Subject: File Number S7-21-19 Proposed Rule regarding Investment Adviser Advertisements; Compensation for Solicitations
From: Judith Gross
Affiliation: Principal, JG Advisory Services, LLC

January 9, 2020

Please accept my comments below on the Proposed Rule regarding Investment Adviser Advertisements; Compensation for Solicitations
SECURITIES AND EXCHANGE COMMISSION 17 CFR Part 275 and 279 Release No. IA-5407; File No. S7-21-19 RIN: 3235-AM08

I have worked as a compliance consultant to investment advisers of hedge funds and private equity funds since 2005, and prior to that have worked as an attorney to the industry for over 10 years. As such, I believe I can offer some perspective on the practical implications of the Proposed Rule.
I believe the Commission’s decision to update the current rules is beneficial and long over-due considering changes to both the industry and technology since the rules were first written.  However, I think the proposal has several areas that can present complications, namely:

  1. Use of intermediaries to market “on behalf of” an investment adviser (pps 24 – 30):   I can identify two areas of concern with this aspect of the proposed rule. The first would be an adviser who gives an interview to the press, for example, to express a view on current markets or a particular market event. The second would be the provision of performance information to an indexing or ranking service (such as Hedge Fund Research (HFR) Indices). I think the current practice in the industry is to limit discussion of particular funds in interviews with the press, but under the new definition of “advertising”, I don’t think it is clear where even a general interview regarding markets would fall. In these situations, the adviser has provided information to the reporter, but yet does not control the outcome of the final article. Regarding provision of performance information to indexing services, I think the current view is that that is not “advertising” as the adviser does not control the content once the performance information is given, but again, I don’t think it is clear under the proposed rule where that activity would fall. As the Release asks on page 29, I would answer in the affirmative that the Commission should provide actual examples in the final rule.
  2. Offer or promote advisory services or seek to obtain or retain clients or investors (pps 30 - 34):  I am not sure if the proposed rule addresses the very common practice that hedge fund and private equity managers engage in, namely providing existing investors with monthly or quarterly “letters” which describe the performance of the portfolio’s investments and typically highlight particular investments as well as providing market commentary. At a minimum, I would propose having some aspect of the rule addressing that practice, since under the proposed rule, these letters might be viewed as “advertisements” whose goal is to retain investors. However, in general, I would view all communications with existing investors as not being advertisements. I think it would be difficult logistically to sort out which communications to existing investors are “advertisements” under the “seeking to retain” segment of the rule, and really, bottom line, I am hard-pressed to come up with an example of a communication with existing investors that doesn’t have at least one of its purposes being to retain investors. So, in response to the Commission’s question on page 34, I would say yes, that the rule should treat communications to existing investors differently from communications to prospective investors.
  3. Investors in pooled investment vehicles (pps 34-  39): I think it is positive that the Commission is making an attempt her to delineate requirements regarding advertising to investors in pooled investment vehicles, i.e., as opposed to the “client” definition pursuant to the Goldstein decision.  Within any given pool however, I think the Commission should realize that there would be a mix of “Retail” and “Non-Retail” Investors, and that this might present some logistical issues for advisers. For example, under the rule as currently proposed, an adviser may very well wind up having to prepare two different “advertisements” to existing investors for the same pool. Types of communications that advisers currently disseminate to investors include the “letters” I described above in (2), as well as communications such as (i) investor update calls regarding performance and investment strategy, (ii) estimated performance numbers emails sent on a weekly or monthly basis, (iii) “tear sheets” containing summary performance metrics such as alpha, beta, top holdings, sharpe ratio, (iv) responses to due diligence questionnaires from investors (usually annual), and (v) for private equity funds, summaries of portfolio companies including an overview of their business and rationale for investing. I don’t think any of these items should be considered “advertising”. While there is always the goal of retaining investors, as described above, the primary goal of these communications is to report on the performance of the investor’s investment.  In addition, as a technical matter, the final rule may need to carve out the master-feeder fund structure situation, where a feeder fund is actually an “investor” in the master fund, as it is unclear how this portion of the rule would apply to them.
  4. Unsolicited requests (pps 45- 49):  As proposed, this exclusion leaves open a lot of room for interpretation as to what type of request qualifies as “unsolicited” and what materials can be provided in response to that request, which is problematic for advisers because each request will need to be analyzed separately. I believe that the Commission should provide specific criteria for determining whether a request is “unsolicited”. In addition, unsolicited requests do very often come through an intermediary, so this exclusion should specifically include those types of requests.  In addition, I believe the rule should allow a broad response to a request, as practically speaking, under the rule as proposed, a new response might have to be crafted for each request, which in particular would be a burden for smaller advisers who typically have one or two advertising pieces pre-prepared and would like to be able to use those to respond.
  5. Information required by statute or regulation (pps 51 – 53): While I understand the rationale for this exclusion, I think practically, this may be difficult to implement because information contained in a filing may be viewed as a sort of disclaimer to an advertisement (particularly the ADV Part 2A and Form CRS), so the question would be whether just cross-referencing them on an advertisement would now be sufficient. Also, while not specifically addressed here, many advisers do not provide the ADV Part 2A to investors (pursuant to the Goldstein decision), so the exclusion should take that into account, because to the extent that investors are not directly receiving those filings, they are potentially investing without having that information.
  6. Proposed Amendments to Form ADV (pps 195 – 200):  I am particularly concerned about the proposed new ADV question inquriing whether all performance results were verified or reviewed by a non-related person. This would place smaller advisers at a distinct disadvantage as they may have audited financial results for a fund, but not want to incur the expense of having the performance results also verified or reviewed. Also, it is unclear to me whether “verified or reviewed” is the same thing as having a formal audit. In general, I am uncertain as to why adding the section of questions to the ADV regarding advertising practices is even necessary. Asking the adviser what types of performance results they include, or how they advertise, is really information that investors can get from viewing the advertisements themselves. So I am not sure what additional insight they would be getting from this new set of questions.
  7. Record-keeping requirements (pps 293-294):  Advisers of all sizes are generally retaining records of advertisements on their document servers, so I don’t think the requirement to retain them is the issue. I think what might be problematic for smaller advisers is the issue that results from the rule, which is that they may need to track how many people actually received the advertisement (whether it be 2, 10 or 100). This is an additional compliance burden for them. Smaller advisers will sometimes distribute performance results to a large number of prospective investors each month off of email lists that they work to create over time. This can sometimes number in hundreds of persons being sent the same email (although receipt/opening of the email is often not tracked). The record-keeping for those distributions is effectively their email archive.I am not certain based on the language of the proposed rule whether this method of record-keeping would be acceptable.

Thank you for the opportunity to make these comments. Please let me know if you need any additional information.

Very truly yours,

Judith Gross, Principal
JG Advisory Services LLC