• SEC Share Class Sweep of Registered Investment Advisers Appears to be Underway
  • August 5, 2016 | Authors: Scott R. MacLeod; Terry R. Weiss
  • Law Firms: Greenberg Traurig, LLP - Orlando Office; Greenberg Traurig, LLP - Atlanta Office
  • Registered investment advisers have noticed increased SEC scrutiny during exams into mutual fund share class disclosure and fees in recent months. The SEC Staff is identifying perceived deficiencies in disclosures and practices, in response to which investment advisers are being asked to implement a number of corrective measures. The fact that this is likely part of a sweep was made clearer last week when the SEC’s Office of Compliance Inspections and Examinations (OCIE) announced its 2016 Share Class Initiative (the Initiative). The Initiative is focused on addressing the perceived risk that investment advisers may be providing conflicted advice to their clients when recommending mutual fund share classes. For example, OCIE staff is concerned that an adviser may be conflicted because it may receive fees from the sales of certain more expensive mutual fund share classes which may incentivize the adviser to avoid recommending the lower cost share class, for which it does not receive compensation. In addition, OCIE staff is concerned about an adviser potentially avoiding certain costs (such as transaction costs) typically borne by the adviser by recommending a more expensive share class for which there are no transaction fees associated.

    The SEC views causing a client to purchase a more expensive share class when a less expensive class of that fund is available potentially as a violation of an adviser’s fiduciary duty and a failure to obtain best execution, depending on facts and circumstances (including the sufficiency of an adviser’s disclosure). The SEC has already brought a series of cases in this area and tends to take a bright line view of violations in this area. The SEC may be particularly attracted to these cases because they seem to be “low hanging fruit” and are relatively easy to prove from the SEC’s perspective.

    Registered investment advisers should address any issues in connection with mutual fund share class selection promptly, as the SEC is moving aggressively in this area and will view remediation efforts prior to any exam in a more favorable light than if prompted by an examination.

    Please let us know if you would like to discuss an approach for addressing these issues in advance of any examination or if you are already undergoing an examination or investigation by the SEC.