Simons Says: Really? Updating the Investment Advisers Act of 1940?

Tim Simons - Focus 1 AssociatesTimothy M. Simons, CFA, CFP, CIPM, CSCP
Senior Managing Member
Focus 1 Associates LLC
July 28, 2016



A question I hear frequently is, “When will the SEC bring the Advisers Act into the 21st Century?”  Someone in Washington D.C. has been listening, but it wasn’t the SEC. 

On June 9, a bipartisan group of legislators in the House of Representatives introduced the Investment Advisers Modernization Act of 2016, with the intent to modernize aspects of the Investment Advisers Act of 1940, remove ill-fitting or duplicative burdens, address practical concerns with the statute, and help ensure robust capital formation.  The bill was reported out of the House Financial Services Committee on June 16 and is now ready to be considered by the full House.

Compliance-Manual-200x200American Investment Council President and CEO Mike Sommers said, “These common-sense, thoughtful modifications show a commitment to improving the regulatory structure for private funds and investors. We look forward to seeing this bill advance.”

The bill intends to update several areas of the Investment Advisers Act by:

  • Adjusting books and records requirements to provide advisers with a set of guidelines that can be easily interpreted;
  • Revising the “assignment” definition for certain investment advisory contracts;
  • Exempting investment advisers from outdated and arbitrary advertising restrictions while maintaining appropriate anti‐fraud rule protections; and
  • Removing an outdated and duplicative requirement on notification to clients for any change in the membership of a partnership.

It would eliminate duplicative burdens and tailor other provisions by:

  • Making brochure production and delivery per Form ADV Part 2A and 2B voluntary, provided that investment advisers have already previously provided required information;
  • Updating Form PF so that private equity investment advisers do not have to provide burdensome and unnecessary information on their portfolio companies;
  • Tailoring personal securities transactions reporting requirements to provide fund sponsors with greater flexibility;
  • Adjusting the Custody Rule to only require publicly‐traded securities and cash to be maintained with a qualified custodian and providing an exemption from the audit or surprise examination requirements for co‐investment funds with a single investment and friends‐and‐ family funds; and
  • Exempting investment advisers from the Proxy Voting Rule where the investment adviser exercises voting authority with respect to non‐public securities.

And, it would facilitate capital formation by:

  • Preventing the SEC from expanding Rule 156 relating to the advertising of registered investment company funds to retail investors to private fund offerings to accredited (sophisticated) investors.  The two types of offerings are materially different and private funds should not face additional burdens in this area.

The information above is from those that support the bill, but there are also those that oppose the bill, who say that it primarily provides relief to private fund advisers.  It also includes provisions applicable to investment advisers that don’t manage private funds, but these provisions do not apply to advisers of registered investment companies.  Those who oppose the bill explain the key provisions as:


  • Books & records retention:  Advisers would not be required to maintain materials used in connection with due diligence for a prospective investment, if the materials are subject to a confidentiality agreement.  Also, any internal communications sent and received only by supervised persons of the adviser would be exempt from retention requirements.
  • Contracts:  Expands the definition regarding the assignment of advisory contracts when there is minority change of ownership to specifically cover additional types of entities.  Also, provides that consent of assignments by qualified clients may be given at the time such clients “enter into, extend, or renew such contract,” and removes the notice requirement by partnerships when there is a change in partners.
  • Advertising:  Advertising materials distributed solely to qualified clients, knowledgeable employees of advisers to private funds, qualified purchasers, and accredited investors (each is a defined term with qualification requirements), would be able to include testimonials and past specific recommendations.
  • Brochure delivery:  Advisers would be relieved of the obligation to deliver a brochure and brochure supplement to a privately held pooled investment vehicle (private fund) client, so long as the private fund investors have received the same information via delivery of a private placement memorandum or other offering documents.
  • Form PF:  Investment Advisers to private funds shall not be required to report information beyond that required in sections 1a and 1b of Form PF unless the adviser is a large hedge fund or a large liquidity fund adviser.
  • Personal trading:  Access persons of advisers that provide services solely to one or more clients who hold only privately held securities, would be required to submit transaction reports annually instead of the current quarterly requirement, unless more frequent reporting is required  by the adviser.
  • Proxy voting: SEC Rule 206(4)-6 (proxy voting) would not apply to any voting authority with respect to client securities that are not publicly traded securities.
  • Custody rule:  Under certain conditions, advisers to certain pooled investment vehicles would be granted an exception to the independent verification (surprise audit) requirement under the custody rule when the only investors are the adviser or its officers, directors, affiliates, family members etc.

Simons says…

Simons SaysAs you may imagine, I agree with some of the changes and disagree with others.  I’m against anything that would allow any adviser to purge their electronic files of any records of what they said or wrote when selling their funds.  We’ve all seen too much evidence of wrongdoing through records required to be maintained, this would make it almost impossible to prove misrepresentations.

I’m against not providing disclosure documents to clients and would prefer that all be required in plain English.  Those that rely on the information found in Form ADV Parts 2A and 2B should receive that information on an annual basis, even those that don’t read it, the requirement is to deliver, not make sure the client reads it.

I once believed that accredited investors were sophisticated enough to take care of themselves, at least that’s the premise for which the exemption is allowed.  After a few years in this business, I’ve come to realize that the bar for being an accredited investor is not very high.  It includes individuals who make more than $200,000 a year.  In high cost cities like New York and San Francisco, where salaries are also correspondingly elevated, that includes those that may be less familiar with the financial markets, let alone risky investment vehicles.  That also includes groups of wealthy individuals who are routinely targeted by fraudsters because they may be unsophisticated investors, such as professional athletes, top entertainers, and some widows.  How can any organization be considered an accredited (sophisticated) investor because it has more than a $1,000,000 to invest, when the members of the organization are not financial analysts?  Some may be great investment analysts, but how many?

I like the recordkeeping requirements as they are, and I am against any plan to lessen those requirements.  Just as lessening the requirements makes life easier and might encourage some to try to hide their crimes, it makes it more difficult for the honest adviser to prove its innocence. Even though I hear firms complaining about the cost of audits, I’m against any plan to lessen or exempt any adviser from audits that are currently required.  Again, it’s hiding versus proving your innocence.

As far as making any changes to the Advertising Rules, I think we should leave that to the SEC rather than Congress (who may not understand one of the most important Rules, the Rule of Unintended Consequences).

For advisers that only invest in privately held securities, I don’t see a problem with access persons only reporting their transactions annually rather than quarterly, nor exempting them from the Proxy Voting Rule.

FYI, those who oppose this bill include the Americans for Financial Reform, which is made up of a large number (several hundred) of organizations including AARP, AFL-CIO, AFSCME, Consumer Federation of America, NAACP and many state Public Interest Research Groups.

A copy of the bill can be found at:


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