Division of Investment Management Issues Guidance Regarding Certain Disclosure and Compliance Matters for Funds That Invest in Derivatives
Tuesday, October 8, 2013

In August 2013, the Staff of the Division of Investment Management of the SEC published a Guidance Update summarizing its views on certain disclosure and compliance matters relating to funds that are subject to regulation by both the SEC and CFTC because they invest in commodity derivatives. The Guidance Update was issued in conjunction with the CFTC’s Harmonization Rules related to funds subject to both SEC and CFTC regulation. Among other topics, the Guidance Update notes the need for funds to (1) adequately disclose the principal investment strategies and risks associated with investments in derivatives; (2) ensure that performance presentations are not materially misleading; and (3) maintain an effective compliance and risk management function.

The Guidance Update emphasizes the importance for funds that use, or intend to use, derivatives to assess the accuracy and completeness of their disclosure, including whether it is presented in plain English. Specifically, the Staff highlights as relevant factors to be considered in determining the appropriateness of derivatives disclosure the nature, type and extent of derivatives used by a fund, including the degree of economic exposure created, and the purpose for using derivatives. The Staff recommends that a fund assess the completeness and accuracy of its derivatives related disclosures in light of its actual operations on at least an annual basis.

The Guidance Update also elaborates on the Staff’s previous guidance allowing a new fund, with no (or short) performance history, to include information in its prospectus concerning the performance of other private accounts or funds managed by the fund’s adviser that have substantially similar investment objectives, policies and strategies as the fund so long as the information is not materially misleading. The Guidance Update reaffirms the position that a newly registered fund that invests in commodity derivatives may still include performance information of other funds or accounts managed by its adviser, but is responsible for ensuring that the information is not materially misleading. The Staff specifically notes that a fund should not exclude the performance of other substantially similar funds or private accounts if the exclusion would cause the performance to be materially higher or more favorable than if the funds or accounts were included.

The Guidance Update also highlights the importance of a fund’s adviser and board, through its oversight role, in maintaining effective written policies and procedures reasonably designed to prevent material misstatements and to ensure proper management of derivatives and their associated risks. The Staff notes that, among other things, the policies and procedures should sufficiently address the accuracy of disclosures made about a fund’s use of derivatives, as well as consistency of the fund’s investments in these derivatives with its investment objectives. Finally, the Staff indicates that it would not object if funds that invest in commodity derivatives indicate in the legend required by Rule 481 under the Securities Act that the CFTC (as well as the SEC) has not approved or disapproved of the securities or passed upon the accuracy or adequacy of the disclosure in the prospectus.

 

NLR Logo

We collaborate with the world's leading lawyers to deliver news tailored for you. Sign Up to receive our free e-Newsbulletins

 

Sign Up for e-NewsBulletins