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94-25 SEC Approves Amendments To Filing Requirements For Communications Regarding Mutual Fund Rankings And CMOs Effective June 1, 1994

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Executive Summary

On March 17, 1994, the Securities and Exchange Commission (SEC) approved amendments to the NASD Rules of Fair Practice to: (1) require filings of investment company advertisements and sales literature that incorporate mutual fund rankings to include a copy of the ranking or comparison used in the advertisement or sales literature; (2) require filings of investment company advertisements and sales literature that incorporate mutual fund rankings that are not generally published or are the creation of the investment company, its underwriter, or an affiliate to include a copy of the ranking or comparison used in the advertisement or sales literature; and (3) make permanent the prefiling requirement for advertisements concerning collateral mortgage obligations (CMOs) under the Rules of Fair Practice and the Government Securities Rules. The text of the amendments, which take effect on June 1, 1994, follows this Notice.

Mutual Fund Rankings Background

As the number of mutual funds has increased, so has the number of mutual fund ranking entities (Ranking Entities). Ranking Entities, like mutual funds and fund affiliates, categorize and rank mutual funds under categories such as fund type, performance over a given period of years, total return, standardized yield calculated pursuant to SEC rules, the variations in sales charges, and risk/reward. References to such rankings in mutual fund advertisements and sales literature have also increased substantially in recent years as members have attempted to boost sales by promoting the performance of various funds. The NASD believes it is important to be able to review and regulate the use of ranking materials and the development of customized rankings to prevent their misleading use.

Description Of The Amendment

General Filing Requirement—The NASD has amended Subsection 35(c)(1) to Article III of the Rules of Fair Practice to require members, who file any advertising or sales literature for review that uses or incorporates mutual fund rankings or comparisons of the investment company with other investment companies, to include in the filing a copy of the ranking or comparison used in the advertising or sales literature. The amendment to Subsection 35(c)(1) will permit the NASD staff to determine immediately whether the use of a ranking complies with the Advertising Rules, thus avoiding the need to research rankings or obtain a copy of the source information in order to verify its accuracy.1

Pre-Use Filing In Certain Circumstances—The NASD has also amended Subsection 35(c)(2) to require that all investment company advertising or sales literature that incorporates rankings or comparisons of the investment company with other investment companies, where the ranking or comparison is not generally published or is the creation, directly or indirectly, of the investment company, its underwriter, or an affiliate, be filed with the Association's Advertising/ Investment Company Regulation Department 10 days prior to use. While the NASD is concerned about permitting ranking categories to be created by investment companies or their affiliates, rather than by a Ranking Entity, it recognizes that a customized ranking may provide meaningful information to the investor. Such filings must also include a copy of the data, ranking, or comparison on which the ranking or comparison is based.

Collateralized Mortgage Obligations

The SEC also approved an amendment to Article III, Subsection 35(c)(2) of the Rules of Fair Practice and Subsection 8(c)(1)(B) of the Government Securities Rules eliminating sunset provisions relating to CMOs, which expired on November 16, 1993. This amendment makes the prefiling requirement for CMO advertisements permanent.

Any questions regarding this Notice may be directed to Elliott R. Curzon, Senior Attorney, (202) 728-8451, Robert J. Smith, Attorney, (202) 728-8176, Office of General Counsel, or R. Clark Hooper, Vice President, Advertising/Investment Companies, (202) 728-8329.


1 The NASD has also proposed Guidelines for the Use of Rankings in Mutual Fund Advertisements and Sales Literature (Guidelines). These Guidelines were submitted in a separate rule filing to the SEC for review and were published for comment in Securities Exchange Act Release No. 33606 (Feb. 8, 1994); 59 FR 7276 (Feb. 15, 1994).


Text Of Amendments To Section 35, Article III Of The Rules Of Fair Practice And Section 8 Of The Government Securities Rules

(Note: New language is underlined; deletions are in brackets.)

Rules of Fair Practice

* * * * *

Communications With the Public

Sec. 35.

* * * * *

(c) Filing Requirements and Review Procedures
(1) Advertisements and sales literature concerning registered investment companies (including mutual funds, variable contracts and unit investment trusts) not included with in the requirements of Subsection (c)(2) of this Section, and public direct participation programs (as defined in Article III, Section 34 of the Rules of Fair Practice) shall be filed with the Association's Advertising Regulation Department within 10 days of first use or publication by any member. Filing in advance of use is recommended. Members are not required to file advertising and sales literature which have previously been filed and which are used without change. Any member filing any investment company advertisement or sales literature pursuant to this Subsection that includes or incorporates rankings or comparisons of the investment company with other investment companies shall include a copy of the ranking or comparison used in the advertisement or sales literature.
(2) Advertisements concerning collateralized mortgage obligations registered under the Securities Act of 1933, and advertisements and sales literature concerning registered investment companies (including mutual funds, variable contracts and unit investment trusts) that include or incorporate rankings or comparisons of the investment company with other investment companies where the ranking or comparison category is not generally published or is the creation, either directly or indirectly, of the investment company, its underwriter or an affiliate, shall be filed with the Association's Advertising Regulation Department for review at least 10 days prior to use (or such shorter period as the Department may allow in particular circumstances) for approval and, if changed or expressly disapproved by the Association, shall be withheld from publication or circulation until any changes specified by the Association have been made or, in the event of disapproval, until the advertisement has been refiled for, and has received, Association approval. Any member filing any investment company advertisement or sales literature pursuant to this Subsection shall include a copy of the data, ranking or comparison on which the ranking or comparison is based. [This subsection (c)(2) shall remain in effect for one year from November 16, 1993 unless modified or extended prior thereto by the Board of Governors.]

* * * * *

Government Securities Rules

* * * * *

Communications With the Public

* * * * *

Sec. 8.

(c) Filing Requirements and Review Procedures
(1) Members shall file advertisements for review with the Association's Advertising Regulation Department as follows: * * * * *
(B) advertisements concerning collateralized mortgage obligations shall be filed with the Association's Advertising Regulation Department for review at least 10 days prior to use (or such shorter period as the Department may allow in particular circumstances) for approval and, if changed or expressly disapproved by the Association, shall be withheld from publication or circulation until any changes specified by the Association have been made or, in the event of disapproval, until the advertisement has been refiled for, and has received, Association approval. [This subsection (c)(1)(B) shall remain in effect for one year from November 16, 1993 unless modified or extended prior thereto by the Board of Governors.]

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