1 Memorandum to Investment Advisers Committee No. 33-95 and SEC Rules Committee No. 89-95, dated August 1, 1995.
September 13, 1995
TO: INVESTMENT ADVISERS COMMITTEE No. 38-95
SEC RULES COMMITTEE No. 102-95
RE: DRAFT INSTITUTE COMMENT LETTER ON REPROPOSED RULE 3a-4
______________________________________________________________________________
As we previously informed you, the Securities and Exchange Commission recently
reproposed Rule 3a-4 under the Investment Company Act of 1940, to provide a nonexclusive
safe harbor from the definition of "investment company" for certain investment advisory
programs.1 Attached is a copy of the Institutes draft comment letter on the proposal. The
comment period expires October 2, 1995. Please provide any comments on the Institutes letter
by Thursday, September 21, 1995. We especially would appreciate your comments concerning
the costs and benefits of the proposals for written policies and procedures, recordkeeping, and
the filing of a new Form N-3a4.
1. The Institutes General Comments on the Proposal
The Institutes letter notes that we opposed the Commissions 1980 proposal of Rule 3a-
4, out of a concern that it would permit the operation of unregulated mutual funds. While the
Institute continues to have concerns about the proposed safe harbor, we recognize that many of
the conditions of the original proposal have become de facto law since 1980 through the no-
action process and it does not appear that the application of these conditions has permitted
widespread evasion of the investor protections under the Act. Moreover, more formal
guidance from the Commission on the operation of these programs would be useful.
Consequently, the Institute generally supports reproposed Rule 3a-4.
2. Suitability
The Institutes letter does, however, recommend that the Commission include as an
express condition of the rule a requirement that investment managers make individualized
suitability determinations, to provide a critical distinction between investment adviser accounts
and investment companies. Our letter recognizes that the scope of such a requirement must
depend, at least in part, upon the nature of the services being provided
3. Minimum Account Requirement
In response to the Commissions request for comments, the Institutes letter opposes the
substitution of a minimum account size requirement for other conditions of the rule, and states
that such a requirement would not appear practical even if it were an additional condition.
4. Clarification Concerning Reasonable Restrictions Requirement
The Institutes letter requests clarification that the proposal to authorize clients to place
"reasonable restrictions" on management of their accounts and to make "instructions"
concerning this management, would not authorize clients to direct their investments.
5. Interpretive Release
The proposing release states that the Commission will issue an interpretive release
addressing various issues in connection with wrap fee and similar products, such as
appropriate suitability requirements, best execution obligations, the applicability of Section
206(3) under the Investment Advisers Act of 1940, and mutual fund wrap disclosure. The
Institute recommends that the Commission consider these issues in the context of the general
principles applicable to the client-adviser relationship and solicit more detailed information
concerning these issues. The Institutes specific comments are summarized as follows:
Suitability Requirements -- The Institute urges clarification that a portfolio manager for a
wrap account or other advisory program may rely on guidelines supplied by the client
(or sponsor) in discharging these obligations.
Best Execution -- The Institutes letter states that the question of best execution is not
relevant to mutual fund asset allocation programs that charge a fee covering only
advisory services and not brokerage expenses. With respect to other programs, if a
client agrees that portfolio transactions will be executed by the sponsor, then the
sponsor or the investment manager must make certain disclosure to the client.
Section 206(3) -- The Institutes letter states that Section 206(3) generally should not
apply to agency cross-transactions or principal transactions with a sponsor who does
not provide investment advice concerning the particular transactions.
Mutual Fund Wrap Disclosure -- The Institutes letter strongly supports the disclosure
requirements currently applicable to mutual fund wrap accounts set forth in several no-
action letters, because they provide full disclosure to investors concerning all applicable
charges and expenses and the availability of the mutual funds outside of the program.
Thomas M. Selman
Associate Counsel
Attachment