(Article from Registered Funds Regulatory Update, July 2022)
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On June 15, 2022, the SEC requested information and public comments (the “Request for Comment”) on matters related to the activities of index providers, model portfolio providers and pricing services (collectively, “information providers”). The Request for Comment primarily focuses on the activities of the information providers to determine whether they should fall under the definition of an “investment adviser” under the Advisers Act thereby requiring registration.
By way of background, index providers compile, create the methodology for, sponsor, administer and/or license market indexes; model portfolio providers create model portfolios generally consisting of diversified groups of assets (often mutual funds or ETFs) designed to achieve a particular expected return with exposure to corresponding risks; and pricing services provide pricing, valuation and additional data about particular investments to assist funds in determining appropriate valuations. Given the increasing role of information providers in the asset management industry, information providers may have the ability to affect national markets, which raises concerns related to sufficient investor protection and market risk. For instance, the operation of these information providers may increase the potential for front-running trades where the information providers and their personnel have advance knowledge of information and conflicts of interest where the information providers and their personnel hold investments that they value or that are constituents of their indexes or models.
The Request for Comment includes specific questions related to the information providers’ registration status under the Advisers Act, including, among others:
- how information providers analyze whether they meet the Advisers Act’s definition of “investment adviser,” including whether they rely on the “publisher’s exclusion” or other exclusions;
- whether the regulatory status of information providers developing broad-based indexes should differ from those developing customized or bespoke indexes;
- to what extent information providers view themselves as having fiduciary obligations to any investors that rely on the information they provide (g., when investors receive such information through another financial professional);
- to what extent information providers exercise discretion in providing information or establishing and updating information;
- how information providers are compensated;
- how information providers address potential conflicts of interest;
- whether there should be an exemption from the prohibition against registration for information providers that do not have regulatory assets under management but that have a “national presence” or can have a significant effect on the national markets; and
- whether any U.S. regulatory action should be aligned with the framework for index providers under the EU Benchmarks Regulation.
To the extent that information providers’ activities may constitute investment advice and require registration under the Advisers Act, information providers would be subject to substantive prohibitions and requirements, including contractual requirements, recordkeeping obligations, compliance programs and SEC oversight, including periodic filings and inspection. Notably, the SEC staff recognized that some information providers may not fit neatly into the existing regulatory structure, and, to that end, requested comment on whether certain regulatory requirements should be specifically tailored to the operations and services of information providers.
In addition to the implications under the Advisers Act, the Request for Comment notes that certain information providers may be acting as an “investment adviser” of an investment company under the Investment Company Act. For example, an index provider, particularly to the extent the index provider maintains a bespoke index created for a single fund, could meet the definition of an investment adviser to a fund under the Investment Company Act, if no exception applies. Such status would trigger significant regulatory requirements, obligations and limitations, including requirements for fund board and shareholder approval of the investment adviser’s advisory contract, as well as prohibitions on self-dealing and other types of overreaching of a fund by its affiliates, and requirements related to the approval of compliance policies and procedures by the fund’s board.
In response to such implications, the Request for Comment includes specific questions on certain aspects of the Investment Company Act, including:
- how information providers analyze whether they meet the Investment Company Act’s definition of “investment adviser;”
- to what extent information providers directly contract with funds;
- to what extent information providers distribute uniform publications (an existing exclusion to the definition of investment adviser); and
- to what extent funds currently extend their compliance programs to information providers.
Following the release of the Request for Comment, SEC Chair Gary Gensler issued a statement in support of the Request for Comment highlighting that these information providers are becoming increasingly influential in today’s markets, which “raises important questions under the securities laws as to if they are providing investment advice rather than merely information.” Gensler also noted that the market may benefit from further guidance given the advances in the asset management industry and the lack of guidance on the definition of “investment adviser” since the 1980s and 1990s. SEC Commissioner Caroline Crenshaw also issued a statement in support of the Request for Comment, noting that “many information providers appear to exercise significant discretion in the performance of their services” and their increasing prominence in the industry “adds import to the consideration of whether and how the framework for registering and regulating investment advisers should apply in the context of information providers.”
Comments are due August 16, 2022.
Request for Comment on Certain Information Providers Acting As Investment Advisers, SEC Release No. IA-6050 (June 15, 2022), available at: https://www.sec.gov/rules/other/2022/ia-6050.pdf.