RIA Compliance Blog
In February 2017, the Financial Industry Regulatory Authority Inc. (“FINRA”) published a Regulatory Notice asking for comment on proposed changes to FINRA Rule 2210, which governs communications with the public. Under current Rule 2210, broker-dealers are not allowed to make communications that “predict or project performance, imply that past performance will recur or make any exaggerated or unwarranted claim, opinion or forecast.” According to FINRA, the purpose of this rule is to prevent retail investors from relying on performance projections relating to individual investments, which tend to be deceptive.
However, FINRA has acknowledged that performance projections that are not based on how well an individual investment performed can be helpful to investors who are contemplating an investment strategy. Furthermore, investment advisers are permitted to use performance projections in choosing an investment strategy for their clients, provided that the projections do not violate the Investment Advisers Act of 1940’s antifraud rules. Therefore, FINRA proposed the amendments to Rule 2210 in order to allow broker-dealers to use projections in a way that benefits clients and to make the rules governing performance projections by broker-dealers and investment advisers more uniform.
Under the proposed amendments, brokers would be allowed to use an illustration that can “project an asset allocation or other investment strategy, but not the performance of an individual security.” However, the following conditions would be required to be present. The illustration would need to have a “reasonable basis” for all of its predictions and suggestions. The illustration would also have to include a disclosure stating that it is based on hypotheses and that there is no guarantee that the investment performance it predicts will happen. Finally, the illustration would have to include statements detailing all material suppositions and constraints relating to it.
The proposed amendments are likely to have an economic effect on FINRA-registered firms. For example, firms who are not registered as both broker-dealers and investment advisers or that do not have employees who are registered as both might become better equipped to compete with their competitors once they are able to use the projections. However, the proposed amendments will likely also result in additional costs. For instance, firms who use the permitted projections would be obligated to implement supervisory procedures, such as “review and approval from a registered principal.” Moreover, firms would be required to update their policies and procedures to cover use of projections. According to FINRA, these updates would likely involve training representatives who utilize projections and advertising review employees, both of which involve costs.
As a result, FINRA has solicited the public to comment about the proposed amendments. Topics that FINRA has requested comments on include the extent that dually-registered firms expect to use the exception proposed in the amendments, alternative methods that FINRA should contemplate in order to achieve what it is hoping to achieve through the proposed amendments, whether there are single investment products that function like an asset allocation or other investment strategy for which performance projections could be well-suited, and whether the proposed amendments should obligate firms and representatives to provide a range of projections that would “make the hypothetical nature of a performance projection more apparent.” The comment period is open until March 27, 2017.
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