In a significant move on September 20, 2023, the US Securities and Exchange Commission (SEC) unveiled sweeping revisions to the Investment Company Act of 1940’s Rule 35d-1, commonly known as the “Names Rule.” This rule, first established in 2001, was designed to ensure that registered investment funds accurately reflected their investment portfolios in their names, thus preventing deceptive or misleading fund names. The latest amendments broaden the Names Rule’s reach, now covering more than three-quarters of all US registered investment funds. This expansion primarily targets funds with names implying specific characteristics, like “growth” or “value,” as well as those incorporating environmental, social, or governance (ESG) factors, such as “sustainable” or “green,” into their investment strategies.
Key Objectives
The primary objective of these amendments is to enhance transparency and honesty in the investment industry. A key focus is on combating “greenwashing,” a practice where entities exaggerate their environmental or sustainable practices. The SEC’s revised Names Rule aims to achieve the following:
- Ensure that fund names accurately reflect their investment portfolios. Investors should be able to rely on fund names to accurately convey the types of investments that a fund makes. This helps investors to make informed investment decisions.
- Promote transparency and accountability. The amended Names Rule requires funds to provide more detailed information about their investment strategies and holdings. This helps investors to better understand the risks and potential rewards of investing in a particular fund.
- Combat greenwashing. The SEC is concerned about the growing practice of greenwashing, where entities exaggerate their environmental or sustainable practices. The revised Names Rule is designed to crack down on greenwashing in the investment industry.
Key Provisions
The SEC’s revised Names Rule introduces a number of key provisions, including:
- Expanded scope. The amended rule applies to a broader range of fund names, including those suggesting specific characteristics, thematic investment focuses, and ESG factors.
- 80% investment policy. Funds with names suggesting specific characteristics, thematic investment focuses, or ESG factors must invest at least 80% of their assets in alignment with their name’s implications. This helps to ensure that fund names are not misleading.
- Enhanced prospectus disclosure. Funds subject to the 80% investment policy must provide more detailed information about their investment strategies and holdings in their prospectuses. This includes defining the terms used in their names and disclosing the criteria used to select investments that match the fund’s name.
- Increased Form N-PORT reporting. Funds subject to the 80% investment policy must provide additional reporting on Form N-PORT, including the definitions of terms used in their names, the value of their 80% baskets, and each investment included in the 80% basket.
- New recordkeeping requirements. Funds must maintain written records for at least six years following the creation of each record to ensure compliance with the 80% rule.
- Modernized notice requirements. Funds must provide 60 days’ notice to shareholders of any changes in their 80% policies. The updated notice requirements address electronic delivery methods and provide additional specificity regarding the delivery and content of such notices.
- Special considerations for funds with derivative holdings, closed-end funds, and BDCs. The amendments introduce specific considerations for funds with derivative holdings, unregistered closed-end funds, and business development companies (BDCs). Funds with derivatives in their holdings must use the derivatives’ nominal amount, rather than their market value, to determine their compliance with the 80% rule. This is because derivatives can have a significant impact on a fund’s investment portfolio without necessarily being reflected in the fund’s market value. Unregistered closed-end funds and BDCs that are required to adopt an 80% investment policy pursuant to the 80% rule cannot change their policy without a shareholder vote unless the following conditions are met: (i) the fund conducts a tender or repurchase offer with at least 60 days’ prior notice of the policy change; (ii) the offer is not oversubscribed; and (iii) the fund purchases shares at their net asset value.
Implications for Investors and Fund Managers
The SEC’s revised Names Rule has significant implications for both investors and fund managers. Investors should be aware that the rule has been amended and that more funds are now subject to the 80% investment policy. This means that investors can be more confident that the names of the funds they invest in accurately reflect their investment portfolios.
Fund managers should carefully review the revised Names Rule and ensure that their funds comply with all applicable requirements. This includes reviewing fund names to ensure that they are accurate and not misleading, disclosing all relevant information in the prospectus, and maintaining appropriate records.
Conclusion
The SEC’s revised Names Rule is a significant step towards promoting transparency, accuracy, and truth in advertising within the investment industry. As the investment landscape continues to evolve, these regulations will play a crucial role in safeguarding the interests of investors and maintaining the integrity of the market.
