808 KAR 10:450. Examples of Dishonest or unethical practice

for investment advisers and investment adviser representatives.

 

      RELATES TO: KRS Chapter 292, 17 C.F.R.

275.206(4), 15 U.S.C. 78, 80b

      STATUTORY AUTHORITY: KRS 292.336(5), (6),

292.500(3)

      NECESSITY, FUNCTION, AND CONFORMITY: KRS

292.500(3) authorizes the commissioner of the Department of Financial

Institutions to promulgate administrative regulations necessary to carry out

the provisions of KRS Chapter 292. KRS 292.336(5) and (6) authorize the commissioner

to promulgate administrative regulations prohibiting unreasonable charges or

other compensation of investment advisers and prescribing standards for the

conduct of business by investment advisers and investment adviser representatives

which the commissioner finds appropriate in the public interest and for the

protection of investors. This administrative regulation provides examples of

dishonest and unethical practices by investment advisers and investment adviser

representatives and clarifies the consequences of engaging in unacceptable

conduct or practices.

 

      Section 1. Definitions. (1) "Advertisement"

means any notice, circular, letter, or other written communication addressed to

more than one person, or any notice or other announcement in any electronic or

paper publication, by radio or television, or by any other medium, that offers

any one of the following:

      (a) Any analysis, report, or publication

concerning securities;

      (b) Any analysis, report, or publication

that is to be used in making any determination as to when to buy or sell any

security or which security to buy or sell;

      (c) Any graph, chart, formula, or other

device to be used in making any determination as to when to buy or sell any

security, or which security to buy or sell; or

      (d) Any other advisory service with

regard to securities.

      (2) "Investment adviser

solicitor" means a person or entity that, directly or indirectly, solicits

a prospective client for, or refers a prospective client to, an investment

adviser.

 

      Section 2. A person who is an investment

adviser or an investment adviser representative shall be a fiduciary and shall

have a duty to act primarily for the benefit of its clients. An investment adviser

or investment adviser representative shall not engage, either directly or

indirectly, in unethical or dishonest practices. The following acts and

practices shall be considered either a breach of fiduciary duty or a dishonest

and unethical practice. Violations may result in a fine, suspension, or

revocation in proportion to the seriousness of the offense:

      (1) Recommending to a client to whom investment

advisory, management, or consulting services are provided the purchase, sale,

or exchange of any security without reasonable grounds to believe that the recommendation

is suitable for the client on the basis of information furnished by the client

after reasonable inquiry concerning the client’s investment objectives,

financial situation and needs, and any other information known by the

investment adviser;

      (2) Exercising any discretionary power in

placing an order for the purchase or sale of securities for a client without

obtaining written discretionary authority from the client within ten (10)

business days after the date of the first transaction placed pursuant to oral

discretionary authority, unless the discretionary power relates solely to the

price at which, or the time when, an order involving a definite amount of a

specified security shall be executed, or both;

      (3) Inducing trading in a client’s account

that is excessive in size or frequency in view of the financial resources,

investment objectives, and character of the account in light of the fact that

an investment adviser or investment adviser representative in these situations

can directly benefit from the number of securities transactions effected in a

client’s account;

      (4) Placing an order to purchase or sell

a security for the account of a client without authority to do so;

      (5) Placing an order to purchase or sell

a security for the account of a client upon instruction of a third party

without first having obtained a written third-party trading authorization from

the client;

      (6) Borrowing money or securities from a

client unless the client is a broker-dealer, an affiliate of the investment

adviser, or a financial institution engaged in the business of loaning funds;

      (7) Loaning money or securities to a

client unless the investment adviser is a financial institution engaged in the

business of loaning funds or the client is an affiliate of the investment adviser;

      (8)(a) Misrepresenting to any advisory

client, or prospective advisory client, the qualifications of the investment

adviser or any employee of the investment adviser;

      (b) Misrepresenting the nature of the

advisory services being offered or fees to be charged for the service; or

      (c) Omitting to state a material fact

necessary to make the statements made regarding qualifications, services or

fees, in light of the circumstances under which they were made, not misleading;

      (9) Providing a report or recommendation

to any advisory client prepared by someone other than the adviser without disclosing

that fact;

      (10) Charging a client an unreasonable

advisory fee in light of the fee charged by other investment advisers providing

similar services;

      (11) Failing to disclose to clients in

writing before any advice is rendered any material conflict of interest

relating to the adviser, or any of its employees including:

      (a) Compensation arrangements connected

with advisory services to clients which are in addition to compensation from these

clients for advisory services; and

      (b) The amount of any commissions to be received

for executing transactions pursuant to advice given;

      (12) Failing to disclose to clients in

writing all potentially conflicting divisions of loyalty in connection with a

transaction and obtaining the written consent of the client to proceed with the

transaction:

      (a) Any transaction in which a person

acts as an investment adviser for one (1) party to that transaction and in

which the person (or any person controlling, controlled by, or under common

control with the adviser) acts as a broker-dealer for both the advisory client

and another person on the other side of the transaction is subject to this

disclosure and consent requirement, and the client shall be provided a written

confirmation for each such transaction which contains the following:

      1. A statement of the nature of the

transaction;

      2. The date of the transaction;

      3. An offer to furnish, upon written

request, the time of the transaction; and

      4. The source and amount of any other

remuneration the adviser received or will receive in connection with the transaction. If

the investment adviser is not participating in a distribution when the advisory

client is purchasing the security or a tender offer when the advisory client is

selling the security, the confirmation may state that the investment adviser

has been or will be receiving other remuneration and that the source and the

amount of this remuneration will be furnished upon the client's written request;

      (b) The disclosure and consent

requirements of subsection (12)(a) of this section apply to each contemplated

transaction and shall be complied with every time the transaction occurs unless

the adviser complies with the provisions of subsection (12)(c) of this section;

      (c) If the disclosure and consent

requirements of subsection (12)(a) of this section prospectively cover more

than one transaction, the adviser is responsible for ensuring that the

client receives at least annually, with or as part of a written statement or

summary of the client's account, written disclosure of the following:

      1. The total number of these transactions

since the date of the last statement or summary;

      2. The total amount of all commissions or

other remuneration the adviser received or will receive in connection with the transactions;

and

      3. A conspicuous statement that the

client may revoke the written consent previously given by providing written

notice of the revocation to the adviser; and

      (d) Any transaction in which the same

adviser recommended the transaction to both a seller and a purchaser of a

security shall be a dishonest or unethical practice regardless of any

disclosure and consent;

      (13) Failing to disclose to clients in

writing before any advice is rendered any material fact with respect to the

financial and disciplinary information required to be disclosed by 17 C.F.R.

275.206(4)-4 (SEC Rule 206(4)4);

      (14) Guaranteeing a client that a

specific result will be achieved with advice which will be rendered;

      (15) Using any advertisement that does

any of the following:

      (a) Refers to any testimonial of any kind

concerning any advice, analysis, report, or other service rendered by the

adviser or representative;

      (b) Refers to past specific

recommendations of the adviser or representative that were or would have been

profitable, except that an adviser or representative may furnish or offer to furnish

a list of all recommendations made by the adviser or representative within the

immediately preceding period of not less than one year if the list also includes

the following:

      1. The name of each security recommended,

the date and nature of each recommendation, the market price at that time, the

price at which the recommendation was to be acted upon, and the most recently

available market price of each security; and

      2. A legend on the first page in

prominent print or type that states that recommendations made in the future may

not be as profitable as the securities on the list;

      (c) Represents that any graph, chart,

formula, or other device being offered can in and of itself be used to

determine which securities to buy or sell, or when to buy or sell them; or

which represents, directly or indirectly, that any graph, chart, formula, or

other device being offered will assist any person in making that person’s own decisions

without prominently disclosing in the advertisement the limitations and the

difficulties with respect to its use;

      (d) Represents that any report, analysis,

or other service will be furnished for free or without charge, unless the

report, analysis or other service actually is or will be furnished free and

without any direct or indirect condition or obligation;

      (e) Represents that the Department of

Financial Institutions has approved any advertisement; or

      (f) Contains any untrue statement or

omission of a material fact, or that is otherwise false or misleading;

      (16) Disclosing the identity, affairs, or

investments of any client unless required by law to do so, or unless consented

to in writing by the client;

      (17) Taking any action, directly or

indirectly, with respect to those securities or funds in which any client has

any beneficial interest, if the investment adviser has custody or possession of

the securities or funds when the adviser’s action is subject to and does not

comply with the provisions of 808 KAR 10:020 relating to the custody;

      (18) Entering into, extending, or renewing

an advisory contract unless the contract is in writing and discloses the following:

      (a) The nature of the advisory services

to be provided;

      (b) The time period that the contract

remains in effect;

      (c) The advisory fee and the formula for

computing the fee;

      (d) The amount of the prepaid fee to be

returned if there is contract termination or nonperformance;

      (e) Whether the contract grants

discretionary power to the adviser and, if so, the terms of the discretionary

power;

      (f) Whether the contract grants custody

of client funds to the adviser and, if so, the terms of the custody; and

      (g) That the adviser shall not assign the

contract without the prior written consent of the client;

      (19) Including in an advisory contract

any condition, stipulation, or provision binding any client to waive compliance

with any provision of the Securities Act of Kentucky, KRS Chapter 292, 808 Chapter

10, or of the Investment Advisors Act of 1940, 15 U.S.C. 80b;

      (20) Paying compensation, directly or

indirectly, to an investment adviser solicitor unless the investment adviser

makes the payment in accordance with the requirements of 17 C.F.R.

275.206(4)-3) (SEC Rule 206(4)-3);

      (21) Engaging in any act, practice, or

course of business which is fraudulent, deceptive, or manipulative contrary to

the provisions of Section 206(4) of the Investment Advisors Act of 1940,

whether or not the investment adviser is registered or required to be

registered under Section 203 of the Act;

      (22) Failing to provide all material

information with respect to any dealings with or recommendations to any

advisory client in violation of KRS 292.320;

      (23) Committing any act involving a

client, the client’s assets, or any business records which would constitute a

criminal offense;

      (24) Lying to or otherwise misleading a

representative of the Department of Financial Institutions conducting an

authorized examination or investigation;

      (25) Failing to make requested records

available to or otherwise impeding a representative of the Department of

Financial Institutions conducting an authorized examination or investigation;

and

      (26) Failing to respond in a timely

manner to a written request from an authorized representative of the Department

of Financial Institutions for:

      (a) Information;

      (b) An explanation of practices or procedures;

      (c) A response to a complaint filed with

the department; or

      (d) A response to a written statement of

findings from an examination.

 

      Section 3. The provisions of this administrative

regulation shall apply to federally covered advisers operating in Kentucky to

the extent that the conduct alleged is fraudulent, deceptive, or as otherwise permitted

by the National Securities Market Improvement Act of 1996, 15 U.S.C. 78, and

the Investment Advisors Act of 1940, 15 U.S.C. 80b.

 

      Section 4. The commissioner may determine

that an activity not included in the examples identified in Section 2 of this

administrative regulation constitutes a dishonest or unethical practice if the

activity is similar to an enumerated activity. (35 Ky.R. 1110; Am. 1777; eff. 2-6-09; 37 Ky.R.

2503; 2849; eff. 7-1-11.)