Defining Issues | September 2023
Insight
Amendment seeks to enhance transparency and provide better investor clarity into a fund’s strategy.
The final rule amends Section 35d-1 of the Investment Company Act of 1940, the Names Rule, to address the evolution of the funds industry since it was first adopted.
Applicability
- Certain funds governed by the Investment Company Act (registered investment companies, business development companies or unit investment trusts)
Relevant dates
The final rule will be effective 60 days after publication in the Federal Register and compliance with the amendments will be required within the following time periods:
- Fund groups with net assets of ≥ $1 billion, 24 months
- Fund groups with net assets of < $1 billion, 30 months
Key impacts
The SEC issued a Fact Sheet summarizing the key provisions of the final rules.
Modernizes the 80% investment policy requirement:
- Expands the scope to apply to any fund names that include terms suggesting the fund focuses on investments that have, or whose issuers have, particular characteristics (feature, quality, or attribute) – e.g. ESG, sustainable, green, value, growth, artificial intelligence.
- Requires investments selected to have a meaningful connection with the fund’s suggested focus, such as an industry affiliation or source of revenue.
- Requires at least quarterly checks that the fund complies with its defined 80% investment policy.
- Specifies circumstances in which a fund may temporarily depart from its 80% investment policy, generally requiring a fund to come back into compliance within 90 days. This is a change from the 30-day period to return to compliance that was in the proposal.
- Requires a fund to use a derivative instrument’s notional amount, rather than its market value, for purposes of determining the fund’s compliance with the 80% investment policy requirement.
- Generally prohibits a closed-end fund or business development company that is not listed on a national exchange from changing its 80% investment policy without shareholder approval, subject to certain exceptions.
Clarifies the materially deceptive and misleading use of terminology in certain fund names:
- Requires additional disclosures in fund prospectuses to define terms used in a fund’s name and the specific criteria the fund uses to select the investments the term describes.
- Requires terms to be consistent with those terms’ plain English meaning or established industry use, and disclosed in the prospectus. For example, a fund named ‘sustainable fashion’ would need additional context disclosed to enable an understanding of how this term is interpreted and distinguished among funds.
- The proposal included an approach to categorize ESG ‘integration funds’ as materially deceptive and misleading in certain circumstances; however, the final rule takes no further action on this topic at this time.
- A fund name may be materially deceptive or misleading even if the fund complies with its 80% investment policy; there is no safe harbor.
Other amendments:
- Amends Form N-PORT to require disclosure of which investments align with the fund’s 80% investment policy and other Names Rule compliance information.
- Modernizes the notice requirement to expressly address the use of electronic delivery methods for providing information to shareholders, including a change to the fund’s 80% investment policy as well as a change in the fund’s name.
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