Ontario Securities Commission (OSC) Staff Notice 33-729 Marketing practices of Investment Counsel/Portfolio Managers was published after the OSC Compliance team conducted a focused review of the marketing practices of 21 investment counsel/portfolio managers (ICPMs). The notice highlights deficiencies in the marketing practices of ICPMs and outlines suggested practices to assist registrants in meeting their obligations to deal fairly, honestly and in good faith with their clients.
Deficiencies Identified by the OSC
In the course of its review, OSC staff identified various deficiencies in the preparation and use of marketing materials by ICPMs. The following is a summary of those deficiencies:
Hypothetical Performance Data
OSC staff determined that almost all of the ICPMs subject to the review that presented hypothetical performance data (that is, performance data that is not the performance of actual client portfolios and is sometimes referred to as “simulated performance data”) in marketing materials used it in ways that were misleading or provided inadequate disclosure. Most of the deficiencies related to the marketing of non-prospectus qualified investment funds.
OSC staff outlined the following general concerns related to the presentation of hypothetical performance data in marketing materials:
- the data is presented in a way that may mislead clients to believe that it is the actual performance return of an investment fund or strategy;
- the data is often combined with, or confused with, actual performance;
- the presentation of the data does not include disclosure of the assumptions used to derive hypothetical performance data;
- the presentation of the data does not include disclosure of the method of calculation, which can be difficult to verify; and
- the data reflects risks and decisions that the ICPM may not be prepared to take or make in managing actual client portfolios.
In addition to these general concerns, OSC staff outlined the following specific concerns regarding the use of back-tested performance data (that is, hypothetical performance data created by applying a particular investment strategy to historical data over a period of time and which may be constructed from the historical performance of existing funds):
- the data is constructed with the benefit of the ICPM’s hindsight and is not based on management in real market conditions; and
- the presentation of the data is based on the ICPM’s strategy altered to fit the historical data.
OSC staff also had a significant concern with the use of model performance data (investment results of a “model” portfolio or “imaginary” portfolio of securities that are presented over a period of time) because it is difficult to assess whether such data represents actual performance results of existing clients.
OSC staff suggested that linking the actual performance data of an investment fund or investment strategy with the performance data of another fund or investment strategy is misleading because:
- clients may be misled to believe that the performance data is the actual performance;
- it appears that the fund or investment strategy has a longer track record than it really has;
- the performance may not be comparable across time periods; and
- the same method of calculating performance may not have been used for each set of data.
OSC staff determined that the majority of the ICPMs reviewed used unsatisfactory practices in the construction and/or presentation of their performance composites (an aggregation or grouping of the performance of one or more client portfolios that represent a similar investment mandate, objective or strategy). The performance composites often did not include all relevant client portfolios, were calculated using inconsistent or inappropriate methodologies and lacked adequate disclosure about performance returns.
OSC staff expressed concern about ICPMs presenting inappropriate benchmarks (a standard against which the performance of an investment strategy managed by an ICPM can be compared or measured), resulting in meaningless comparisons and overall poor disclosure about the use of benchmarks.
Exaggerated and Unsubstantiated Claims
OSC staff noted that exaggerated and unsubstantiated claims in marketing materials are misleading to clients because they do not accurately reflect the ICPM’s actual performance, skills, education, experience or services. In addition, investors may base their decision to contract the services of an ICPM on inaccurate information.
Other Marketing-Related Deficiencies
OSC staff also noted that one-third of the ICPMs reviewed did not have appropriate policies and procedures in place to deal with marketing activities; or, they had policies and procedures that did not reflect their actual marketing practices. In addition, more than one-third of the ICPMs reviewed had marketing materials that were outdated or incorrect.
OSC’s Suggested Practices
OSC staff recommends that ICPMs follow a number of suggested practices in their marketing activities. OSC staff believe that the following suggested practices will assist registrants in meeting their obligation to deal fairly, honestly and in good faith with their clients:
- Historical performance data: ICPMs should present performance data that is based on their actual client performance returns, not on hypothetical returns which have a number of inherent risks and are difficult to verify.
- Linking performance: The actual performance data of an ICPM’s fund or investment strategy should be presented separately from the back-tested performance data of the other existing fund(s) or investment strategy.
- Performance composites: Performance composites should be constructed to include all portfolios with a similar investment strategy. Also, performance data should be calculated using a consistent methodology so that any comparisons are not misleading.
- Benchmarks: Benchmarks should be relevant to the ICPM’s investment strategy. There should be adequate disclosure to make the comparison fair and meaningful for clients.
- Exaggerated and unsubstantiated claims: ICPMs should be able to support the claims made in their marketing materials.
Although National Instrument 81-102 Mutual Funds (NI 81-102) applies to prospectus-qualified mutual funds, OSC staff suggests that NI 81-102 includes requirements relating to marketing materials that can be viewed as a “best practices” standard that can be applied to the marketing materials of other types of investment funds and investment strategies.
ICPMs should read NI 81-102 in conjunction with their legal duties to their clients to determine if their marketing materials are in compliance with Ontario securities legislation. While the legal basis for applying these standards is uncertain, OSC staff have indicated that they will be monitoring ICPMs for compliance with these standards in future reviews of marketing materials.
OSC staff will continue to review the marketing practices of ICPMs during regular field reviews. Compliance staff will apply the suggested practices as guidelines when assessing and monitoring the compliance of ICPM marketing practices with Ontario securities laws.
A copy of OSC Staff Notice 33-729 is available on the OSC website