NCS Compliance Blog

A Bad Choice of Words Can Hurt RIAs September 2, 2009

You are reading the first installment of the National Compliance Services, Inc. (“NCS”) blog. By way of background, NCS is a leading compliance consulting firm located about a mile from the ocean in Delray Beach, Florida. This blog will focus on compliance advice for Investment Adviser Representatives (“IARs”) and Registered Investment Advisers (“RIAs”). Although my specialty is advertising and marketing compliance, I will be reaching out to NCS’ attorneys and consultants for assistance in discussing a wide variety of issues facing RIAs. NCS also has many broker-dealer experts who will help me address topics of interest to brokerage firms and registered representatives.

At the onset, let’s make sure everyone is on board with the terminology we will be using. RIA refers to the advisory firm. In contrast, an IAR is the person who gives advice and/or manages money for the RIA.

On a recent flight to Pittsburgh which we still call home, a woman was texting someone while walking down the aisle of the crowded plane. Naturally, I was extremely pleased because I prefer that the boarding process be painfully slow to ensure that the flight is delayed.

Aside from rolling my eyes, I whispered to my wife, “I hope that woman isn’t an IAR for an RIA and she isn’t texting a client or prospective client.” Boring guy that I am, I made the same comment as I watched her send off a hastily-written e-mail before the flight attendant insisted that she shut off her Blackberry.

The reason I get uptight about IARs texting clients or prospective clients is because they may be violating their fiduciary obligations and the Investment Advisers Act of 1940. A bad choice of words can create turbulence for an RIA’s compliance program. Having now beaten the aircraft metaphor to death, let’s look at why RIAs and IARs should be extremely careful when e-mailing or texting clients and prospective clients.

All communications with clients must be truthful, representative, complete, and not misleading. Unfortunately, those requirements are likely to be overlooked in a quick e-mail or text message. Normally, communications with existing clients are not advertisements which are subject to Rule 206(4)-1 under the Investment Advisers Act. Nevertheless, if circumstances suggest that the purpose of a written communication is to offer additional advisory services or attract new clients, it may be viewed by the SEC as an advertisement that is subject to Rule 206(4)-1.

Rule 206(4)-1(a)(5) prohibits advertisements that contain any untrue statement of a material fact or that is otherwise false or misleading. The danger is that poorly chosen words may prove to be false or misleading to clients and prospective clients.

A recent deficiency letter addressed to an RIA from the SEC’s Chicago regional office, set forth the standard for judging whether an advertisement is false or misleading. Relying on Spear & Staff, Inc., Advisers Act Release No. 188 (March 25, 1965), the examiner wrote, “When appraising advertisements by investment advisers in light of the rule, the advertisements must be measured from the viewpoint of a person unskilled and unsophisticated in investment matters.”

Therefore, RIAs and IARs must be able to present and discuss their strategy and expertise without confusing less sophisticated prospective clients. Aside from the potential compliance problems, using investment jargon that goes over the head of prospective clients is no way to connect with them on an interpersonal level.

Unless a presentation is made to institutional or sophisticated investors, RIAs may wish to avoid complex charts, graphs, and statistics that may overwhelm members of the audience. Before the presentation is used for marketing purposes, IARs should run it by their Chief Compliance Officer and test-drive the content on someone with minimal financial knowledge to determine if he or she understands the key points being made.

Marketing hype is always a bad choice of words. IARs should avoid referring to themselves as the foremost authority on a particular subject, unless they can justify that description when examiners come for a visit. You must be able to provide proof that the description is accurate and not false or misleading.

RIAs should avoid using any word or phrase that may be construed as marketing hype and is not a demonstrable fact. For example, many RIAs claim their investment strategies are “unique,” even though their approach is very similar to other firms. Although clients’ needs and situations may be properly described as “unique,” the word may not be an apt description of the firm’s strategies or approach. Similarly, many RIAs describe their money management strategies as “innovative,” even though they are quite traditional.

Stay tuned for our next blog installment. We will be looking at words and phrases that can get you into hot water with examiners.

Les Abromovitz, an attorney, can be reached at NCS by calling 561-330-7645, Ext. 213, or by e-mailing him at labromovitz@ncsonline.com. Les is the author of a new book called, GROWING WITHIN THE LINES: THE INVESTMENT ADVISER’S ADVERTISING AND MARKETING COMPLIANCE GUIDE (NationalUnderwriterStore.com; 800-543-0874; Amazon.com).