NASAA Series 65, Uniform Investment Adviser Law ExaminationLaws, Regulations, and Guidelines, including Prohibition on Unethical Business PracticesHard
An investment adviser (IA) advertises its performance history, noting that the returns are hypothetical and do not represent actual client accounts. The advertisement also includes a prominent disclaimer stating, 'Past performance is not indicative of future results.' Under NASAA's Model Rule on Advertising, which of the following is most likely true regarding this advertisement?
- AThe disclaimer makes the advertisement acceptable regardless of the hypothetical nature of the returns.
- BHypothetical performance is always prohibited in IA advertising under NASAA rules.
- CThe use of hypothetical performance is generally prohibited unless specific, detailed disclosures and methodologies are provided.
- DThe advertisement is acceptable because it clearly states the performance is hypothetical and includes a disclaimer.
Show answer & explanationAnswer & explanation
Correct answer: C. The use of hypothetical performance is generally prohibited unless specific, detailed disclosures and methodologies are provided.
While not always outright prohibited, the use of hypothetical or back-tested performance in IA advertising is subject to very stringent requirements under NASAA rules. These include detailed disclosures about the methodology, limitations, and the fact that it does not reflect actual trading, making it generally a challenging area to use compliantly.
Why the other options are wrong
- A. Disclaimers alone are usually not enough to make potentially misleading hypothetical performance acceptable.
- B. It's not 'always' prohibited, but the requirements are so strict that it's rarely used compliantly without extensive detail.
- D. While helpful, a simple disclaimer and 'hypothetical' label are often insufficient; more detailed disclosures and methodology explanations are typically required.
IA Advertising: Hypothetical Performance
The use of simulated or back-tested investment returns in an investment adviser's advertisement, subject to strict regulatory scrutiny.
- Generally disfavored by regulators.
- Requires extensive, specific disclosures if used.
- Must clearly state it's not actual client experience.
- Methodology and limitations must be explained.
Memory trick: Advertise Honestly: No guarantees, no misleading claims, be clear on hypotheticals.