March 18, 1994
TO: COMPLIANCE COMMITTEE NO. 6-94
SEC RULES MEMBERS NO. 14-94
SUBCOMMITTEE ON ADVERTISING NO. 6-94
RE: NASD REMINDS MEMBERS OF SALES PRACTICE OBLIGATIONS
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The NASD recently published the attached Notice to remind its members of
their obligations to ensure that investments in mutual funds are suitable for
their customers and to disclose and discuss certain matters in the sale of
mutual funds.
1. Disclosure. The Notice reminds members of the need to disclose all
material facts to customers and the effect of any sales charges on the
anticipated return. The NASD believes that merely determining that an
investment is suitable for a particular investor does not excuse members from
their disclosure obligations.
Members are also reminded that oral representations by sales personnel
that contradict the disclosures in the prospectus or sales literature may
nullify the effect of the written disclosure and members may be liable for
rule violations and civil damages to customers as a result.
2. Breakpoints. The Notice also provides that members must
affirmatively disclose the existence of any "breakpoints" in order to enable
customers to evaluate the desirability of making a qualifying purchase.
Delivery of a "breakpoint letter" to a customer advising the customer of the
possibility of breakpoint savings is not a safe harbor for compliance with
their obligations to their customers.
3. Switching. The Notice also reminds members that they have an
obligation to evaluate the net investment advantage of any recommended switch
from one fund to another and that switching from one fund to another may be
difficult to justify if the financial gain or desired result is undermined by
transactions fees incurred with the switch. If recommendations are made to
fund investors to engage in market timing, then such transactions should be
within a single family of funds or where there are virtually no transaction
costs associated with the trade.
4. SIPC Coverage. The Notice cautions members against stating or
implying that SIPC provides insurance against loss of a customer's investment
or that SIPC is the equivalent of the FDIC or a guarantor of the value of a
security in the manner that the U.S. Government is for Treasury securities.
It states that any representations to the contrary may result in disciplinary
action.
5. Suitability. The Notice states that members selling funds to
elderly, retired or first-time investors must have an adequate and reasonable
basis for the sale.
6. Internal Controls. The Notice also states that members "must
develop appropriate internal controls, supervisory and compliance, to ensure
that all mutual fund sales practices comply with all relevant NASD rules, and
are consistent with high standards of commercial honor and just and equitable
principles of trade." The Notice emphasizes that supervision of compliance
with written procedures is crucial since failure to enforce established
procedures is the same as having no procedures at all.
7. Advertising/Marketing. The Notice reminds members acting as
underwriters to ensure that all advertising and marketing materials have been
filed and approved. It also cautions members against making or permitting
changes to the material in the prospectus or other approved material if the
effect would be to "exaggerate, obscure, or minimize material information."
Patricia Louie
Associate Counsel
Attachment