More On Legal & Compliancefrom The Advisor's Professional Library
- Trading Practices and Errors When SEC-registered investment advisors conduct annual audits of firm policies and procedures, they should pay close attention to trading practices. Though usually not required to, state-registered advisors should look at their trading practices and revise policies that do not fully protect clients.
- Proxy Voting RIAs are not required to vote proxies on behalf of their clients. However, when an RIA does assume responsibility for voting proxies, the firm’s policies and procedures should help to ensure that votes are cast in the best interest of clients.
"In determining the appropriate disclosure, a fund should consider the degree of economic exposure the derivatives create, in addition to the amount invested in the derivatives strategy," wrote Barry Miller, associate director in the SEC's Office of Legal and Disclosure. "This disclosure also should describe the purpose that the derivatives are intended to serve in the portfolio (e.g., hedging, speculation, or as a substitute for investing in conventional securities), and the extent to which derivatives are expected to be used."
Among the SEC's concerns about current disclosure statements is that information provided is too generic. Disclosures are "of limited usefulness" to investors, according to Miller's letter to the ICI, and fail to demonstrate how "the fund's investment adviser actually intends to manage the fund's portfolio and the consequent risks."
Furthermore, while some of these "generic disclosures" are limited in scope, others are too long or too technical, with details of potential derivative transactions and no indication of relevance to investment operations.
A typical derivative disclosure, Miller writes, states that the fund "will or may engage in derivative transactions," and lists all types of derivatives as possible investments. Disclosure statements may also be too generic about derivatives' purpose in the fund or the extent to which they will be used.
These same concerns extend to risk disclosures, which provide only a limited or generic explanation of risk, or overly-complex disclosures that "reduces its usefulness for investors."
"We are reviewing the SEC staff's letter on derivatives-related disclosures by investment companies," a spokesperson for ICI said. "We will work with our members to ensure that they understand and comply with their disclosure obligations."