Securities regulator tightening up on marketing practices of hedge funds

Date: Friday, November 9, 2007
Author: Canadian Press

TORONTO - The Ontario Securities Commission is tightening up on the marketing of hedge funds and other vehicles aimed at supposedly sophisticated investors.

A staff notice released Friday provides a list of "suggested practices" for such funds to deal "fairly, honestly and in good faith" with clients.

"Marketing practices have increasingly become an area of concern," states the commission document, aimed at what the OSC defines as investment counsel/portfolio managers, or ICPMs, dealing in securities such as pooled funds or hedge funds which are not required to file formal prospectuses with regulators.

"We have . . . seen claims that are more aggressive and a greater complexity in the types of performance data in marketing materials," the notice says, adding that the commission has uncovered frequent "exaggerated and unsubstantiated claims" about funds' performance, skills, management experience or services.

The notice covers funds that cater to institutions or private investors with assets large enough that they are assumed to be able to take care of themselves. Mutual funds pitched to small investors are covered by specific laws and regulations governing their marketing practices.

The OSC's "best-practices standard" for ICPMs suggests that they present performance data based on actual results - not hypothetical returns, such as tracking what would have happened if their strategy had been used in the past.

The commission staff also said performance data "should be calculated using a consistent methodology so that any comparisons are not misleading," using benchmarks that allow fair and meaningful comparisons.

Additionally, ICPMs "should be able to support the claims made in their marketing materials," the notice states.

The OSC staff found that "almost all of the ICPMs that presented hypothetical performance data in marketing materials used it in ways that were misleading or provided inadequate disclosure."

The notice says ICPMs "should only market their actual performance. They should not use back-tested performance data because it is subject to manipulation and has many limitations."

It also cautions against selling model portfolios, noting that "one ICPM presented performance data of a model portfolio but did not have any clients who were following that investment strategy."

And it said more than half of the 50 ICPMs reviewed "were deficient in the presentation and use of benchmarks," comparing themselves to other securities or indexes that had different strategies, were not widely available, or used different currencies or reporting techniques.

And more than one-third had outdated or erroneous information in their marketing material.

The notice observes that securities law has broad provisions dealing with marketing, and "the suggested practices described in this notice are intended to provide guidance to market participants on how we expect them to apply these provisions.'