On Sept. 25, 2008, the SEC issued for comment proposals by FINRA to amend NASD Rules 2210 (Communications with the Public) and 2211 (Institutional Sales Material and Correspondence) [and Incorporated New York Stock Exchange Rule 472 (Communications with the Public)] to exempt "market letters" from FINRA's principal pre-approval requirements. Among other things, the proposals would amend the definition of “sales literature” in Rule 2210 to exclude market letters that qualify as “correspondence,” and would define “correspondence” in Rule 2211 to include market letters distributed by a member to one or more of its existing retail customers and fewer than 25 prospective retail customers within any 30 calendar-day period. Rel. No. 34-58648; available at http://www.sec.gov/rules/sro/finra/2008/34-58648.pdf. Highlights of the proposals are summarized below.
Comments on the proposals are due to the SEC by Oct. 22, 2008. If the proposals are approved by the SEC, FINRA would announce the immediate implementation of the proposed rule changes in a Regulatory Notice to be published no later than 60 days following SEC approval.
Rule 2210 requires a registered principal of a member to approve prior to use any item of "sales literature." Currently, the term “sales literature” includes “market letters,” thus subjecting these items to the "preapproval" requirement. As here relevant, however, the term “sales literature” does not include (and the preapproval requirement does not generally apply to) "institutional sales material" and "correspondence" (as defined in Rule 2211). FINRA is concerned "that the pre-approval requirements may, in some circumstances, inhibit the flow of information to traders and other investors who base their investment decisions on timely market analysis."
To address this concern, FINRA is proposing to amend the definition of “sales literature” in Rule 2210 to exclude market letters that qualify as a “correspondence” and further would amend “correspondence” in Rule 2211 to include market letters (as well as any written letter or electronic mail message) distributed by a member to one or more of its existing retail customers and fewer than 25 prospective retail customers within any 30 calendar-day period. (Pursuant to Rule 2211(b)(1)(A), correspondence does not require approval by a registered principal prior to use, unless such correspondence is distributed to 25 or more existing retail customers within any 30 calendar-day period and makes a financial or investment recommendation, or otherwise promotes a product or service of the member.)
Thus, under the proposed changes, all FINRA members would be permitted to distribute market letters to institutional investors (as defined in Rule 2211(a)(3)) without requiring prior approval. In addition, under the proposed rules, a member could distribute without prior approval a market letter that is sent only to existing retail customers and fewer than 25 prospective retail customers within a 30 calendar-day period.
However, the Release notes that, if the market letter both (1) is sent to 25 or more existing retail customers and (2) makes a financial or investment recommendation or otherwise promotes a product or service of the member, prior principal approval would be required. In addition, similar to the manner in which other forms of correspondence (i.e., written letters and electronic mail messages) are addressed by Rules 2210 and 2211, if a market letter were sent to 25 or more prospective retail customers within a 30-calendar day period, it would fall within the definition of "sales literature" and would have to be supervised as such, including approval by a registered principal prior to use.
As correspondence, market letters would remain subject to the supervision and review requirements of NASD Rule 3010, which requires each firm to establish written procedures that are appropriate to its business, size, structure and customers for the review of outgoing correspondence. If these procedures do not require review of all correspondence prior to use or distribution, they must provide for the education and training of associated persons as to the firm’s procedures governing correspondence, documentation of such education and training, and surveillance and follow-up to ensure that such procedures are implemented and adhered to.
According to the Release, "The proposed changes would allow firms to distribute most market letters in a timely manner without requiring a registered principal to review each market letter prior to distribution, but would maintain investor protection by requiring firms to review such correspondence in accordance with mandated supervisory policies and procedures."
Lastly, in order to sharpen the distinction between market letters (which would be excluded from the definition of "sales literature") and "research reports" (which are included in the definition of "sales literature"), FINRA is proposing to create a new definition of the term “market letter” in Rule 2211. This is intended to make clear that a firm may not supervise as correspondence, communications that fall within the definition of “research report.” "Market letter" would be defined to mean any written communication excepted from the definition of “research report” under NASD Rule 2711(a)(9)(A). This exception consists of:
- Discussions of broad-based indices
- Commentaries on economic, political or market conditions
- Technical analyses concerning the demand and supply for a sector, index or industry, based on trading volume and price
- Statistical summaries of multiple companies' financial data, including listings of current ratings
- Recommendations regarding increasing or decreasing holdings in particular industries or sectors
- Notices of ratings or price target changes (subject to certain disclosure requirements)