United States: What’s in a Name?  SEC Proposes Amendments to Fund Names Rule & ESG Disclosure Requirements

By: Clair Pagnano

In a significant departure from the SEC’s long-standing position on the use of fund names, the SEC is proposing amendments to Rule 35d-1 that would expand the Names Rule to include terms denoting strategies, thereby subjecting funds that use the terms “Growth,” “Value,” and funds that use ESG-related terms in the fund’s name to the rule. It would also prohibit funds from using ESG-related terms in their names if ESG factors are considered to the same extent as other screening factors in the management of the fund (so-called “integration” funds). These and other key aspects of the proposed rule include:

• Expansion of the Scope of the Names Rule to apply to any fund name with terms suggesting that the fund focuses in investments that have particular characteristics, including fund names with terms indicating that the fund’s investment decisions incorporate one or more ESG factors.

• Changes Over Time and Temporary Departures from a Fund’s 80% Investment Policy amendments that specify the particular circumstances under which a fund may depart from its 80% investment policy, including specific time frames for getting back into compliance.

• Derivatives must be valued using their notional amount (rather than market value) for the purpose of determining the fund’s compliance with its 80% investment policy.

• Unlisted Registered Closed-End Funds and BDCs must make its 80% investment policy a fundamental policy in all cases. As a result, these funds would not be permitted to change their 80% investment policies without a shareholder vote.

• Enhanced Prospectus Disclosure that would require a fund to define the terms used in its name, including the criteria the fund uses to select the investments that the term describes.

• Materially Deceptive and Misleading Use of ESG Terminology: The use of ESG or similar terminology in a fund’s name would deceive and mislead investors where the identified ESG factors do not play a central role in the fund’s strategy. Accordingly, the names of “integration funds” would be materially deceptive or misleading by rule if the name indicates that the fund’s investment decisions incorporate one or more ESG factors.

• Amended Form N-PORT Reporting Requirements to require greater transparency on how fund investment selection methods match the investment focus that the fund’s name suggests to include two new reporting items regarding a fund’s names rule compliance and whether the investment is included in the fund’s 80% basket.

We will provide more details in upcoming client alerts. The comment period for the proposed amendments is 60 days after publication in the Federal Register.