SEC Proposes New Requirements to Prevent Misleading Investment Company Names

The SEC proposed amendments to Rule 35d-1 ("Investment company names") of the Investment Company Act, commonly known as the "Names Rule," to address "certain broad categories of investment company names that are likely to mislead investors about an investment company's investments and risks."

The amendments would increase disclosure requirements and recordkeeping requirements (see previous coverage). Specifically, the SEC rule proposal would:

• require that funds with certain names, such as those suggesting an environmental, social and governance ("ESG") policy, invest at least 80 percent of their assets in investments consistent with that name, limited exceptions would be permitted, such as when there is a material change in the value of assets owned by the fund;

• prohibit closed-end funds and business development companies that do not have listed shares from changing their 80 percent policy without a shareholder vote;

• require a fund to provide additional disclosure on how it tracks its investments;

• prohibit a fund that does not consider ESG factors as an essential aspect of its strategy from using ESG or similar terminology in its name; and

• modernize the process for notifying shareholders of changes to the 80 percent investment policy requirement (granted the policy is not imperative to the funds ability to operate) to account for electronic delivery.

The 60-day comment period will begin after publication in the Federal Register.

SEC Chair Gary Gensler supported the proposal, stating that it will address "gaps in the current Names Rule [that] may undermine investor protection." SEC Commissioner Caroline A. Crenshaw joined in support of the proposal, calling it "a step in the right direction of bringing market practices in-line with investor expectations." SEC Commissioner Allison Herren Lee supported the proposal, stating that it is necessary given increasing investor demand for sustainable investments.

SEC Commissioner Hester M. Peirce dissented, asserting that the proposed rules "may create more fog than they dissipate and may place unnecessary constraints on fund managers." Additionally, Ms. Peirce expressed concern that the proposal would handcuff funds looking to design creative investment strategies, which may have a detrimental effect on the freedom a fund has to manage its strategy.