FINRA Guidance Permits Pre-Inception Index Performance Data in Fund Communications with Institutional Investors
Investment Management Update
Date: February 25, 2019
On January 31, 2019, Financial Industry Regulatory Authority, Inc. (FINRA) released an interpretative letter to Foreside Fund Services, LLC, a registered broker-dealer, permitting the use of pre-inception index performance (PIP) data (often referred to as “hypothetical” or “backtested” index data) in communications concerning passively managed open-end investment companies seeking to generate returns that correspond generally to the applicable index, only if such communications are distributed solely to institutional investors, including intermediaries. In the letter, FINRA reiterated its long-standing position that PIP data cannot be used in communications with retail investors because it does not comply with FINRA Rule 2210(d). FINRA also provided several conditions for using PIP data in fund-related communications to institutions, including:
- PIP data must be clearly labeled “For use with institutions only, not for use with retail investors” with additional instruction, as applicable, to not circulate communications containing PIP data to retail investors.
- PIP data must be created according to a pre-defined set of rules that cannot be altered except under extraordinary market, political or macroeconomic conditions.
- If a fund materially alters its investment strategy, the fund may not use PIP data it previously relied upon.
- PIP data must reflect different market environments and, at a minimum, 10 years of pre-inception data.
- PIP data must be as of the most recently ended calendar quarter and must reflect the deduction of fund fees and expenses.
- PIP data must be clearly labeled, shown separately from actual fund performance, and presented along with disclosure of the applicable dates for the PIP data and the dates for actual performance since inception.
- PIP data must be accompanied by several disclosures, including statements indicating that pre-inception performance is hypothetical and actual fund performance may differ from PIP data over the same period; and that PIP data is based on criteria applied retroactively with the benefit of hindsight and cannot account for all financial risk that may affect fund performance.
- Marketing materials that include PIP data must indicate that the index’s methodology is available upon request and, if an electronic communication, must provide a hyperlink to the methodology.
- If a fund has been operational for more than one year, its actual performance must accompany the presentation of any PIP data.
- PIP data may not be inconsistent with any PIP data disclosed in the fund’s prospectus.
- If an index provider is paid by a fund sponsor, the relationship and the index provider’s identity must be disclosed.
In addition to complying with FINRA’s conditions, advisers and broker-dealers who intend to use PIP data in institutional communications must not omit material information, or include false, exaggerated or misleading statements, or misstate material facts. All institutional communications must be presented in a way that is fair and balanced to afford institutional investors the opportunity to make informed investment decisions.
FOR MORE INFORMATION
For more information, please contact:
Andrew J. Davalla
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