliance

Firms may elect to comply with the Marketing Rule early, in which case they must comply with all of the Marketing Rule’s requirements. Firms should consider the following tasks in order to meet the requirements of the Marketing Rule:

• Compile an inventory of all advertisements that will be subject to the Marketing Rule.
• Consider which of the firm’s marketing activities will need to be modified in order to comply with the Marketing Rule.
• Adopt policies and procedures to comply with the Marketing Rule.
• Track compensation paid in connection with testimonials and endorsements.
• Adopt form agreements with providers of testimonials and endorsements.
• Prepare to respond to the marketing questions included in the amended Form ADV.
• Develop systems to comply with enhanced recordkeeping requirements.

The adopting release for the Marketing Rule is available here on the SEC’s website, and the September 2022 Risk Alert is available here on the SEC’s website.