believe that the disqualification provisions, or ``bad actor''
provisions, under Regulation D will serve the same policy goal as our
final rule's disqualification provisions.\515\ While we recognize that
the two sets of disqualification provisions are not identical and that
there are certain categories of disqualifying events that do not
overlap, we do not believe that the differences justify having more
than one set of disqualification provisions for compliance. Moreover,
this exemption is narrowly limited to testimonials and endorsements
that are in connection with a sale of securities under rule 506 of the
Securities Act. Accordingly, in cases where a covered person's activity
with respect to a rule 506 securities offering would be considered a
testimonial or endorsement under our final rule, such covered person
will not be subject to the disqualification provisions under our final
rule so long as his or her involvement would not disqualify the
offering under rule 506(d) under the Securities Act.\516\
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    \515\ We believe that the two sets of provisions are
sufficiently similar to help realize our policy goal of reducing the
risk that certain ineligible persons should not be acting as
promoters. For example, an offering is disqualified under rule
506(d) if a covered person is subject to any order of the Commission
entered within five years before such sale that, at the time of such
sale, orders the person to cease and desist from committing or
causing a violation or future violation of: (i) Any scienter-based
anti-fraud provision of the Federal securities laws; or (ii) section
5 of the Securities Act. See section 506(d)(1)(v) of the Securities
Act. See also final rule 206(4)-1(e)(4)(v).
    \516\ Final rule 206(4)-1(b)(4)(iv).
---------------------------------------------------------------------------

    Given that Regulation D does not have any similar provisions that
are sufficient to replace our final rule's disclosure or adviser
oversight and compliance provisions, covered persons under rule 506(d)
of Regulation D will not be exempt from our rule's disclosure and
adviser oversight and compliance obligations for testimonials and
endorsements. Accordingly, similar to the exemption for registered
broker-dealers, persons covered by rule 506(d) of Regulation D with
respect to a rule 506 offering will still be subject to all other
provisions of the final rule, to the extent that their activity falls
within the scope of the rule, including the general prohibitions,
performance provisions, and conditions applicable to testimonials and
endorsements except the disqualification provisions.
e. No Exemptions for Impersonal Investment Advice and Nonprofit
Programs
i. Impersonal Investment Advice
    The proposed solicitation rule would have provided a partial
exemption for solicitation activities for investment advisory services
that do not purport to meet the objectives or needs of specific
individuals or accounts.\517\ The proposed advertising rule did not
provide any similar exemption. As a result of the merger of the two
rules, the final rule will not have an exemption for promoters that
refer investors for the provision of impersonal investment advice.\518\
---------------------------------------------------------------------------

    \517\ Proposed rule 206(4)-3(b)(1). Specifically, such
solicitors would not have had to enter into a written agreement and
provide the solicitor disclosure and would not have been subject to
the adviser oversight and compliance provision. However, such
solicitors would have been subject to the disqualification
provisions under the proposed rule.
    \518\ Final rule 206(4)-1(b).
---------------------------------------------------------------------------

    One commenter supported our proposal to retain and modify the
current exemption under the solicitation rule for solicitation
activities related to the provision of impersonal investment
advice.\519\ This commenter stated that the exemption is a ``long-
standing feature of the regime covering solicitation,'' and that our
proposed

modifications such as removing the requirement to enter into a written
agreement would improve aspects of the exemption. However, in the
context of advertising, and testimonials and endorsements in
particular, we do not believe that there should be any distinction made
between personal and impersonal investment advice.\520\ Many
testimonials and endorsements, by their nature, will be used to promote
and advertise an adviser's services, without taking into account a
particular investor's objectives or needs. Accordingly, in such cases,
we believe that investors should be afforded all protections of the
final rule. A testimonial or endorsement serving as an advertisement
for an adviser should not be exempt from providing disclosures when
there is a material conflict of interest simply because the
advertisement is related to the provision of impersonal investment
advice instead of personal investment advice.
---------------------------------------------------------------------------

    \519\ SIFMA AMG Comment Letter I.
    \520\ See current rule 206(4)-1. The current advertising rule
does not have any exemptions for advertisements related to
impersonal investment advice.
---------------------------------------------------------------------------

    We stated in the proposal that the current and proposed
solicitation rule provided a partial exemption for impersonal advisory
services because we understood that ``prospective clients normally
would be aware that a person selling such services was a salesman who
was paid to do so.'' However, with respect to the proposed advertising
rule, one commenter argued against regulations built on any underlying
assumption that consumers are skilled at evaluating testimonials.\521\
Other commenters argued against permitting testimonials and
endorsements, raising concerns about investor confusion and inadvertent
investor harm.\522\ Although we continue to recognize that a potential
investor may be aware of a promoter's incentive to sell, after
considering comments, we believe that any use of testimonials or
endorsements, subject to the final exemptions, needs certain
protections. Accordingly, notwithstanding the fact that an adviser may
offer impersonalized services, if an adviser's advertisement includes a
testimonial or endorsement, then such advertisement will be subject to
the final rule's provisions.
---------------------------------------------------------------------------

    \521\ See TINA Comment Letter.
    \522\ See Mercer Comment Letter; NAPFA Comment Letter.
---------------------------------------------------------------------------

ii. Nonprofit Programs Exemption
    The proposed solicitation rule would have exempted certain types of
nonprofit programs from the substantive requirements of the rule,
codifying the positions taken in previous staff no-action letters.\523\
The proposed advertising rule provided no such exemption for
testimonials or endorsements. The final marketing rule will not have an
exemption for nonprofit programs.\524\
---------------------------------------------------------------------------

    \523\ Some solicitors have, from time to time, requested that
the staff not recommend enforcement action under the cash
solicitation rule for referral programs with some, or all, of these
features. See National Football League Players Association, SEC
Staff No-Action Letter (Jan. 25, 2002) (``NFLPA Letter'');
Excellence in Advertising, Limited, SEC Staff No-Action Letter (Nov.
13, 1986) (``EIA Letter''); International Association for Financial
Planning, SEC Staff No-Action Letter (June 1, 1998) (``IAFP
Letter''). These staff no-action letters will be nullified following
the rescission of the solicitation rule.
    \524\ See final rule 206(4)-1(b). The proposed solicitation rule
would not have applied to an adviser's participation in a program
when the adviser had a reasonable basis for believing that the
solicitor is a nonprofit program, participating advisers compensated
the solicitor only for the costs reasonably incurred in operating
the program, and the solicitor provided clients a list, based on
non-qualitative criteria, of at least two advisers. See proposed
rule 206(4)-3(b)(4). There is no special exception made for
nonprofit programs under the current advertising rule.
---------------------------------------------------------------------------

    We proposed this exemption because we believed that the potential
for the solicitor to demonstrate bias towards one adviser or another
when there is no profit motive made the protections of the solicitation
rule unnecessary.\525\ One commenter supported the proposed exemption
and suggested that the same type of approach could be helpful for for-
profit entities that provide matching of investors and advisers based
on objective criteria.\526\ However, given the merger of the
advertising and solicitation rules and our final rule's requirements,
we no longer believe that an exemption for nonprofit programs would be
appropriate or necessary. Instead, we believe the requirements of the
final rule are important for investors even when the advertisement take
the form of a testimonial or endorsement by a nonprofit program.
---------------------------------------------------------------------------

    \525\ 2019 Proposing Release, supra footnote 7, at section
II.B.7.
    \526\ SIFMA AMG Comment Letter I.
---------------------------------------------------------------------------

    Among other things, our proposed solicitation rule would have
required a separate solicitor disclosure that provided investors with
certain information including the terms of compensation, and a written
agreement between the adviser and solicitor describing the solicitation
activities and requiring solicitor compliance with section 206 of the
Act.\527\ The proposed nonprofit programs exemption would have exempted
advisers and solicitors from the requirements of the proposed
solicitation rule including the written agreement and disclosure
requirements, provided that the adviser and solicitor still met a
number of conditions including some advisory oversight and different
disclosures.\528\
---------------------------------------------------------------------------

    \527\ See proposed rule 206(4)-3(a)(1).
    \528\ See proposed rule 206(4)-3(b)(4), which would have
required that: (i) The adviser have a ``reasonable basis for
believing'' that among other things, the solicitor is a nonprofit
program and that the solicitor (or adviser) ``prominently discloses
to the client, at the time of any solicitation activities,'' certain
information; and (ii) solicitor or adviser disclose: (1) The
criteria for inclusion on the list of investment advisers; and (2)
that investment advisers reimburse the solicitor for the costs
reasonably incurred in operating the program.
---------------------------------------------------------------------------

    Under the final rule, though we are not providing an exemption for
nonprofit programs per se, we took into account that, if there is no or
minimal compensation involved, the nonprofit program would fall under
the de minimis exemption. As a result, many nonprofit programs may
effectively be subject to the required disclosures and a part of the
adviser oversight provision under the final rule, similar to the
proposed exemption under the solicitation rule.\529\ Under the final
rule, the nonprofit program would need to disclose that it is not a
current client of the adviser, the material terms of compensation,
which, if any, would be similar to the disclosure under the proposed
exemption,\530\ and any material conflicts of interest. With respect to
the adviser oversight provision, if the nonprofit program falls under
the de minimis exemption,\531\ advisers would only need to have a
reasonable basis for believing that the nonprofit program complies with
the final rule, rather than a number of specific items as proposed
under the solicitation rule.\532\
---------------------------------------------------------------------------

    \529\ See final rule 206(4)-1(b)(4)(i). The proposed nonprofit
program exemption would have required that the client receive
certain disclosures. See proposed rule 206(4)-3(b)(4)(ii). The
exemption would have also had a ``reasonable basis'' standard for
the adviser's reliance on the exemption. See proposed rule 206(4)-
3(b)(4)(i). As with the de minimis exemption, nonprofit programs
would not have been subject to the disqualification provisions under
the proposed rule. See proposed rule 206(4)-3(b)(4). Since a person
or program would be unlikely to demonstrate bias in referring one
adviser over another when neither adviser provides compensation
based on the number of referrals made or any other indicator of the
potential to earn the adviser profit, we believed, and continue to
believe, that an exemption from the disqualification provisions in
such cases is appropriate.
    \530\ The proposed exemption would have required that the
solicitor or adviser disclose to the client that investment advisers
reimburse the solicitor for the costs reasonably incurred in
operating the client. Proposed rule 206(4)-3(b)(4)(ii)(B).
    \531\ Such a program within the de minimis exemption will not be
subject to the written agreement requirement under the adviser
oversight and compliance provision. Final rule 206(4)-1(b)(2)(ii)
and (b)(4)(i).
    \532\ See proposed rule 206(4)-3(b)(4)(i).
---------------------------------------------------------------------------

    We believe that the disclosure and advisory oversight requirements
under

the final rule are more appropriate than, and preferable to, the more
tailored disclosures and conditions that were proposed under the
nonprofit program exemption. Accordingly, we believe eliminating the
proposed nonprofit program exemption is appropriate, and the final rule
will subject advisers participating in any referral program, whether
nonprofit or for profit, to the rule in order to provide investors with
sufficient and necessary information when presented with a testimonial
or endorsement of an adviser by such a program. Absent the de minimis
or other exemption, the rule will subject all referral programs that
provide testimonials or endorsements to the required disclosures,
adviser oversight and disqualification provisions.

D. Third-Party Ratings

    As proposed, the final rule will prohibit including third-party
ratings in an advertisement, unless they comply with the rule's general
prohibitions and additional conditions. An investment adviser may not
include a third-party rating in its advertisement unless the adviser
has a reasonable basis for believing that any questionnaire or survey
used in the preparation of the third-party rating meets certain
criteria and provides certain disclosures. Several commenters supported
the proposed rule's approach of expressly permitting the inclusion of
third-party ratings in advertisements.\533\ However, one commenter
requested that we prohibit third-party ratings in retail
advertisements, arguing that advisers will be incentivized to purchase
only positive third-party ratings and aggressively market them to
mislead investors.\534\ We believe that the final rule's conditions for
including third-party ratings in an advertisement, discussed in more
detail below, in conjunction with the rule's general prohibitions,
mitigate any such incentives and safeguard investors from misleading
third-party ratings.
---------------------------------------------------------------------------

    \533\ See, e.g., Blackrock Comment Letter; IAA Comment Letter.
    \534\ See NASAA Comment Letter.
---------------------------------------------------------------------------

    The final rule will, as proposed, define ``third-party rating'' as
a ``rating or ranking of an investment adviser provided by a person who
is not a related person (as defined in the Form ADV Glossary of Terms),
and such person provides such ratings or rankings in the ordinary
course of its business.'' \535\ This definition is intended to permit
advisers to use third-party ratings, subject to conditions, when the
ratings are conducted in the ordinary course of business. We continue
to believe that the ordinary course of business requirement would
largely correspond to persons with the experience to develop and
promote ratings based on relevant criteria. It would also distinguish
third-party ratings from testimonials and endorsements that resemble
third-party ratings, but that are not made by persons who are in the
business of providing ratings or rankings. The requirement that the
provider not be an adviser's related person will avoid the risk that
certain affiliations could result in a biased rating.
---------------------------------------------------------------------------

    \535\ Rule 206(4)-1(e)(17). An adviser's ``related person'' is
defined in Form ADV's Glossary of Terms as ``[a]ny advisory
affiliate and any person that is under common control with your
firm.'' Italicized terms are defined in the Form ADV Glossary. We
believe that a rating by a person under common control with the
adviser could present the same bias towards the adviser as a rating
by an adviser's other advisory affiliates.
---------------------------------------------------------------------------

    The final rule also will subject advertisements that include third-
party ratings to additional tailored conditions, as proposed. For such
advertisements, the final rule will require that the investment adviser
have a reasonable basis to believe that any questionnaire or survey
used in the preparation of the third-party rating is structured to make
it equally easy for a participant to provide favorable and unfavorable
responses, and is not designed or prepared to produce any predetermined
result (the ``due diligence requirement'').\536\ The final rule also
will require that an investment adviser clearly and prominently
disclose, or the investment adviser reasonably believes that the third-
party rating clearly and prominently discloses: (i) The date on which
the rating was given and the period of time upon which the rating was
based; (ii) the identity of the third-party that created and tabulated
the rating; and (iii) if applicable, that compensation has been
provided directly or indirectly by the adviser in connection with
obtaining or using the third-party rating (the ``disclosure
requirement'').\537\ In order to be clear and prominent, the disclosure
must be at least as prominent as the third-party rating.\538\ While we
are adopting the conditions required for including any third-party
rating in an advertisement largely as proposed, we are providing
additional clarification on how advisers can comply with such
conditions.
---------------------------------------------------------------------------

    \536\ See final rule 206(4)-1(c).
    \537\ See id.
    \538\ Commenters claimed that a ``clearly and prominently''
disclosure standard would pose challenges for certain
advertisements, including advertisements on certain social media or
internet platforms, if hyperlinking is not permitted. See, e.g.,
Fidelity Comment Letter; LinkedIn Comment Letter; MMI Comment
Letter. As discussed above, we continue to believe that it would not
be consistent with the clear and prominent standard to use a
hyperlink to include the disclosures required under the final rule.
See supra section II.C.2.a. Instead, such required disclosures
should be included within the advertisement.
---------------------------------------------------------------------------

    Several commenters requested guidance on how an adviser can satisfy
the due diligence requirement.\539\ We continue to believe that an
adviser could satisfy the requirement by accessing the questionnaire or
survey that was used in the preparation of the rating. We are persuaded
by commenters' concerns, however, that third-party rating agencies may
be reluctant to share proprietary survey or questionnaire information
to advisers, such as their calculation methodology.\540\ Accordingly,
we are clarifying that obtaining the questionnaire or survey used in
the preparation of the rating is not the only means to satisfy this
requirement. We also do not believe that this condition requires an
adviser to obtain complete information about how the third-party rating
agency collects underlying data or calculates a rating, as one
commenter suggested.\541\ Nevertheless, we continue to believe that an
adviser relying solely on the results of a survey or questionnaire--
i.e., the rating itself--without conducting some due diligence into the
underlying methodology and structure, could give rise to advertisements
that include misleading ratings. To satisfy the due diligence
requirement, an adviser could seek representations from the third-party
rating agency regarding general aspects of how the survey or
questionnaire is designed, structured, and administered. Alternatively,
a third-party rating provider may publicly disclose similar information
about its survey or questionnaire methodology. In either case, the
adviser could obtain sufficient information to formulate a reasonable
belief as required by the due diligence requirement without obtaining
proprietary data of third-party rating agencies.
---------------------------------------------------------------------------

    \539\ See, e.g., Blackrock Comment Letter (suggesting that firms
might not be willing to provide proprietary survey methodology
information to advisers); MFA/AIMA Comment Letter I; IAA Comment
Letter; AIC Comment Letter.
    \540\ See, e.g., Blackrock Comment Letter; AIC Comment Letter.
    \541\ See IAA Comment Letter.
---------------------------------------------------------------------------

    The first provision of the disclosure requirement--the date on
which the rating was given and the period of time upon which the rating
was based--will assist investors in evaluating the relevance of the
rating. Ratings from an earlier date, or that are based on information
from an earlier period, may not reflect the current state of an

investment adviser's business. An advertisement that includes an older
rating would be misleading without clear and prominent disclosure of
the rating's date.\542\
---------------------------------------------------------------------------

    \542\ In addition, an adviser would be required to provide
contextual disclosures of subsequent, less-favorable performance in
the rating, if applicable. See final rule 206(4)-1(a).
---------------------------------------------------------------------------

    The second provision of the disclosure requirement--the identity of
the third party that created the rating--is important because it will
provide investors with the opportunity to assess the qualifications and
credibility of the rating provider. Investors can look up a third party
by name and find relevant information, if available, about the third
party's qualifications and can form their own opinions about
credibility.
    The final provision of the disclosure requirement--that
compensation has been provided directly or indirectly by the adviser in
connection with obtaining or using the third-party rating--provides
consumers with important context for weighing the relevance of the
statement in light of the compensation incentive.\543\ Although the
final rule uses the term ``compensation,'' this term continues to refer
to cash and non-cash compensation, as proposed. Similarly, the final
rule replaces the phrase ``by or on behalf'' with ``directly or
indirectly.'' As discussed above, this reflects a non-substantive
change to use a phrase that we believe is commonly understood in the
industry.\544\
---------------------------------------------------------------------------

    \543\ In many cases, third-party ratings are developed by
relying significantly on questionnaires or client surveys and
involve different compensation models. For example, some investment
advisers compensate the third-party ratings firm for the right to
include the ratings or rankings that are calculated as a result of
the survey in their advertisements. Other investment advisers
compensate the third-party ratings firm to be included in the
initial pool of advisers from which the rating or ranking is
determined.
    \544\ See supra section II.A.
---------------------------------------------------------------------------

    While the final rule explicitly requires these three disclosures,
they would not cure a rating that could otherwise be false or
misleading under the final rule's general prohibitions or under the
general anti-fraud provisions of the Federal securities laws. For
example, where an adviser's advertisement references a recent rating
and discloses the date, but the rating is based upon on an aspect of
the adviser's business that has since materially changed, the
advertisement would be misleading. Likewise, an adviser's advertisement
would be misleading if it indicates that the adviser is rated highly
without disclosing that the rating is based solely on a criterion, such
as assets under management, that may not relate to the quality of the
investment advice.`

E. Performance Advertising

    The final rule's general prohibitions apply to advertisements that
include performance results (``performance advertising''), as proposed.
We are adopting specific requirements and restrictions for performance
advertising, with some changes from the proposal as described below. We
continue to believe that performance advertising raises special
concerns that warrant additional requirements and restrictions under
the final marketing rule.\545\ In particular, the presentation of
performance could lead reasonable investors to unwarranted assumptions
and thus would result in a misleading advertisement.\546\ Some
commenters objected to the proposed rule's specific performance
advertising provisions, favoring relying only on the rule's general
prohibitions for non-retail investors.\547\ However, commenters
generally did not advocate for the removal of the performance
advertising provisions as a whole. After considering comments, we
remain convinced that additional protections should apply to
advertisements that include performance results.
---------------------------------------------------------------------------

    \545\ See 2019 Proposing Release, supra footnote 7, at text
accompanying n. 181.
    \546\ For example, investors may rely particularly heavily on
advertised performance results in choosing whether to hire or retain
an investment adviser or invest in a private fund managed by the
adviser. This reliance may be misplaced to the extent that an
investor considers past performance achieved by an investment
adviser to be predictive of the results that the investment adviser
will achieve for the investor.
    \547\ See, e.g., MFA/AIMA Comment Letter I; AIC Comment Letter
I.
---------------------------------------------------------------------------

    We proposed several requirements for all advertisements that
include performance advertising. Specifically, under our proposal, an
advertisement could not: (i) Include gross performance, unless the
advertisement provided or offered to provide a schedule of fees and
expenses deducted to calculate net performance (the ``proposed schedule
of fees requirement''); (ii) contain any statement that the performance
results have been approved or reviewed by the Commission (the
``Commission approval requirement''); and (iii) provide related,
extracted, or hypothetical performance without meeting specific
conditions.\548\ For Retail Advertisements,\549\ our proposal also
would have required that: (i) Any presentation of gross performance
also include net performance, subject to conditions (the ``net
performance requirement''); and (ii) any performance results of a
portfolio or composite aggregation of related portfolios include
performance results for one-, five-, and ten-year periods, subject to
conditions (the ``time period requirement'').\550\ As discussed in more
detail below, the final rule substantially adopts the proposed rule's
requirements, and applies them to all advertisements that include
performance advertising. Unlike the proposed rule, the final rule does
not provide separate requirements for performance advertising in Retail
Advertisements and Non-Retail Advertisements and will not include the
proposed schedule of fees requirement.
---------------------------------------------------------------------------

    \548\ Proposed rule 206(4)-1(c)(1).
    \549\ We proposed to define clients and investors that are
``qualified purchasers'' or ``knowledgeable employees'' as ``Non-
Retail Persons'' and to define all other clients and investors as
``Retail Persons.'' See proposed rule 206(4)-1(e)(8) and (14).
Similarly, the proposed rule distinguished between advertisements
for which an adviser has adopted and implemented policies and
procedures reasonably designed to ensure that the advertisements are
disseminated solely to Non-Retail Persons as ``Non-Retail
Advertisements'' and all other advertisements as ``Retail
Advertisements.'' See proposed rule 206(4)-1(e)(7) and (13).
    \550\ Proposed rule 206(4)-1(c)(2).
---------------------------------------------------------------------------

1. Net Performance Requirement; Elimination of Proposed Schedule of
Fees Requirement
    The final rule will prohibit any presentation of gross performance
in an advertisement unless the advertisement also presents net
performance (i) with at least equal prominence to, and in a format
designed to facilitate comparison with, the gross performance; and (ii)
calculated over the same time period, and using the same type of return
and methodology as, the gross performance.\551\ The final rule applies
the net performance requirement to all advertisements, not only to
Retail Advertisements and, in turn, eliminates the proposed schedule of
fees requirement.\552\ We discuss below the benefits of expanding the
net performance requirement to all performance advertisements in light
of the removal of the proposed schedule of fees requirement, and the
anticipated effects on advisers.
---------------------------------------------------------------------------

    \551\ Final rule 206(4)-1(d)(1).
    \552\ Id.
---------------------------------------------------------------------------

    Some commenters supported our proposal to require advisers that
present gross performance in Retail Advertisements to present net
performance.\553\ They agreed that presentations of net performance
help demonstrate the effect that fees and expenses will have on future
performance. One commenter also stated that providing net performance
information to Non-Retail Persons alerts

them to the fact that fees and expenses may significantly reduce
performance.\554\
---------------------------------------------------------------------------

    \553\ See Consumer Federation Comment Letter; CFA Institute
Comment Letter; Proskauer Comment Letter. The majority of commenters
who responded via the Investor Feedback Flyer marked net performance
results as ``Very Important.''
    \554\ See NYC Bar Comment Letter (expressing this idea in the
context of its overall argument that the rule should not require an
adviser to provide (or offer to provide) a schedule of fees and
expenses to Non-Retail Persons when also presenting net
performance).
---------------------------------------------------------------------------

    Some commenters also supported our proposal to allow advisers to
exclude net performance in Non-Retail Advertisements, stating that Non-
Retail Persons are often not at risk of being misled by gross
performance.\555\ However, another commenter stated that many Non-
Retail Persons investing in private funds prefer to receive both net
and gross performance results in advertisements because it provides an
opportunity to cross check the investors' net performance calculations
against advisers' calculations.\556\
---------------------------------------------------------------------------

    \555\ See, e.g., IAA Comment Letter; Proskauer Comment Letter
(stating that for Non-Retail Persons, disclosure that gross
performance is gross and not net is sufficient); CFA Institute
Comment Letter; MFA/AIMA Comment Letter I; Blackrock Comment Letter.
    \556\ See ILPA Comment Letter.
---------------------------------------------------------------------------

    In addition, while some commenters supported permitting different
performance presentations in Retail and Non-Retail Advertisements,\557\
other commenters stated that it could create operational,
administrative, and compliance burdens for advisers, and significant
potential for errors.\558\ Some commenters stated that advisers would
face difficulties in controlling the distribution of Non-Retail
Advertisements pursuant to policies and procedures that would be
required under the proposal.\559\ A few commenters also raised concerns
that in some cases Retail and Non-Retail Persons may invest in the same
fund, but may receive different types or levels of information because
of the proposed rule's bifurcated approach.\560\
---------------------------------------------------------------------------

    \557\ See, e.g., CFA Institute Comment Letter; Consumer
Federation Comment Letter.
    \558\ See, e.g., NYC Bar Comment Letter; NSCP Comment Letter;
AIC Comment Letter I; NAPFA Comment Letter; ACG Comment Letter.
    \559\ See, e.g., NSCP Comment Letter; IAA Comment Letter
(stating that prospective investors typically do not provide
information about their retail or non-retail status at the marketing
stage, and stating that in the case of non-U.S. investors, this
information is generally not gathered at any stage).
    \560\ See Ropes & Gray Comment Letter; Association for Corporate
Growth Comment Letter. For example, a private fund that relies on
section 3(c)(1) of the Investment Company Act may have investors
that qualify as Retail and Non-Retail Persons under the proposed
amendments to the advertising rule. Retail Persons would receive
different disclosures under the proposal, raising the possibility of
unequal treatment and potential questions about fair disclosure. See
proposed rule 206(4)-1(c)(1) and (2).
---------------------------------------------------------------------------

    After considering comments, we believe that the net performance
requirement is reasonably designed to prevent all types of prospective
clients and private fund investors from being misled by the
presentation of gross performance in an advertisement. Presenting gross
performance alone in this context may imply that investors received the
full amount of the presented returns, when the fees and expenses paid
in connection with the investment adviser's investment advisory
services would reduce the returns to investors. Presenting gross
performance alone also may be misleading to the extent that amounts
paid in fees and expenses are not deducted and thus not compounded in
calculating the returns. In addition, we believe that presenting net
performance in all advertisements will help illustrate for investors
the effect of fees and expenses on the advertised performance results
and allow all investors to compare the adviser's performance
presentation with their own calculations, if applicable. We do not
believe the burden will be considerable given that many advisers
already present net performance.\561\
---------------------------------------------------------------------------

    \561\ See CFA Institute Comment Letter.
---------------------------------------------------------------------------

    Given the operational complexity and challenges that commenters
noted, as well as changes we are making to the final rule to streamline
the performance presentation requirements for all advisers, we are
persuaded that the rule should no longer provide different flexibility
for advertisements to Non-Retail Persons. Accordingly, the final rule
implements changes from the proposed rule that we believe, when viewed
as a whole, simplify the rule's compliance for all advisers, while
preserving and promoting protection for all investors. In particular,
we are eliminating the proposed schedule of fees requirement.
Commenters stated that this requirement could be overly burdensome for
advisers and may not provide relevant information to investors.\562\
Some commenters also stated that Non-Retail Persons are in a position
to negotiate for appropriately tailored disclosures based on their
particular needs.\563\ While one commenter disagreed, arguing that
investors in private funds (including Non-Retail Persons) sometimes
have difficulty obtaining information regarding fees and expenses for
complex products,\564\ we believe requiring net performance for all
advertisements with appropriate disclosures will alert investors to the
effect of fees on an adviser's performance results.
---------------------------------------------------------------------------

    \562\ See, e.g., MFA/AIMA Comment Letter I; IAA Comment Letter;
CFA Institute Comment Letter (stating that they do not believe it is
feasible for an adviser that presents gross returns to provide the
proposed fee schedule, but that advisers should disclose certain
information about fees a client will pay).
    \563\ See MFA/AIMA Comment Letter I; NYC Bar Comment Letter.
    \564\ See ILPA Comment Letter.
---------------------------------------------------------------------------

    As proposed, the final rule will not prescribe disclosure
requirements for net and gross performance presentations. Instead, an
adviser would need to comply with the final rule's general
prohibitions. Comments were mixed on this aspect of the proposal.\565\
We continue to believe, however, that advisers should evaluate the
particular facts and circumstances that may be relevant to investors,
including the assumptions, factors, and conditions that contributed to
the performance, and include appropriate disclosures or other
information such that the advertisement does not violate the
prohibitions in paragraph (a) of the final rule or other applicable
law. Depending on the facts and circumstances, disclosures may include:
(1) The material conditions, objectives, and investment strategies used
to obtain the results portrayed; (2) whether and to what extent the
results portrayed reflect the reinvestment of dividends and other
earnings; (3) the effect of material market or economic conditions on
the results portrayed; (4) the possibility of loss; and (5) the
material facts relevant to any comparison made to the results of an
index or other benchmark.\566\
---------------------------------------------------------------------------

    \565\ See, e.g., NAPFA Comment Letter (opposing additional
disclosure requirements); NRS Comment Letter (supporting additional
disclosure requirements). See also ILPA Comment Letter (requesting
that the Commission incorporate specific disclosures for non-retail
investors reviewing private equity fund performance advertising).
    \566\ See 2019 Proposing Release, supra footnote 7, at nn.191-
195.
---------------------------------------------------------------------------

a. Definition of Gross Performance
    Similar to the proposal, both ``gross performance'' and ``net
performance'' will be defined by reference to a ``portfolio,'' which is
defined as ``a group of investments managed by the investment adviser''
and can include ``an account or private fund.'' \567\ Under the final
rule, ``gross performance'' is defined to mean the performance results
of a portfolio (or portions of a portfolio that are included in
extracted performance, if applicable) before the deduction of all fees
and expenses that a client or investor has paid or would have paid in
connection with the investment adviser's investment advisory services
to the relevant

portfolio.\568\ We are adopting the definition of gross performance as
proposed, with one change to require, as a commenter requested, that
advisers that show extracted performance in accordance with the final
marketing rule must show net and gross performance for the applicable
subset of investments extracted from a portfolio.\569\ This change
clarifies that gross performance applies not only to an entire
portfolio but also to a portion of a portfolio that is included in
extracted performance.
---------------------------------------------------------------------------

    \567\ Final rule 206(4)-1(e)(11). See also proposed rule 206(4)-
1(e)(10).
    \568\ Final rule 206(4)-1(e)(7).
    \569\ See CFA Institute Comment Letter. See infra section II.E.5
(discussing extracted performance).
---------------------------------------------------------------------------

    Gross performance does not show the impact of all fees and expenses
that the adviser's existing investors have borne or that prospective
investors would bear, which can be relevant to an evaluation of the
investment experience of the adviser's advisory clients and/or
investors in private funds advised by the investment adviser.\570\
While commenters generally supported the proposed definition of gross
performance, some requested that we clarify the types of fees and
expenses advisers must deduct in calculating gross performance.\571\
For example, some commenters requested we specify that gross returns
should reflect the deduction of transaction costs, if any exist.\572\
One of these commenters also requested that we add a definition for
``pure gross returns'' (i.e., returns that do not reflect the deduction
of any transaction costs), and require advisers to make additional
disclosures when presenting pure gross returns in advertisements.\573\
The same commenter requested that we clarify that advisory fees paid to
underlying investment vehicles must be deducted from gross performance.
---------------------------------------------------------------------------

    \570\ See 2019 Proposing Release, supra footnote 7, at text
accompanying nn.235-236.
    \571\ See, e.g., IAA Comment Letter; CFA Institute Comment
Letter.
    \572\ See IAA Comment Letter (recommending for all cases where
an investment adviser has discretion and is responsible for the
execution of client transactions); CFA Institute Comment Letter
(recommending for all presentations of gross returns other than
those the adviser describes as ``pure gross returns'').
    \573\ CFA Institute Comment Letter (``Pure gross returns are
commonly used when transaction costs are bundled with investment
management fees, such as in a wrap fee arrangement.''). This
commenter also requested that we clarify whether returns of accounts
that pay zero commissions are gross returns or pure gross returns.
---------------------------------------------------------------------------

    Like the proposed rule, the final rule does not prescribe any
particular calculation of gross performance. For example, many private
funds use money-weighted returns instead of time-weighted returns.\574\
Under the final rule, advisers may use the type of returns appropriate
for their strategies provided that the usage does not violate the
rule's general prohibitions, and, if applicable, subject to the
requirements discussed below.\575\ We continue to believe that, because
of the variation among types of advisers and investments, prescribing
the calculation could unduly limit the ability of advisers to present
performance information that they believe would be most relevant and
useful to an advertisement's audience. However, if an investment
adviser calculates the performance of a portfolio in part by deducting
transaction fees and expenses, but deducts no other fees or expenses,
then such performance would be ``gross performance.'' If an investment
adviser's calculation of performance reflects the deduction of advisory
fees paid to an underlying investment vehicle before the deduction of
all fees and expenses that a client or investor has paid or would have
paid in connection with the investment adviser's investment advisory
services to the relevant portfolio, then such performance would be
``gross performance.''
---------------------------------------------------------------------------

    \574\ See, e.g., CFA Institute Comment Letter.
    \575\ See, e.g., supra section II.B; infra section II.E.
---------------------------------------------------------------------------

    It would be misleading to present gross performance information
without providing appropriate disclosure about gross performance,
taking into account the particular facts and circumstances of the
advertised performance. Advisers generally should describe the type of
performance return presented in the advertisement. For example, an
advertisement may or may not present the performance of a portfolio
using a return that accounts for the cash flows into and out of the
portfolio. In either case, under the final rule, an adviser generally
should disclose what elements are included in the return presented so
that the audience can understand, for example, how it reflects cash
flow and other relevant factors. Similarly, if an adviser's
presentation of gross performance does not reflect the deduction of
transaction fees and expenses, an adviser should disclose that fact to
avoid being misleading, if it would not be clear to the investor from
the context of the advertisement.\576\
---------------------------------------------------------------------------

    \576\ Even though we are not adopting a definition of ``pure
gross performance,'' as one commenter suggested, we believe that any
adviser that presents such performance results in addition to gross
performance and net performance should identify pure gross returns
and disclose that pure gross returns do not reflect the deduction of
transaction costs, to avoid misleading recipients of the
advertisement.
---------------------------------------------------------------------------

b. Definition of Net Performance
    We are adopting the definition of net performance as proposed, with
some modifications. First, as with gross performance and for the same
reasons, the final rule provides that net performance applies not only
to an entire portfolio but also to a portion of a portfolio that is
included in extracted performance. Second, we are specifying when
advisers may exclude certain custodian fees paid to third parties.
Third, we are prescribing some aspects of the calculation of net
performance using model fees.
    The final rule defines ``net performance'' to mean, in part, the
performance results of a portfolio (or portions of a portfolio that are
included in extracted performance, if applicable) after the deduction
of all fees and expenses that a client or investor has paid or would
have paid in connection with the investment adviser's investment
advisory services to the relevant portfolio.\577\ Once an adviser
establishes the ``portfolio'' for which performance results are
presented, the adviser must determine the fees and expenses borne by
the owner of the portfolio and then deduct those to establish the ``net
performance.''
---------------------------------------------------------------------------

    \577\ Final rule 206(4)-1(e)(10).
---------------------------------------------------------------------------

    The final rule includes a non-exhaustive list of the types of fees
and expenses to be considered in preparing net performance that is
identical to the proposal.\578\ This list includes, if applicable,
advisory fees, advisory fees paid to underlying investment vehicles,
and payments by the investment adviser for which the client or investor
reimburses the investment adviser. It illustrates fees and expenses
that clients or investors bear in connection with the services they
receive. In addition, ``net performance'' may exclude custodian fees
paid to a bank or other third-party organization for safekeeping funds
and securities. Finally, the final rule permits the use of a model fee
in calculating net performance in an advertisement, subject to
conditions.
---------------------------------------------------------------------------

    \578\ See proposed rule 206(4)-1(e)(6).
---------------------------------------------------------------------------

    A few commenters supported the proposed definition of net
performance.\579\ Some commenters, however, requested we prescribe
additional requirements for net performance calculations, including
specific requirements for certain private funds.\580\ For example, one
commenter

recommended that, when clients cannot ``opt out'' of custody or other
administrative costs, the rule should expressly require the adviser to
deduct these fees and costs when presenting net returns of a specific
pooled investment vehicle.\581\ This commenter requested that we
clarify that when presenting net performance of a specific pooled fund,
advisers must deduct administrative fees, as required when complying
with the CFA Institute's Global Investment Performance Standards
(``GIPS standards''). Some commenters supported our proposal not to
prescribe specific calculations, stating that there is no single
correct way to calculate returns.\582\ Some of these commenters also
requested we clarify that net performance calculations in
advertisements must reflect the deduction of any transaction costs and
investment advisory fees (including any performance-based fees or
carried interest). One commenter requested clarification that net
performance fees exclude taxes on gains generated in a portfolio.\583\
---------------------------------------------------------------------------

    \579\ See IAA Comment Letter; MFA/AIMA Comment Letter I; NRS
Comment Letter.
    \580\ See Consumer Federation Comment Letter (stating that the
Commission should require advisers to comply with a uniform set of
principles when calculating performance). See also CFA Institute
Comment Letter; ILPA Comment Letter (both letters discussing
particular concerns regarding private equity funds).
    \581\ See CFA Institute Comment Letter.
    \582\ See, e.g., IAA Comment Letter; NRS Comment Letter.
    \583\ See Resolute Comment Letter.
---------------------------------------------------------------------------

    As proposed, the final rule does not prescribe any particular
calculation of net performance. We believe that prescribing the
calculation of net performance could unduly limit the ability of
advisers to present performance information that they believe would be
most relevant and useful to an advertisement's audience. Therefore, the
final rule's definition continues to include a non-exhaustive list of
the types of fees and expenses to be considered in preparing net
performance. We decline, however, to enumerate all potential private
fund fees and expenses, as one commenter suggested.\584\ Instead, the
final rule's definition of net performance requires the deduction of
private fund fees and expenses that the investor has paid or would have
paid in connection with the investment adviser's investment advisory
services to the relevant fund.
---------------------------------------------------------------------------

    \584\ See ILPA Comment Letter.
---------------------------------------------------------------------------

    However, we are clarifying in response to some commenters that any
adviser that deducts applicable transaction fees and expenses, or
advisory fees paid to an underlying investment vehicle, when
calculating gross performance should also do so for net performance. We
are also clarifying that, under the final rule's definition of net
performance, advisory fees include performance-based fees and
performance allocations that a client or investor has paid or would
have paid in connection with the investment adviser's investment
advisory services to the relevant portfolio. With respect to
administrative fees and expenses that a commenter raised, whether a
client or investor pays them in connection with the investment
adviser's advisory services (and therefore they must be deducted)
depends on the facts and circumstances. For example, if an adviser
agrees to bear certain administrative fees as a result of negotiations
with investors in the private fund, or if an investor agrees to
directly bear them, we do not believe that those fees should be
included in the calculation of net performance. In response to a
commenter discussed above, we believe that capital gains taxes paid
outside of the portfolio are not fees and expenses that a client or
investor has paid or would have paid in connection with the investment
adviser's investment advisory services (and are therefore not required
to be deducted in the calculation of net performance).\585\
---------------------------------------------------------------------------

    \585\ See Resolute Comment Letter.
---------------------------------------------------------------------------

    In addition, as proposed, the definition of net performance refers
to the deduction of all fees that an investor ``has paid or would have
paid'' in connection with the services provided. That is, where
hypothetical performance is permissibly advertised under the final
rule, net performance should reflect the fees and expenses that ``would
have'' been paid if the hypothetical performance had been achieved by
an actual portfolio.\586\
---------------------------------------------------------------------------

    \586\ Final rule 206(4)-1(e)(10).
---------------------------------------------------------------------------

c. Deduction of Custodian Fees Paid to a Bank or Other Third-Party
Organization
    Under the final rule, presentation of ``net performance'' in an
advertisement may exclude custodian fees paid to a bank or other third-
party organization for safekeeping funds and securities, as
proposed.\587\ We understand that advisory clients commonly select and
directly pay custodians, and in such cases, advisers may not have
knowledge of the amount of such custodian fees to deduct for purposes
of establishing net performance.
---------------------------------------------------------------------------

    \587\ Final rule 206(4)-1(e)(10)(i). See proposed rule 206(4)-
1(e)(6)(iii).
---------------------------------------------------------------------------

    One commenter supported this treatment for non-pooled investment
vehicles, stating that the rule should not require an adviser to
reflect the deduction of custodian fees when clients select their
custodians.\588\ However, this commenter also recommended that the rule
expressly require custody fee deduction if a client cannot ``opt-out''
of paying those fees.
---------------------------------------------------------------------------

    \588\ See CFA Institute Comment Letter. See also IAA Comment
Letter (supporting permitting the exclusion of custodian fees,
generally).
---------------------------------------------------------------------------

    After considering comments, we continue to believe that the final
rule should allow an adviser to exclude custodian fees paid to third
parties given a client may control custodian selection (and
accompanying fees). We believe that this approach is appropriate even
where advisers know the amount of custodian fees--e.g., where the
adviser recommended the custodian. However, to the extent a client or
investor pays an adviser, rather than a third party, for custodial
services, then the adviser must deduct the custodial fee in calculating
net performance for purposes of the advertisement. This will be the
case, for example, when an adviser provides custodial services with
respect to funds or securities for which the performance is presented
and charges a separate fee for those services, or when custodial fees
are included in a single fee paid to the adviser, such as if they are
included in wrap fee programs. This would also be the case when a
client or investor reimburses the investment adviser for third-party
custodian fees.
d. Deduction of Model Fees
    Under the final rule, presentation of ``net performance'' in
advertisements may reflect the deduction of a model fee when doing so
would result in performance figures that are no higher than if the
actual fee had been deducted, as proposed.\589\ This will result in
performance that is no higher than if the adviser deducted actual fees.
For example, in a private fund with multiple series or classes where
each series or class has different fees, an adviser may display the
performance of the highest fee class. We did not receive any comments
on this aspect of the proposal. Advisers may choose this modification
to ease calculating net performance. When an adviser advertises net
performance that is no higher than if deducting actual fees, there
appears to be little chance of misleading the audience into believing
that investors received better returns than they actually did.\590\
---------------------------------------------------------------------------

    \589\ Final rule 206(4)-1(e)(10)(ii)(A).
    \590\ If the fee to be charged to the intended audience is
anticipated to be higher than the actual fees charged, the adviser
must use a model fee that reflects the anticipated fee to be charged
in order not to violate the rule's general prohibitions. See id. See
also final rule 206(4)-1(a).

---------------------------------------------------------------------------

    The rule also will allow net performance to reflect the deduction
of a model fee that is equal to the highest fee charged to the intended
audience to whom the advertisement is disseminated, similar to as
proposed.\591\ We continue to believe that allowing advisers to present
net performance that reflects the deduction of this type of model fee
may be useful for advisers who manage a particular strategy for
different types of investors. For example, under the final rule, an
adviser managing several accounts, each using the same investment
strategy, could present in an advertisement the gross and net
performance of all such accounts. For net performance, the adviser may
deduct a model fee equal to the highest fee charged to retail investors
(assuming an intended retail audience). This provision of the
definition of net performance does not permit net performance that
reflects a model fee that is not available to the intended audience.
One commenter requested that we permit advisers to deduct model fees
that reflect either the highest fee that was charged historically or
the highest potential fee that it will charge the investors or clients
receiving the particular advertisement, provided the performance is
accompanied by appropriate disclosure.\592\ Under the final rule, an
adviser does not have discretion to choose the model fee to use in
calculating net performance--it must use the higher of these two model
fees.\593\
---------------------------------------------------------------------------

    \591\ Final rule 206(4)-1(e)(10)(ii)(B). The final rule reflects
one change from the proposal, in response to a commenter that
requested that we conform the phrase ``relevant audience'' in the
proposed rule's model fee provision, to other parts of the rule. See
CFA Institute Comment Letter. We agree, and have revised the
provision to refer to the ``intended audience to whom the
advertisement is disseminated.''
    \592\ See MMI Comment Letter.
    \593\ See supra footnote 590 (discussing the final rule's first
model fee provision and the general prohibitions). As discussed
above, net performance that reflects a model fee that is not
available to the intended audience is not permitted under the final
rule's second model fee provision.
---------------------------------------------------------------------------

    Another commenter supported this provision, but stated that where
an adviser has not yet managed an actual account for clients or
investors similar to the relevant audience, the rule should permit the
adviser to deduct a model fee that is equal to the highest fee to be
charged to relevant audience.\594\ We agree, and the final rule
requires the use of such a model fee.\595\
---------------------------------------------------------------------------

    \594\ See CFA Institute Comment Letter.
    \595\ See final rule 206(4)-1(e)(10) (referring, in the
definition of net performance, to the deduction of all fees and
expenses that a client or investor ``would have paid''). An adviser
could use such a model fee pursuant to the second model fee
provision. Final rule 206(4)-1(e)(10)(ii)(B).
---------------------------------------------------------------------------

    Another commenter expressed concern that the proposed rule would
require an adviser to overstate its normal fee, when deducting a model
fee, because the adviser had previously charged a client a higher fee
for unique relationship servicing requirements.\596\ If an adviser
charged a higher fee for unique services that it does not intend to
provide in the future to the intended audience for the advertisement,
the portfolio may be outside of the scope of the adviser's performance
calculation. For example, it may not meet the criteria for a related
portfolio and, in that case, should not be included in the calculation
of related performance.
---------------------------------------------------------------------------

    \596\ See Wellington Comment Letter.
---------------------------------------------------------------------------

    Similarly, one commenter stated that the rule should not require an
adviser to deduct a model fee when presenting performance of a
portfolio of a non-fee paying client.\597\ This commenter requested
that we instead permit such adviser to calculate net performance
returns using actual investment management fees (i.e., zero fees) and
disclose the percentage of assets under management represented by non-
fee paying portfolios. Further, this commenter stated that the GIPS
standards do not require the application of a model fee to non-fee-
paying portfolios to calculate net returns, and that requiring it in
the final rule may result in many advisers being required to restate
historical performance. We believe this presentation could mislead
investors to believe that they could receive returns as high as non-fee
paying clients, even with the commenter's proposed disclosure. In the
2019 Proposing Release, we expressed similar concerns with presenting
related performance of accounts with fee waivers or reduced rates
unavailable to unaffiliated clients of the adviser.\598\ Accordingly,
to satisfy the final rule's general prohibitions, an adviser generally
should apply a model fee that reflects either the highest fee that was
charged historically or the highest potential fee that it will charge
the investors or clients receiving the particular advertisement.
---------------------------------------------------------------------------

    \597\ See CFA Institute Comment Letter.
    \598\ See 2019 Proposing Release, supra footnote 7, at text
following footnote 288.
---------------------------------------------------------------------------

    One commenter requested clarification that model fees also may
exclude custodian fees that would be paid to a bank or other third-
party organization.\599\ We agree that an adviser that uses a model fee
in accordance with the final rule may also exclude custodian fees if
otherwise permitted under the final rule.
---------------------------------------------------------------------------

    \599\ See IAA Comment Letter.
---------------------------------------------------------------------------

e. Conditions for Presentation
    As proposed, the final rule will require that net performance be
presented in the advertisement with at least equal prominence to, and
in a format designed to facilitate comparison with, the gross
performance, and calculated over the same time period, and using the
same type of return and methodology as, the gross performance.\600\
These conditions are designed to help ensure that net performance
effectively conveys to the audience information about the effect of
fees and expenses on the relevant performance. A calculation of net
performance over a different time period or using a different type of
return or methodology would not necessarily provide information about
the effect of fees and expenses. Only one commenter discussed this
condition and recommended that the Commission encourage advisers to be
certain that the layout of the information presented is not
misleading.\601\ As described above, advertisements containing any
performance presentation will be subject to the rule's general
prohibitions.
---------------------------------------------------------------------------

    \600\ Final rule 206(4)-1(d)(1)(i) and (ii).
    \601\ See CFA Institute Comment Letter.
---------------------------------------------------------------------------

2. Prescribed Time Periods
    Our final rule also adopts the proposed one-, five-, and ten-year
time period requirement for the presentation of performance results in
an advertisement, with some modifications from the proposed rule.
First, the final rule applies the time period requirement to all
advertisements (with a new exception for private funds), rather than
only to Retail Advertisements, as proposed.\602\ Second, prescribed
time periods must end on a date that is no less recent than the most
recent calendar year-end, rather than the most recent practicable date,
as proposed.\603\ As proposed, this time period requirement will apply
to all performance results, including gross and net performance, and
including any composite aggregation of related portfolios. Also, as
proposed, if the relevant portfolio did not exist for a particular
prescribed period, then an adviser must present performance information
for the life of the portfolio.\604\ For example, if a portfolio has
been in existence for seven years, then the adviser must show

performance results for one- and five-year periods, as well as for the
seven-year period. An investment adviser is free to include performance
results for other periods as long as the advertisement also presents
results for the prescribed time periods, and otherwise complies with
the requirements of the final rule.\605\
---------------------------------------------------------------------------

    \602\ Final rule 206(4)-1(d)(2). See proposed rule 206(4)-
1(c)(2)(ii).
    \603\ See id.
    \604\ See id.
    \605\ For example, an adviser may present performance results
for three-year periods, which is a requirement for advisers that
claim compliance with the GIPS standards. See, e.g., CFA Institute
Comment Letter. We are not requiring a three-year period, however,
because we believe the time periods required under the final rule
already provide investors with sufficient information regarding
performance over varying time periods.
---------------------------------------------------------------------------

    The final rule also adopts the proposed requirement that the
prescribed time periods be presented with equal prominence in the
advertisement, so that an investor can observe the history of the
adviser's performance on a short-term and long-term basis.\606\ An
adviser may not highlight the single one-, five-, or ten-year period
that shows the best performance, instead of showing them in relation to
each other.
---------------------------------------------------------------------------

    \606\ Final rule 206(4)-1(d)(2).
---------------------------------------------------------------------------

    We believe this standardized presentation provides the audience
with insight into the experience of the investment adviser over set
periods that are likely to reflect how the advertised portfolio(s)
performed during different market or economic conditions. For
portfolios in existence for at least ten years, performance for that
period could provide investors with more complete information than only
performance over the most recent year. That performance may prompt
investors to seek additional information from advisers regarding the
causes of significant changes in performance over longer periods. Some
commenters supported this aspect of the proposal for this reason.\607\
These commenters also stated that this information would aid investors
in comparing different performance advertisements and reduce the risk
that advisers would present performance based on cherry-picked periods.
---------------------------------------------------------------------------

    \607\ See Consumer Federation Comment Letter; CFA Institute
Comment Letter; Fried Frank Comment Letter.
---------------------------------------------------------------------------

    Several commenters stated that the proposed time period requirement
for closed-end private funds, however, would be inappropriate and
confusing for investors, in part, because such performance (especially
five- and ten-year periods) may not exist for the fund advertised,
since private funds are often advertised to investors at early
stages.\608\ In addition, commenters stated that the performance of
private equity funds can vary substantially over the term of the fund
(with early years often negatively affected by organizational expenses
of the ``J-curve''), and that the presentation of performance over
prescribed time periods is therefore not useful to investors.\609\
Similarly, commenters noted that the presentation of performance using
an internal rate of return, as is typical with private equity funds, is
often not meaningful in the early years of the fund because the fund is
not fully invested, no investments have been harvested, and the new
investments likely have not changed in value.\610\
---------------------------------------------------------------------------

    \608\ See AIC Comment Letter I; Fried Frank Comment Letter; MFA/
AIMA Comment Letter I; IAA Comment Letter; Ropes & Gray Comment
Letter; NYC Bar Comment Letter.
    \609\ See, e.g., AIC Comment Letter; Fried Frank Comment Letter;
Ropes & Gray Comment Letter; IAA Comment Letter.
    \610\ See Fried Frank Comment Letter; MFA/AIMA Comment Letter I.
---------------------------------------------------------------------------

    In light of our decision not to distinguish the treatment of Retail
and Non-Retail Advertisements, and after considering comments, we agree
that requiring advisers to provide performance results of private funds
over one-, five-, and ten-year periods in advertisements will not
provide investors with useful insight into how the advertised
portfolio(s) performed during different market or economic conditions.
Our final rule therefore applies the time period requirement to all
performance advertisements, except for performance of a private
fund.\611\ An adviser may rely on this exception when displaying
performance advertising of any type of private fund, rather than only
when displaying performance advertising of private equity funds or
other closed-end private funds. We believe that it is appropriate to
except any private fund because there may be additional types of
private funds than those identified by commenters for which displaying
this information could be misleading. We decline to allow only certain
defined types of private funds to rely on this exception, given the
varied limitations that private funds may place on redemptions now and
in the future. We also do not believe the benefit of having advisers
parse the rule's requirements based on specific fund types would
justify the complexity. Further, although we are not mandating
presentation of performance for any specific time periods for these
funds, presentations of private fund performance are subject to the
general anti-fraud provisions of the Federal securities laws and the
general prohibitions in the final rule, including the prohibition of
including or excluding performance results, or presenting performance
time periods, in a manner that is not fair and balanced.\612\
---------------------------------------------------------------------------

    \611\ Final rule 206(4)-1(d)(2). See also final rule 206(4)-
1(e)(13) (defining private fund).
    \612\ See Fried Frank Comment Letter; Ropes & Gray Comment
Letter (discussing that when not using time-based performance, there
is a potential for investment advisers to cherry-pick only recent
performance results or strong performance years, or otherwise
mislead investors by using ``not meaningful'' to show performance
information).
---------------------------------------------------------------------------

    Other commenters stated that our proposal would create operational
difficulties for advisers that present annual returns as of the most
recent calendar year-end.\613\ A commenter stated that, for these
advisers, the proposal's requirement to present one-, five-, and ten-
year returns as of the ``most recent practicable date'' would require
that they continuously update their performance presentations
throughout the year.\614\ This commenter requested we permit annual
returns presented through the most recent calendar year-end. This
commenter also requested that the final rule align with the GIPS
standards by allowing advisers to present annual returns for the past
ten years (or since inception if the track record exists for less than
ten years) as of the most recent calendar year end, instead of one-,
five-, and ten-year annualized returns.
---------------------------------------------------------------------------

    \613\ See CFA Institute Comment Letter; IAA Comment Letter.
    \614\ CFA Institute Comment Letter. Cf. MMI Comment Letter
(requesting that our final rule permit advisers to present quarterly
performance results).
---------------------------------------------------------------------------

    We understand that, for some advisers, the most recent calendar
year-end may be the most recent practicable date. Our final rule
therefore requires that the prescribed time period end on a date that
is no less recent than the most recent calendar year-end. In selecting
time periods for purposes of an advertisement, an adviser may not
select the periods that show only the most favorable performance--e.g.,
presenting a five-year period ending on a particular date because that
five-year period showed growth while presenting a ten-year period
ending on a different date because that ten-year period showed growth.
Depending on the facts and circumstances, an adviser may be required to
present performance results as of a more recent date than the most
recent calendar year-end to comply with the rule's general
prohibitions.\615\ For example, it could be misleading for an adviser
to present performance returns as of the most recent calendar year-end
if more timely quarter-end performance is available and events have
occurred

since that time that would have a significant negative effect on the
adviser's performance. If more recent quarter-end performance data is
not available, the adviser should include appropriate disclosure about
the performance presented in the advertisement.
---------------------------------------------------------------------------

    \615\ See, e.g., final rule 206(4)-1(a)(6) (an advertisement may
not include or exclude performance results, or present performance
time periods, in a manner that is not fair and balanced).
---------------------------------------------------------------------------

    We are also clarifying that, for an adviser that provides
performance results in advertisements for periods other than one, five,
and ten years, the adviser is free to include such results as long as
the advertisement presents results for the final rule's required time
periods. Thus, an adviser that complies with the GIPS standards may
present annual returns for the past ten years (or since inception if
the track record exists for less than ten years) as of the most recent
calendar year end, in addition to performance results for the final
rule's required periods.
3. Statements About Commission Approval
    As proposed, the final rule prohibits any statement, express or
implied, that the calculation or presentation of performance results in
the advertisement has been approved or reviewed by the Commission in
any advertisement containing performance results.\616\ This approval
prohibition is intended to prevent advisers from representing that the
Commission has approved or reviewed the performance results, even when
the adviser is presenting performance results in accordance with the
rule. Furthermore, the final rule's general prohibitions have the
effect of prohibiting an adviser from stating or implying that any part
of an advertisement, and the advertisement as a whole, has been
approved or reviewed by the Commission.\617\ Our final rule prescribes
this condition specifically for advertisements containing performance
results because of the particular weight an investor would likely give
to performance results that it believes the Commission has reviewed or
vetted.
---------------------------------------------------------------------------

    \616\ Final rule 206(4)-1(d)(3).
    \617\ Final rule 206(4)-1(a)(3).
---------------------------------------------------------------------------

    We received few comments on this aspect of the proposed rule, with
one commenter supporting it and the other requesting clarification as
to whether this provision would prohibit advertisements that combine
performance results with summary information about an adviser's recent
SEC examination.\618\ We continue to believe that performance results
may lead to a heightened risk of creating unrealistic expectations in
an advertisement's audience. An express or implied statement that the
Commission has reviewed or approved the performance results could
advance such unrealistic expectations. For example, while potentially
true, a statement that ``performance results are prepared in compliance
with the Commission's requirements on performance presentations in
advertisements'' may mislead an investor into thinking that the
Commission has approved the results portrayed.\619\ Such a statement
could also be misleading to the extent it suggests that the Commission
has reviewed or approved more generally the investment adviser, its
services, its personnel, its competence or experience, or its
investment strategies and methods. Therefore, under the final rule,
advisers may not represent that the Commission has approved or reviewed
the performance results.\620\
---------------------------------------------------------------------------

    \618\ See, e.g., Mercer Comment Letter (supporting this aspect
of the proposed rule).
    \619\ Similarly, section 208(a) of the Act, states that it is
unlawful for a registered investment adviser to represent or imply
in any manner whatsoever that it has been sponsored, recommended, or
approved, or that his abilities or qualifications have in any
respect been passed upon by the United States or any agency or any
officer thereof.
    \620\ See also section 208(a) of the Act.
---------------------------------------------------------------------------

4. Related Performance
    The final rule will condition the use of ``related performance'' in
adviser advertisements, on the inclusion of all ``related portfolios.''
\621\ Under the final rule, however, an adviser may exclude related
portfolios if the advertised performance results are not materially
higher than if all related portfolios had been included, and the
exclusion does not alter the presentation of any applicable prescribed
time period. The final rule defines ``related performance'' as ``the
performance results of one or more related portfolios, either on a
portfolio-by-portfolio basis or as a composite aggregation of all
portfolios falling within stated criteria.'' \622\ It defines
``portfolio'' as ``a group of investments managed by the investment
adviser,'' and includes in the definition that ``[a] portfolio may be
an account or a private fund.'' \623\ It defines ``related portfolio''
as ``a portfolio with substantially similar investment policies,
objectives, and strategies as those of the services being offered in
the advertisement.'' \624\ The final rule's treatment of related
performance, including the conditions and definitions, is largely the
same as the proposal. We discuss the few differences from the proposal
below.
---------------------------------------------------------------------------

    \621\ Final rule 206(4)-1(d)(4). The presentation must also
comply with the rule's general prohibitions. See final rule 206(4)-
1(a).
    \622\ Final rule 206(4)-1(e)(14).
    \623\ Final rule 206(4)-1(e)(11). A portfolio also includes, but
is not limited to, a portfolio for the account of the investment
adviser or its advisory affiliate (as defined in the Form ADV
Glossary of Terms). See id.
    \624\ Final rule 206(4)-1(e)(15).
---------------------------------------------------------------------------

    Commenters broadly supported allowing advisers to present related
performance in adviser advertisements.\625\ They generally agreed that
related performance can be a valuable tool to assist an investor in
evaluating a particular investment adviser or investment strategy, and
that its use is consistent with industry practice. A few commenters
also generally supported the proposed rule's conditions for the
presentation of related performance.\626\ Others, however, described
the proposed conditions as overly prescriptive and stated that we
should address cherry-picking related portfolios solely through the
rule's general prohibitions, such as the ``fair and balanced''
provision.\627\ Another commenter stated that we should remove the
conditions and permit advisers to identify (and document) objective
criteria that they can apply on a consistent basis to exclude certain
types of accounts.\628\ Conversely, one commenter said we should
require composite performance without any exclusions of related
portfolios because allowing exclusions from composites would be
different from the GIPS standards that require composites to include
all portfolios that are managed in the composite's strategy.\629\
---------------------------------------------------------------------------

    \625\ See, e.g., MFA/AIMA Comment Letter I; Proskauer Comment
Letter; Comment Letter of Loan Syndications and Trading Association
(Feb. 10, 2020) (``LSTA Comment Letter''); MMI Comment Letter.
    \626\ See MFA/AIMA Comment Letter I (supporting the conditions
generally, but requesting that we also permit advisers to present
representative accounts that would not meet the proposed rule's
conditions); LSTA Comment Letter.
    \627\ See IAA Comment Letter; SIFMA AMG Comment Letter II; Ropes
& Gray Comment Letter.
    \628\ See SIFMA AMG Comment Letter II.
    \629\ See CFA Institute Comment Letter.
---------------------------------------------------------------------------

    We continue to believe that conditioning the presentation of
related performance in advertisements on the presentation of all
related portfolios (with limited exceptions) is necessary to prevent
investment advisers from including only related portfolios that have
favorable performance results or otherwise ``cherry-picking.'' We
believe our approach will provide advisers some flexibility in
presenting related portfolios, without permitting exclusion because of
poor performance. We believe this approach strikes the right balance
between commenters that advocated for relying solely on the rule's
general prohibition (and/or an adviser's own objective criteria), on
the

one hand, and requiring advisers to present all related performance, on
the other hand. Under the final rule, although we are permitting an
adviser to exclude related portfolios subject to conditions in the
final rule, an adviser may nonetheless present performance without the
exclusion of any related portfolios to comply with both the GIPS
standards and the final marketing rule.
    In a change from the proposed rule, the final rule will allow an
investment adviser to exclude from the presentation of related
performance in the advertisement one or more related portfolios so long
as the advertised performance results are ``not materially higher
than''--rather than ``no higher than''--if all related portfolios had
been included. One commenter recommended this change, stating that it
will not necessarily be clear whether performance is ``no higher''
because performance results may vary based on the time period
presented.\630\ Another commenter cautioned that, even with such
conditions, an adviser would have difficulty demonstrating compliance
for each period in its track record.\631\ Furthermore, this commenter
stated that an adviser would incur the burden of calculating
performance including all related portfolios in order to show that the
performance presented was ``no higher than'' or ``not materially higher
than'' if all related portfolios had been included.
---------------------------------------------------------------------------

    \630\ See IAA Comment Letter (``A firm may seek to exclude an
account that has a superior five-year return, but a poor one-year
return, or present the performance of a representative account that
has a superior one-year return, but a poor five-year return. In this
scenario, the advertised performance over five and ten years would
be lower, but the 1-year return would be higher. This practice may
be prohibited by the proposed rule because the 1-year return does
not satisfy the rule's requirements, even though the longer term
returns do satisfy the rule's requirements.''). See also CFA
Institute Comment Letter (noting the same issue but making a
different recommendation).
    \631\ See CFA Institute Comment Letter.
---------------------------------------------------------------------------

    We understand that an adviser will likely be required to calculate
the performance of all related portfolios to ensure that the exclusion
of certain portfolios from the advertisement meets the rule's
conditions. Because of the special concerns that performance
advertising raises, however, we believe that this burden is warranted
to prevent related performance advertising from misleading investors.
We believe that the modified condition we are adopting will achieve the
same policy goal as our proposed rule, but give advisers additional
flexibility to present related performance when there may be immaterial
differences in performance results depending on the methods of
calculation of returns or as between the different prescribed time
periods.\632\ Under the final rule, an adviser may meet this condition
if the results for one prescribed time period are no higher than if all
related portfolios had been included for that time period, and the
results for another prescribed time period are higher, but not
materially higher, than if all related portfolios had been included for
that time period. It may also meet this condition if the results for
any and all prescribed time periods are not materially higher than if
all related portfolios had been included for each time period.
---------------------------------------------------------------------------

    \632\ We are not prescribing a specific numerical or percentage
threshold for materiality or immateriality as part of this
requirement. Instead, based on the facts and circumstances, if the
results of excluding the related portfolio would be material to a
reasonable client or investor, the portfolio should not be excluded.
---------------------------------------------------------------------------

    As proposed, the exclusion for related portfolios is also subject
to the final rule's time period requirement for the presentation of
performance in advertisements.\633\ We did not receive any comments on
this condition. Related performance therefore cannot exclude any
related portfolio if doing so would alter the presentation of the
proposed rule's prescribed time periods.
---------------------------------------------------------------------------

    \633\ See final rule 206(4)-1(d)(4)(ii).
---------------------------------------------------------------------------

    Some commenters recommended that we permit advisers to advertise
one ``representative account,'' such as a flagship fund, without any
prescribed conditions or in addition to providing the performance
results of all related portfolios.\634\ Commenters generally describe
representative accounts as those that most closely resemble, or are
most representative of, the advertised portfolio's specific
strategy.\635\ A few commenters stated that permitting representative
accounts would provide flexibility to advisers that manage separate
accounts and may not maintain composites that cover all portfolios
managed to a specific strategy, and to smaller advisers that do not
have the resources to calculate the performance of a composite that
includes all those portfolios.\636\ One such commenter stated that
smaller advisers would therefore face challenges under the proposed
rule in demonstrating that the performance of a representative account
is no higher than if all related portfolios had been included.\637\
Others stated that permitting representative accounts would provide
investors with more pertinent information than under our proposed rule,
because they believe that prospective fund investors are generally less
interested in the results of the ancillary funds around that flagship
fund, and could find the additional information to be confusing.\638\
---------------------------------------------------------------------------

    \634\ See, e.g., IAA Comment Letter; Wellington Comment Letter;
MFA/AIMA Comment Letter I; CFA Institute Comment Letter.
    \635\ See Wellington Comment Letter; CFA Institute Comment
Letter. See also MFA/AIMA Comment Letter I (discussing their view
that ``investment advisers need some flexibility to recognize a
`flagship' fund for a given strategy and to treat that `flagship'
fund as the sole related portfolio in many instances.'').
    \636\ See IAA Comment Letter; CFA Institute Comment Letter.
    \637\ See IAA Comment Letter.
    \638\ See MFA/AIMA Comment Letter I; Wellington Comment Letter;
SIFMA AMG Comment Letter II.
---------------------------------------------------------------------------

    We are not convinced that the benefits of an adviser presenting in
an advertisement a single representative account that is not subject to
prescribed conditions would justify the risks of cherry-picking related
portfolios with higher-than-usual returns.\639\ We also believe the
materiality standard we are adopting helps to alleviate the burden on
advisers to present all related performance (subject to a conditional
exception). We therefore decline to make this suggested change to the
rule.
---------------------------------------------------------------------------

    \639\ Under our final rule, advisers may include performance
returns of a single portfolio (without also providing the
performance of other related portfolios) if the performance is not
materially higher than if all related portfolios had been included,
and the performance does not violate the rule's general
prohibitions.
---------------------------------------------------------------------------

    An adviser, however, may present the results of a single
representative account (such as a flagship fund) or a subset of related
portfolios alongside the required related performance so long as the
advertisement would otherwise comply with the general
prohibitions.\640\ In these circumstances, where the required related
performance is also presented in the advertisement, we believe the
concerns regarding cherry-picking a particular portfolio are mitigated.
In addition, as proposed, advisers may present related performance on a
portfolio-by-portfolio basis under the final rule. Advisers that manage
a small number of related portfolios may find a portfolio-by-portfolio
presentation to be the clearest way of demonstrating related
performance in their advertisements. Presenting related performance on
a portfolio-by-portfolio basis may illustrate for the audience the
differences in performance achieved by the investment adviser in
managing portfolios having substantially similar investment policies,
objectives, and strategies. A portfolio-by-portfolio presentation also
may best illustrate the differences in performance between a flagship
fund and other related portfolios in some cases.
---------------------------------------------------------------------------

    \640\ See Wellington Comment Letter.
---------------------------------------------------------------------------

    As in the proposal, presenting related performance on a portfolio-
by-portfolio

basis will be subject to the general prohibitions, including the
prohibition on omitting material facts necessary to make the
presentation, in light of the circumstances under which it was made,
not misleading. For example, an advertisement presenting related
performance on a portfolio-by-portfolio basis could be potentially
misleading if it does not disclose the size of the portfolios and the
basis on which the adviser selected the portfolios. The alternative for
presenting related performance, also as proposed, is as a composite
aggregation of all portfolios falling within stated criteria, which we
discuss below.
a. Related Portfolio
    Regarding presentations of related portfolios in advertisements,
the final rule is similar to the proposal in that it does not identify
or prescribe particular requirements for determining whether portfolios
are ``related'' beyond whether there are ``substantially similar''
investment policies, objectives, and strategies as those of the
services being offered in the advertisement. Some commenters also
requested clarification that ``related portfolio'' does not include the
performance results of the separately managed account or pooled
investment vehicle being offered.\641\ We agree that the offered
portfolio is not included in the definition of ``related portfolio.''
\642\
---------------------------------------------------------------------------

    \641\ See SIFMA AMG Comment Letter II; AIC Comment Letter; CFA
Institute Comment Letter.
    \642\ A portfolio with substantially similar investment
policies, objectives, and strategies as those of the services being
offered in the advertisement is a related portfolio. See final rule
206(4)-1(e)(15). Any performance presented in the advertisement,
whether or not related, must not violate the final rule's general
prohibitions, and the applicable requirements for the presentation
of performance. See final rule 206(4)-1(a) and (d).
---------------------------------------------------------------------------

    One commenter requested that we permit advisers to present
performance results of a private fund both with and without the effect
of any side pockets.\643\ Whether a side pocket should be considered
part of a portfolio or a separate portfolio and/or a related portfolio
subject to the final rule's conditions for presenting related
performance will be subject to the final rule's conditions for the
presentation of performance and the rule's general prohibitions.\644\
---------------------------------------------------------------------------

    \643\ See CFA Institute Comment Letter.
    \644\ See final rule 206(4)-1(a).
---------------------------------------------------------------------------

    A commenter also requested that we permit an adviser to exclude a
separately managed account that has similar investment policies,
objectives, and strategies to a private fund that the investment
adviser is offering, but is customized to reflect a client's investment
objectives and desired restrictions, and has fees and expenses that may
not be comparable to the private fund.\645\ Another commenter, however,
noted that each adviser should determine for itself whether portfolios
having client-specific constraints are ``substantially similar.'' \646\
---------------------------------------------------------------------------

    \645\ See AIC Comment Letter I.
    \646\ See Consumer Federation Comment Letter.
---------------------------------------------------------------------------

    Whether a portfolio is a ``related portfolio'' under the rule
requires a facts and circumstances analysis. An adviser may determine
that a portfolio with material client constraints or other material
differences, for example, does not have substantially similar
investment policies, objectives, and strategies and should not be
included as a related portfolio. On the other hand, different fees and
expenses alone would not allow an adviser to exclude a portfolio that
has a substantially similar investment policy, objective, and strategy
as those of the services offered.
    Two commenters also requested that the rule permit an adviser that
has advised multiple private funds over time to exclude earlier private
funds that the adviser determines are no longer relevant to investors,
even if these funds have substantially similar investment policies,
objectives, and strategies (and are therefore related portfolios).\647\
They stated that the performance of prior funds may not be relevant
because the successor fund is larger than previous funds and capable of
different types of investments, and that there may have been changed
market conditions and/or investment professional turnover. Under the
final rule, if the relevant financial markets or investment advisory
personnel have changed over time such that the investment policies,
objectives, and strategies of an adviser's earlier private funds are no
longer substantially similar to those of the fund being marketed, the
adviser would not be required to include the earlier private funds in
its related performance.
---------------------------------------------------------------------------

    \647\ See AIC Comment Letter I; Ropes & Gray Comment Letter.
---------------------------------------------------------------------------

    In a change from the proposal, the final rule refers to
presentation of related performance as ``a composite aggregation''--
rather than ``one or more composite aggregations''--``of all portfolios
within stated criteria.'' \648\ An adviser may use the same criteria to
construct any composites to meet the GIPS standards in order to satisfy
the ``substantially similar'' requirement of the final rule's
definition of ``related portfolio.'' \649\ However, in response to a
comment from the organization that developed and administers the GIPS
standards, our final rule clarifies that an adviser may only have one
composite aggregation for each stated set of criteria. We agree with
this commenter that the rule should not permit advisers to create more
than one composite aggregation of all portfolios falling within a
stated set of criteria.\650\ In addition, similar to the proposal, the
final rule does not prescribe specific criteria to define the relevant
portfolios but requires that once the criteria are established, all
related portfolios meeting the criteria are included in the composite.
---------------------------------------------------------------------------

    \648\ One commenter requested that we add a definition of
``composite'' that matches a commonly accepted industry term. See
CFA Institute Comment Letter. The final rule does not include a
definition for composite, because we understand that many investment
advisers already have criteria governing their creation and
presentation of composites.
    \649\ See 2019 Proposing Release, supra footnote 7, at n.280
(discussing that, for GIPS purposes, a composite is an aggregation
of portfolios managed according to a similar investment mandate,
objective, or strategy).
    \650\ See CFA Institute Comment Letter.
---------------------------------------------------------------------------

    As with the presentation of related performance on a portfolio-by-
portfolio basis in an advertisement, any presentation as a composite is
subject to the general prohibitions, including the prohibition on
omitting material facts necessary to make the presentation, in light of
the circumstances under which it was made, not misleading. For example,
an advertisement presenting related performance in a composite would be
false or misleading where the composite is represented as including all
portfolios in the strategy being advertised but excludes some
portfolios falling within the stated criteria or is otherwise
manipulated by the adviser. We also believe that omitting the criteria
the adviser used in defining the related portfolios and crafting the
composite could result in an advertisement presenting related
performance that is misleading.
    Finally, the final rule's definition of ``portfolio'' includes a
portfolio for the account of the investment adviser or its advisory
affiliate. This is substantially the same as the proposed
definition.\651\ The only commenter that addressed this aspect of
``related performance'' generally agreed with our proposed
approach.\652\
---------------------------------------------------------------------------

    \651\ To simplify the definitions, the final rule includes this
wording within the definition of ``portfolio,'' rather than within
the definition of ``related portfolio,'' as proposed.
    \652\ See CFA Institute Comment Letter.
---------------------------------------------------------------------------

5. Extracted Performance
    The final rule prohibits an adviser from presenting extracted
performance in an advertisement unless the advertisement provides, or
offers to provide promptly, the performance

results of the total portfolio from which the performance was
extracted.\653\ ``Extracted performance'' means ``the performance
results of a subset of investments extracted from a portfolio.'' \654\
We are adopting this provision substantially as proposed, though we are
requiring the adviser provide, or offer to provide, the results of the
``total portfolio,'' instead of the results of ``all investments in the
portfolio,'' at the request of a commenter that recommended we clarify
an adviser does not have to highlight individual positions.\655\
---------------------------------------------------------------------------

    \653\ Final rule 206(4)-1(d)(5).
    \654\ Final rule 206(4)-1(e)(6).
    \655\ See MFA/AIMA Comment Letter II. Final rule 206(4)-1(d)(5).
---------------------------------------------------------------------------

    Commenters supported permitting extracted performance in
advertisements, although they differed on what constitutes extracted
performance.\656\ Some commenters agreed that an adviser's extracted
performance can provide useful information to investors, who often
request such information to assist them in evaluating a particular
investment adviser or investment strategy.\657\ They noted that this is
especially true for new or modified investment strategies, or new
investment vehicles using a new or modified investment strategy.
---------------------------------------------------------------------------

    \656\ See MFA/AIMA Comment Letter I; LSTA Comment Letter;
Proskauer Comment Letter; IAA Comment Letter; CFA Institute Comment
Letter.
    \657\ See MFA/AIMA Comment Letter I; LSTA Comment Letter. These
commenters did not object to the proposed rule's conditions for
presenting extracted performance.
---------------------------------------------------------------------------

    However, two commenters requested clarification about the
definition of extracted performance and objected to the proposed
conditions.\658\ One questioned whether the proposed definition
includes composites of performance extracted from multiple portfolios,
stating that the proposed conditions would be onerous in this
case.\659\ This commenter recommended eliminating the conditions and
instead relying on the general prohibitions to ensure advertisements
with extracted performance are fair and balanced and not misleading.
The other stated that the final rule should distinguish between
performance that is extracted from a single portfolio (e.g., such as
segment returns), and a standalone strategy presented as a composite of
extracts from multiple portfolios.\660\ This commenter stated that
advisers typically present standalone composites and the final rule
should permit them, subject to similar conditions as under the GIPS
standards.\661\ This commenter further agreed with the proposed
requirement to provide, or offer to provide promptly, the performance
results of the entire portfolio along with the extract when extracted
performance is not advertised as a standalone strategy.
---------------------------------------------------------------------------

    \658\ See IAA Comment Letter; CFA Institute Comment Letter.
    \659\ See IAA Comment Letter (stating that advisers that present
composite performance that includes extracted performance would need
to present the performance of each of the total portfolios from
which the carve-out segments were extracted under the proposed
rule).
    \660\ See CFA Institute Comment Letter.
    \661\ See CFA Institute Comment Letter. CFA Institute agreed
that for advisers presenting segment returns, or attribution, of a
total portfolio, the condition to present performance of the total
portfolio would be relevant.
---------------------------------------------------------------------------

    Like the proposed rule, our final rule's provision for extracted
performance addresses the performance results of a subset of
investments extracted from a single portfolio. For example, an
investment adviser seeking to manage a new portfolio of only fixed-
income investments may wish to advertise its performance results from
managing fixed-income investments within a multi-strategy portfolio. If
a prospective investor already has investments in fixed-income assets,
it may want to use the extracted performance to consider the effect of
an additional fixed-income investment on the prospective investor's
overall portfolio. The prospective investor may also use the
presentation of extracted performance from several investment advisers
as a means of comparing investment advisers' management capabilities in
that specific strategy.
    We continue to believe that extracted performance can provide
important information to investors about performance actually achieved
within a portfolio. It can also provide investors with information
about performance attribution within a portfolio.\662\ Moreover, we
expect that conditioning the presentation of extracted performance on
presenting (or offering to provide promptly) the performance results of
the entire portfolio from which the performance was extracted will
prevent investment advisers from cherry-picking certain performance
results and provide investors necessary context for evaluating the
extract.\663\ Requiring advisers to provide (or offer to provide
promptly) this information mitigates the risk of extracted performance
misleading investors. Furthermore, any differences between the
performance of the entire portfolio and the extracted performance might
be a basis for additional discussions between the investor and the
adviser, which would assist the investor in deciding whether to hire or
retain the adviser.
---------------------------------------------------------------------------

    \662\ See CFA Institute Comment Letter (requesting guidance on
whether the proposed rule's ``extracted performance'' covers
attribution).
    \663\ This context should include any particular differences in
performance results between the entire portfolio and the extract. It
may include assumptions underlying the extracted performance if
necessary to prevent the performance results from being misleading.
We received no comments on the ``or offer to provide'' aspect of the
proposal's provision to permit an adviser to provide, or offer to
promptly provide the performance results of the entire portfolio
from which the extract was extracted (italics added). Therefore, we
adopted this aspect of the proposed rule.
---------------------------------------------------------------------------

    On the other hand, performance that is extracted from a composite
from multiple portfolios is not extracted performance as defined in the
final rule because it is not a subset of investments extracted from a
portfolio. We believe that such a performance presentation carries a
greater risk of misleading investors than an extract from a single
portfolio because an adviser could cherry-pick holdings from across the
composite and deem those holdings part of a particular strategy. In
addition, similar to hypothetical performance, this type of composite
performance presentation may not reflect the holdings of any actual
investor. As a result, the final rule does not prohibit an adviser from
presenting a composite of extracts in an advertisement, including
composite performance that complies with the GIPS standards, but this
performance information is subject to the additional protections that
apply to advertisements containing hypothetical performance, as
discussed below. While these additional protections may result in
additional burdens for advisers that typically present extracted
performance from multiple portfolios as a composite, we believe that
the investor protection gained from applying the hypothetical
performance restrictions to the presentation of this type of
performance, which reflects a hypothetical portfolio, justifies such
burden.\664\
---------------------------------------------------------------------------

    \664\ The general prohibitions also will apply to any
presentation of extracted performance. For example, we view it as
misleading for an adviser to present extracted performance without
disclosing that it represents a subset of a portfolio's investments
(an omission of a material fact). Similarly, we would view it as
misleading to include or exclude performance results, or present
performance time periods, in a manner that is not fair and balanced,
and able to be substantiated in accordance with the general
prohibitions. In addition, an extract would likely be false or
misleading where it excludes investments that fall within the
represented selection criteria.
---------------------------------------------------------------------------

    One commenter recommended that we provide advisers with the option
to either disclose assumptions underlying extracted performance, or
provide them upon request, stating that detailed information about the
selection criteria and assumptions used by the adviser could be
overwhelming for a retail

audience.\665\ The final rule does not require an adviser to provide
detailed information regarding the selection criteria and assumptions
underlying extracted performance unless the absence of such
disclosures, based on the facts and circumstances, would result in
performance information that is misleading or otherwise violates one of
the general prohibitions. As discussed above, an adviser should take
into account the audience for the extracted performance in crafting
disclosures.
---------------------------------------------------------------------------

    \665\ See CFA Institute Comment Letter (discussing presentations
of performance for standalone strategies).
---------------------------------------------------------------------------

    Finally, as proposed, the final rule does not prescribe any
particular treatment for a cash allocation with respect to extracted
performance. One commenter recommended that we require such an
allocation when presenting extracted performance advertised as a
standalone strategy.\666\ This commenter also stated that including an
allocation of cash is not necessary when showing a segment of a
strategy that is not used to advertise a standalone strategy. We
believe that, depending on the facts and circumstances, presenting
extracted performance without accounting for the allocation of cash
could imply that the allocation of cash had no effect on the extracted
performance and would be misleading.\667\ In other cases, however,
allocating cash to extracted performance may not be appropriate, such
as when cash allocation decisions were made separately from the
management of the extracted investments and the extracted performance
is not presented as a standalone strategy. We, therefore, believe that
it is appropriate to provide advisers with flexibility here since the
appropriateness of allocating cash will be based on the facts and
circumstances. Regardless, we would view it as misleading under the
final rule to present extracted performance in an advertisement without
disclosing whether it reflects an allocation of the cash held by the
entire portfolio and the effect of such cash allocation, or of the
absence of such an allocation, on the results portrayed.
---------------------------------------------------------------------------

    \666\ See CFA Institute Comment Letter.
    \667\ For example, it would be misleading to present extracted
performance without allocating cash when the allocation of cash was
part of the portfolio management for the subset of investments
extracted from a portfolio, and such allocation would have
materially reduced the extracted performance returns.
---------------------------------------------------------------------------

6. Hypothetical Performance
    The final rule will prohibit an adviser from providing hypothetical
performance in an advertisement, unless the adviser takes certain steps
to address its potentially misleading nature. Largely as proposed, the
final rule will condition the presentation of hypothetical performance
in advertisements on the adviser adopting policies and procedures
reasonably designed to ensure that the hypothetical performance
information is relevant to the likely financial situation and
investment objectives of the advertisement's intended audience. We
intend for advertisements including hypothetical performance
information to only be distributed to investors who have access to the
resources to independently analyze this information and who have the
financial expertise to understand the risks and limitations of these
types of presentations (referred to herein collectively as ``investors
who have the resources and financial expertise'').\668\ An adviser also
must provide additional information about the hypothetical performance
that is tailored to the audience receiving the advertisement, such that
the intended audience has sufficient information to understand the
criteria, assumptions, risks, and limitations.
---------------------------------------------------------------------------

    \668\ We would not view the mere fact that an investor would be
interested in high returns as satisfying the requirement that the
hypothetical performance is relevant to the likely financial
situation and investment objectives of the intended audience.
---------------------------------------------------------------------------

    While commenters requested additional flexibility with regard to
some of the conditions, they generally supported our proposed treatment
of hypothetical performance.\669\ However, one commenter stated that we
should not allow the presentation of hypothetical performance in
advertisements.\670\
---------------------------------------------------------------------------

    \669\ See, e.g., Wellington Comment Letter; Comment Letter of
Withers Bergman LLP (Feb. 10, 2020) (``Withers Bergman Comment
Letter''); MMI Comment Letter; NAPFA Comment Letter.
    \670\ See Mercer Comment Letter (stating that the restrictions
imposed on hypothetical performance by the proposed general
prohibitions would not be sufficient to prevent advisers from
displaying hypothetical performance in a materially misleading
manner).
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    We are adopting the hypothetical performance provisions of the rule
largely as proposed because we believe that such presentations in
advertisements pose a high risk of misleading investors since, in many
cases, they may be readily optimized through hindsight. Moreover, the
absence of an actual investor or, in some cases, actual money
underlying hypothetical performance raises the risk of a misleading
advertisement, because such performance does not reflect actual losses
or other real-world consequences if an adviser makes a bad investment
or takes on excessive risk. However, we understand that other
information that may demonstrate the adviser's investment process as
well as hypothetical performance may be useful to prospective investors
who have the resources and financial expertise. When subjected to this
analysis, the information may allow an investor to evaluate an
adviser's investment process over a wide range of periods and market
environments or form reasonable expectations about how the investment
process might perform under different conditions. We believe the three
conditions discussed below, as well as our changes to the definition of
``hypothetical performance,'' will make it more likely that the
dissemination of advertisements containing hypothetical performance
information will be limited to investors who have the resources and
financial expertise to appropriately consider such information.
    Certain commenters suggested that we only allow advisers to present
hypothetical performance to Non-Retail Persons,\671\ while others
advocated for a more nuanced approach (rather than categorical
exclusions) that would allow the dissemination of hypothetical
performance based on facts and circumstances.\672\ As noted above, the
final rule will not include different provisions for Retail and Non-
Retail Persons and we believe that the rule is sufficiently flexible to
facilitate the application of the hypothetical performance conditions
based on facts and circumstances.
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    \671\ See, e.g., NASAA Comment Letter; Prof. Jacobson Comment
Letter; Mercer Comment Letter.
    \672\ See, e.g., MFA/AIMA Comment Letter I.
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    Like the proposed rule, the final rule applies to communications
containing hypothetical performance that otherwise fall within the
definition of ``advertisement'' because we believe that there is a
significant risk that such performance could mislead investors.\673\
Some commenters stated that we should not impose the hypothetical
performance conditions to one-on-one communications as such an approach
would inhibit communications between an adviser and prospective or
current investors.\674\ As discussed above, communications are excluded
from the

scope of the final rule as long as they are provided in response to
unsolicited investor requests; provided to a private fund investor in a
one-on-one communication; or occur extemporaneously, live, and
orally.\675\
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    \673\ See proposed rule 206(4)-1(e)(1). The proposed rule
included one-on-one communications in the definition of
advertisement. While the proposed rule excluded responses to
unsolicited requests from the definition of advertisement, the
exclusion did not cover hypothetical performance even if such
performance was included in a one-on-one communication. As a result,
under our proposed rule, hypothetical performance would have been
subject to the specific conditions of the proposed rule (subsection
(c)).
    \674\ See, e.g., MFA/AIMA Comment Letter I; IAA Comment Letter.
    \675\ See final rule 206(4)-1(e)(1)(i)(A) and (C). The
conditions also will not apply if hypothetical performance is
included in a regulatory notice. Final rule 206(4)-1(e)(1)(i)(B).
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    While the final rule allows advisers to provide certain performance
presentations in advertisements that would otherwise be considered
hypothetical performance (i.e., interactive tools and educational
materials), we believe there are adequate protections to address this
risk in part because the anti-fraud provisions of the Advisers Act
would apply.\676\
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    \676\ In connection with the marketing of private funds, the
anti-fraud provisions of the Securities Act and Exchange Act would
also apply.
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    We also made the following changes to the treatment of hypothetical
performance advertising under the rule in response to commenters'
concerns: (1) Added more flexibility to the policies and procedures
requirement of the final rule to allow advisers to consider the likely
financial situation and investment objectives of the intended audience;
(2) added more flexibility to allow advisers to consider each of the
three hypothetical performance conditions with respect to the intended
audience of the advertisement (as opposed to the specific person
receiving the advertisement containing hypothetical performance
information); (3) broadened the requirement for advisers to provide
sufficient information to all investors (and not only Retail Persons)
to enable them to understand the risks and limitations of using
hypothetical performance advertising, except for private fund
investors; and (4) revised the definition of hypothetical performance
by: (a) Broadening the types of model portfolios whose performance is
considered hypothetical performance; (b) excluding the performance of
proprietary portfolios and seed capital portfolios; (c) including data
from prior periods (and not just ``market data'' as proposed) for
certain backtested performance; and (d) excluding interactive analysis
tools and predecessor performance. The final rule also makes clear that
an adviser need not comply with certain conditions on the presentation
of performance in advertisements, namely the requirements to present
specific time periods, and the particular conditions applicable to
presenting related or extracted performance.\677\
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    \677\ See final rule 206(4)-1(d)(6)(iii).
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a. Types of Hypothetical Performance
    The final rule defines ``hypothetical performance'' as
``performance results that were not actually achieved by any portfolio
of the investment adviser'' and explicitly includes, but is not limited
to, model performance, backtested performance, and targeted or
projected performance returns.\678\ The proposed definition of
hypothetical performance would have included ``performance results that
were not actually achieved by any portfolio of any client of the
investment adviser'' (emphasis added).\679\ In response to one
commenter's concerns,\680\ we removed the ``of any client'' qualifier
in order to clarify that the actual performance of the adviser's
proprietary portfolios and seed capital portfolios is not hypothetical
performance. However, advisers should not invest a nominal amount of
assets in a portfolio in an effort to avoid the ``hypothetical
performance'' designation. Instead, to show that the results are those
of an actual portfolio, an adviser must invest an amount of seed
capital that is sufficient to demonstrate that the adviser is not
attempting to do indirectly what it is prohibited from doing
directly,\681\ or otherwise be able to demonstrate that the strategy is
reasonably intended to be offered to investors.
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    \678\ Final rule 206(4)-1(e)(8).
    \679\ See proposed rule 206(4)-1(e)(5).
    \680\ See, e.g., CFA Institute Comment Letter.
    \681\ See section 208(d) of the Act.
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    In a change from the proposal, we also narrowed the definition of
hypothetical performance under the rule to exclude interactive analysis
tools and predecessor performance. While we proposed to exclude certain
financial tools from the hypothetical performance provisions, below we
clarify the treatment of such tools in response to commenters'
concerns. We excluded predecessor performance because we are adopting
specific rule text on the presentation of predecessor performance.
    We discuss each type of hypothetical performance in the following
sections.
    Model Performance. The proposal referred to, but did not define,
``representative performance'' and discussed model performance as a
type of representative performance.\682\ In response to commenters'
concerns,\683\ we are no longer using the term ``representative
performance'' and are treating all ``model performance'' as
hypothetical performance.\684\ We did not intend to limit the
definition of hypothetical performance to only performance generated by
the models described in the Clover no-action letter. Rather, we
proposed this definition to make clear that the rule would apply in the
context of a common industry practice that has evolved around prior
staff letters.\685\ But, as one commenter noted, the discussion of
model portfolios in staff letters reflects only the specific
circumstances of the adviser seeking a staff letter, and advisers