Providing Investment Strategies & Recommendations to Hold

Instructor: Andrew White

Andrew has taught college and CFA level finance/investing. He holds a Bachelors in Finance (summa cum laude), Masters in Economics and the CFA designation.

Investment professionals are required to engage in reasonable efforts to provide customers with investment strategies and recommendations to hold. FINRA Rule 2214 and Municipal Securities Rulemaking Board (MSRB) Rule G-19 provide key guidance.

Directions to Provide Reasonable Efforts to Customers

So you're beginning your new job. Day 1 has arrived. However, before you can help customers decide how to invest, you must learn the rules of the (investment sales) road. Fortunately, your company's compliance department has provided a handy To Do List of requirements that must be legally met in advance of the sales process: FINRA Rule 2214 and MSRB Rule G-19.

FINRA Rule 2214 (Requirements for the Use of Investment Analysis Tools) details how an investment company's investment analysis tool may be distributed and represented to (potential) clients. MSRB Rule G-19 (Suitability of Recommendations and Transactions) sets standards for fair dealing in recommendations by dealers to customers investing in municipal securities.

FINRA Rule 2214 - Requirements for Use of Investment Analysis Tools

FINRA member firms cannot imply that FINRA endorses the use of any investment analysis tool nor recommendations based on the tool. Moreover, a member must make any advertised investment analysis tool available to FINRA's Advertising Regulation Department, upon request.

An investment analysis tool is a technological tool that electronically models analyses of security data to determine potential security selection and/or scenario results providing assumptions used matched real life conditions.

Reports or direct references about an investment analysis tool that are created and disseminated to clients, must describe the criteria and methodology used, define the investment universe employed, explain how the tool selects securities (including any inherent selection preference) and indicate that results may vary.

If the tool does contain an inherent security selection preference (e.g. revenue arrangement exists with a company whose presence is also included in the investment analysis tool), the member must disclose the reason for the selectivity and state that other investments not considered may have characteristics similar or superior to those being analyzed.

The following disclosure must also be included: 'IMPORTANT: The projections or other information generated by (name of investment analysis tool) regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results and are not guarantees of future results.' All disclosures must be clear, prominent, and written.

If you stick to the rules, you and your customer will benefit from your insights and those of your firm.

MSRB Rule G-19 - Suitability of Recommendations and Transactions

Concordantly, a broker or dealer must have a reasonable belief that a recommendation or investment strategy involving a municipal security is suitable for a customer based on due diligence of the broker or dealer to determine the customer's investment profile (e.g. customer's financial circumstances, investment objectives/experience, risk tolerance, etc.).

Brokers and dealers have a basic responsibility for fair dealing with customers, under the overarching suitability rule, defined as actions undertaken being within ethical standards to deal fairly with customers. The suitability rule is fundamental to fair dealing and is intended to promote ethical sales practices and high standards of professional conduct.

A recommended strategy includes 'investment strategy involving holding a (specific) municipal security or municipal securities.' General discussion of municipal securities (e.g. asset class characteristics, effect of inflation, bond comparisons) however is not subject to this rule.

Suitability is based on the customer's investment profile. To properly make a strategy recommendation, a broker or dealer must conduct and specifically document reasonable due diligence to then reasonably believe that the recommendation is suitable for the customer. Multiple factors of suitability are required. They are split into three defined obligations:

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