Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change by National Association of Securities Dealers, Inc. Relating to Filing Requirements for Use of Mutual Fund Rankings and Elimination of Sunset Provisions in Pre-Filing Requirements of Advertising and Government Securities Rules

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-33603; File No. SR-NASD-93-66]

Self-Regulatory Organizations; Notice of Filing of Proposed Rule

Change by National Association of Securities Dealers, Inc. Relating to

Filing Requirements for Use of Mutual Fund Rankings and Elimination of

Sunset Provisions in Pre-Filing Requirements of Advertising and

Government Securities Rules

February 8, 1994.

Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934

(``Act''), 15 U.S.C. 78s(b)(1), notice is hereby given that on November

4, 1993, the National Association of Securities Dealers, Inc. (``NASD''

or ``Association'') filed with the Securities and Exchange Commission

(``SEC'' or ``Commission''), and amended on February 7, 1994,\1\ the

proposed rule change as described in Items I, II, and III below, which

Items have been prepared by the NASD. The Commission is publishing this

notice to solicit comments on the proposed rule change from interested

persons.

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\1\Amendment No. 1 superseded the original rule filing.

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I. Self-Regulatory Organization's Statement of the Terms of Substance

of the Proposed Rule Change

The NASD is proposing to amend Article III, Section 35 of the NASD

Rules of Fair Practice to require filing of advertisements and sales

literature relating to investment companies, to make the pre-filing

requirement of Article III, Subsection 35(c)(2) of the Rules of Fair

Practice and in Subsection 8(c)(1)(B) of the Government Securities

Rules permanent, and to properly reference the ``Advertising Regulation

Department'' throughout Article III, Section 35 of the Rules of Fair

Practice and the Government Securities Rules. Below is the text of the

proposed rule change. Proposed new language is italicized; proposed

deletions are in brackets.

Rules of Fair Practice

* * * * *

Communications With the Public

Sec. 35

* * * * *

(c) Filing Requirements and Review Procedures

(1) Advertisements and sales literature concerning registered

investment companies (including mutual funds, variable contracts and

unit investment trusts) not included within the requirements of

Subsection (c)(2) of this Section, and public direct participation

programs (as defined in Article III, Section 34 of the Rules of Fair

Practice) shall be filed with the Association's Advertising Regulation

Department within 10 days of first use or publication by any member.

Filing in advance of use is recommended. Members are not required to

file advertising and sales literature which have previously been filed

and which are used without change. Any member filing any investment

company advertisement or sales literature pursuant to this Subsection

that includes or incorporates rankings or comparisons of the investment

company with other investment companies shall include a copy of the

ranking or comparison used in the advertisement or sales literature.

(2) Advertisements concerning collateralized mortgage obligations

registered under the Securities At of 1933, and advertisements and

sales literature concerning registered investment companies (including

mutual funds, variable contracts and unit investment trusts) that

include or incorporate rankings or comparisons of the investment

company with other investment companies where the ranking or comparison

category is not generally published or is the creation, either directly

or indirectly, of the investment company, its underwriter or an

affiliate, shall be filed with the Association's Advertising Regulation

Department for review at least 10 days prior to use (or such shorter

period as the Department may allow in particular circumstances) for

approval and, if changed or expressly disapproved by the Association,

shall be withheld from publication or circulation until any changes

specified by the Association have been made or, in the event of

disapproval, until the advertisement has been refiled for, and has

received, Association approval. Any member filing any investment

company advertisement or sales literature pursuant to this Subsection

shall include a copy of the data, ranking or comparison on which the

ranking or comparison is based. [This subsection (c)(2) shall remain in

effect for one year from November 16, 1993 unless modified or extended

prior thereto by the Board of Governors.]

* * * * *

Government Securities Rules

* * * * *

Communications With the Public

Sec. 8

* * * * *

(c) Filing Requirements and Review Procedures

(1) Members shall file advertisements for review with the

Association's Advertising Regulation Department as follows:

* * * * *

(B) advertisements concerning collateralized mortgage obligations

shall be filed with the Association's Advertising Regulation Department

for review at least 10 days prior to use (or such shorter period as the

Department may allow in particular circumstances) for approval and, if

changed or expressly disapproved by the Association, shall be withheld

from publication or circulation until any changes specified by the

Association have been made or, in the event of disapproval, until the

advertisement has been refiled for, and has received, Association

approval. [This subsection (c)(1)(B) shall remain in effect for one

year from November 16, 1993 unless modified or extended prior thereto

by the Board of Governors.]

* * * * *

II. Self-Regulatory Organization's Statement of the Purpose of, and

Statutory Basis for, the Proposed Rule Change

In its filing with the Commission, the NASD included statements

concerning the purpose of and basis for the proposed rule change and

discussed any comments it received on the proposed rule change. The

text of these statements may be examined at the places specified in

Item IV below. The NASD has prepared summaries, set forth in Sections

(A), (B), and (C) below, of the most significant aspects of such

statements.

(A) Self-Regulatory Organization's Statement of the Purpose of, and

Statutory Basis for, the Proposed Rule Change

As the number of mutual funds has increased substantially in recent

years, so has the number of mutual fund ranking entities (``Ranking

Entities''). Ranking Entities, as well as mutual funds and fund

affiliates, categorize and rank mutual funds by, for example, fund

type, performance over a given period of years, total return,

standardized yield calculated pursuant to Commission rules, the

variations in sales charges, and risk/reward. References to such

rankings in mutual fund advertisements and sales literature have also

increased substantially in recent years as members have attempted to

boost the sale of fund shares by touting the performance of various

mutual funds.

The NASD Board of Governors believes that it is important for the

Association to be able to review and regulate the use of ranking

materials and the development of customized rankings in order to

prevent the misleading use of such rankings. The NASD is, therefore,

proposing to amend Article III, Section 35(c) of the NASD Rules of Fair

Practice to require that copies of mutual fund rankings and the data on

which the rankings are based be submitted to the Association's

Advertising Regulation Department review. The proposed rule change

requires members filing advertisements or sales literature for review

which use or incorporate mutual fund rankings to include in the filing

a copy of the ranking or comparison. The NASD also has proposed

Guidelines for the Use of Rankings in Mutual Fund Advertisements and

Sales Literature (``Guidelines'') on which the NASD review will be

based.\2\

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\2\On November 4, 1993, the NASD submitted a proposed rule

change with the Commission File No. SR-NASD-93-69) for Commission

approval. The Commission intends to publish notice of the Guidelines

in the Federal Register concurrently with notice of the instant

proposed rule change.

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Subsection 35(c)(1) is proposed to be amended to require that any

member that files any investment company advertisements or items of

sales literature pursuant to Subsection 35(c)(1) which include or

incorporate rankings or comparisons of the investment company with

other investment companies, shall include a copy of the ranking or

comparison used in the advertising or sales literature. The

requirements of this provision will permit the staff to immediately

determine whether the use of the ranking complies with the Guidelines,

and avoid the need for the NASD staff to research the ranking or

attempt to obtain a copy of the source information in order to verify

the accuracy of the material.

Subsection 35(c)(2), which currently requires certain

advertisements to be filed by members 10 days prior to use, is proposed

to be amended to require such pre-use filing for all investment company

advertisements or items of sales literature which incorporates rankings

or comparisons of the investment company with other investment

companies where the ranking or comparison is not generally published or

is the creation, directly or indirectly, of the investment company, its

underwriter or an affiliate.\3\ While the NASD is concerned about

permitting ranking categories to be created by investment companies or

their affiliates, rather than by a Ranking Entity, it recognizes that

customized ranking may provide meaningful information to the investor.

Such filing also must include a copy of the data, ranking or comparison

on which the ranking or comparison is based.

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\3\The proposed Guidelines permit the use of a ranking based on

a category or subcategory created by a fund or a fund affiliate

rather than by a Ranking Entity, so long as the ranking is based on

the performance measurements of a Ranking Entity.

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The NASD is also proposing to amend Article III, Subsection

35(c)(2) of the Rules of Fair Practice and Subsection 8(c)(1)(B) of the

Government Securities Rules to eliminate sunset provisions relating to

collateralized mortgage obligations (``CMOs''). This change will make

the pre-filing requirement for CMO advertisements permanent.\4\

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\4\The NASD simultaneously filed, with the original filing of

this proposed rule change, proposed rule change SR-NASD-93-64

requesting a grant of temporary accelerated approval to extend the

sunset provisions for one year to provide an opportunity for SEC

review and publication for comment of this proposed rule change. The

SEC granted accelerated approval to that proposed rule change. See

Securities Exchange Act Release No. 33174 (Nov. 9, 1993), 58 FR

60712 (Nov. 17, 1993) (approving File No. SR-NASD-93-64).

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Finally, the NASD is proposing to modify references to the

Advertising Department to reference the Advertising Regulation

Department in Article III, Section 35 of the Rules of Fair Practice and

the Government Securities Rules.

The NASD believes that the proposed rule change is consistent with

the provisions of Section 15A(b)(6) of the Act\5\ in that the rule

ensures that the use of rankings of investment companies in advertising

and sales literature is accurate and presents investors with fair and

meaningful data upon which to make an informed investment decision.

With respect to the proposed elimination of the sunset provisions for

the prefiling of CMO advertisements, the Board believes that the

positive regulatory benefits seen since implementation of the

provision, i.e., the reduction in misleading advertising, warrants

making the prefiling requirement provision permanent.

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\5\15 U.S.C. 78o-3.

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(B) Self-Regulatory Organization's Statement on Burden on Competition

The NASD does not believe that the proposed rule change will result

in any burden on competition that is not necessary or appropriate in

furtherance of the purposes of the Act, as amended.

(C) Self-Regulatory Organization's Statement on Comments on the

Proposed Rule Change Received From Members, Participants, or Others

Written comments were neither solicited nor received.

III. Date of Effectiveness of the Proposed Rule Change and Timing for

Commission Action

Within 35 days of the date of publication of this notice in the

Federal Register or within such longer period (i) as the Commission may

designate up to 90 days of such date if it finds such longer period to

be appropriate and publishes its reasons for so finding or (ii) as to

which the self regulatory organization consents, the Commission will:

A. By order approve such proposed rule change, or

B. Institute proceedings to determine whether the proposed rule

change should be disapproved.

IV. Solicitation of Comments

Interested persons are invited to submit written data, views, and

arguments concerning the foregoing. Persons making written submissions

should file six copies thereof with the Secretary, Securities and

Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549.

Copies of the submission, all subsequent amendments, all written

statements with respect to the proposed rule change that are filed with

the Commission, and all written communications relating to the proposed

rule change between the Commission and any person, other than those

that may be withheld from the public in accordance with the provisions

of 5 U.S.C. 552, will be available for inspection and copying in the

Commission's Public Reference Room. Copies of such filing will also be

available for inspection and copying at the principal office of the

NASD. All submissions should refer to File Number SR-NASD-93-66 and

should be submitted by [insert date 21 days from the date of

publication].

For the Commission, by the Division of Market Regulation,

pursuant to delegated authority, 17 CFR 200.30-3(a)(12).

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 94-3485 Filed 2-14-94; 8:45 am]

BILLING CODE 8010-01-M