Regulatory Outlook | 01.12.22
Era of Client Testimonials Set to Begin
In the sales and marketing spheres of the investment advisory industry, the U.S. Securities and Exchange Commission's approval of new marketing rules is being cheered. It opens the door to long-awaited opportunities to share with prospects the hard-won validation from satisfied customers.
And among compliance teams, there’s trepidation that a huge and ever-expanding hornet's nest of headaches looms ahead.
The Investment Adviser Marketing Rule, known as the Marketing Rule, was passed in December 2020, became effective on May 4, 2021 and carries a compliance deadline of November 4, 2022.
Among the main implications of this fast-unfurling era: testimonials and endorsements are now permitted – potentially powerful stuff (e.g., a Facebook post from a best-life-living pensioner) to be sure, but subject to regulatory conditions.
Paramount among these conditions is proper disclosure. Was the person giving the testimonial/endorsement compensated, and, if so, how? Are they a client or not? Because of the numerous possible implications and potential conflicts, the final rule will have a base set of disclosures but also various requirements for different scenarios so the possibilities for compliance checklist creators becomes exponentially more vexing.
Even defining what constitutes as a testimonial gets complicated.
The SEC has given a definition of "testimonial." It covers statements that are: made by a current client or investor; concerns a client experience; and/or directly or indirectly solicits any client to become a client of a private fund or refers any client to the private fund.
Whether the testimonial appears in print or gets conveyed verbally at, say an in-person (or virtual) gathering, disclosure conditions need to be met.
The marketing rule covers a wide swath of fraught territory that traces back to an advertising rule in place since 1961 at a time when investor protections were seen through the eyes of the readers of personal finance magazines like Fortune and Forbes.
In 2014, the SEC issued extensive guidance surrounding social media communications, and the agency’s new rules set has provisions that pertain to posts and tweets.
With the compliance deadline for the 430-page marketing rule now just 11 months away, back office professionals have made it known that advertising is on their minds.
In October, the Investment Adviser Association released the result of a survey of compliance professionals at 350 registered investment advisory firms and who were asked to rank their top concerns. Some 58% of participants chose the marketing rule. Cybersecurity ranked second at 53%.
“It’s a concern in a positive way in that advisers see [the rule] as an opportunity to expand their marketing efforts, especially through testimonials,” Jason Ewasko, compliance director at Cipperman Compliance Services, told Investment News. “It’s not just a free-for-all. Firms will have to make sure their compliance procedures and policies address them.”
In addition to the disclosure condition, according to the SEC, testimonials are subjected to three other main conditions:
- Written Agreement: The adviser must have a written agreement with any promoter or solicitor providing a testimonial or endorsement that describes the scope of the agreed-upon activities and the terms of compensation for the activities; however, no written agreement is needed where the promoter is an affiliated person of the adviser or if the promoter receives minimal or no compensation (i.e., under $1,000 or the equivalent value in non-cash compensation during the preceding 12 months).
- Disqualification: An investment adviser must not compensate a person for a testimonial or an endorsement if the adviser knows or should know that the person giving the statement is an "ineligible person" at the time the statement is disseminated. A person is ineligible if they are subject to any disqualifying SEC action or disqualifying event. Actions that occurred prior to the effective date of the Marketing Rule will not disqualify a promoter, provided that the action would not have disqualified such person under the former cash solicitation rule. A disqualifying SEC action includes an SEC opinion or order barring, suspending or prohibiting a person from acting in any capacity under the federal securities laws. A disqualifying event includes certain criminal convictions and orders, including those of other governmental agencies, such as the Commodity Futures Trading Commission, that occurred within 10 years prior to the person's disseminating a testimonial or endorsement.
- Oversight: The investment adviser must have a reasonable basis for believing that the testimonial or endorsement complies with the Marketing Rule. The written agreement requirement is part of the investment adviser's oversight and compliance obligations, but it does not by itself establish a reasonable belief of compliance. We recommend that advisers adopt policies and procedures that are reasonably designed to monitor compliance with the Marketing Rule.
There’s no strict rule against review responses and social media comments, but advisors should err on the side of caution. That’s because they become responsible for what is being said about them if they specifically engage in any given comment, according to Rize, a consulting firm that specializes in Google search optimization.