[Federal Register Volume 63, Number 171 (Thursday, September 3, 1998)]
[Notices]
[Pages 47062-47064]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-23769]



[[Page 47062]]

-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-40365; File No. SR-NASD-98-29]


Self-Regulatory Organizations; National Association of Securities 
Dealers, Inc.; Order Approving Proposed Rule Change and Amendment No. 1 
Thereto and Notice of Filing and Order Granting Accelerated Approval to 
Amendment No. 2 to Proposed Rule Change Relating to Standards for 
Individual Correspondence

August 26, 1998.

I. Introduction

    On April 6, 1998, the National Association of Securities Dealers, 
Inc. (``NASD'' or ``Association''), through its wholly-owned 
subsidiary, the NASD Regulation, Inc. (``NASDR''), submitted to the 
Securities and Exchange Commission (``SEC'' or ``Commission''), 
pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ a proposed rule change to 
amend NASD Conduct Rule 2210 to require that written or electronic 
communications prepared for a single customer be subject to the general 
standards and those specific standards of NASD Rule 2210 that prohibit 
misleading statements. On April 30, 1998, the NASDR filed Amendment No. 
1 to the proposed rule change.\3\
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Letter from John Ramsay, Vice President and Deputy 
General Counsel, NASDR, to Katherine A. England, Assistant Director, 
Division of Market Regulation (``Division''), Commission, dated 
April 29, 1998 (``Amendment No. 1'').
---------------------------------------------------------------------------

    The proposed rule change, as amended, was published for comment in 
the Federal Register on May 8, 1998.\4\ One comment letter was received 
on the proposal.\5\ On August 4, 1998, the NASDR filed Amendment No. 2 
to the proposed rule change.\6\ The Commission solicits comments on 
Amendment No. 2 from interested persons. This order approves the 
proposed rule change and Amendment No. 1 thereto and approves Amendment 
No. 2 to the proposed rule change on an accelerated basis.
---------------------------------------------------------------------------

    \4\ See Securities Exchange Act Release No. 39942 (May 1, 1998), 
63 FR 25532.
    \5\ See Letter from Joseph P. Savage, Assistant Counsel, 
Investment Company Institute (``ICI''), to Jonathan G. Katz, 
Secretary, Commission, dated May 29, 1998 (``ICI Letter'').
    \6\ See Letter from John M. Ramsay, Vice President and Deputy 
General Counsel, NASDR, to Katherine A. England, Assistant Director, 
Division, Commission, dated August 4, 1998 (``Amendment No. 2''). In 
Amendment No. 2, the NASDR responds to the concerns raised in the 
ICI Letter and proposes to amend its filing to delete the phrase 
``or a single customer'' in subparagraph (d)(1)(D)(ii) to NASD Rule 
2210 and to revise subparagraph (d)(2)(L) to NASD Rule 2210 to 
specify that the requirements apply solely to advertisements and 
sales literature.
---------------------------------------------------------------------------

II. Background and Description of the Proposal

    Currently, NASD Rule 2210 imposes various requirements on member 
communications with the public, designed to ensure that those 
communications are fair, balanced, and not misleading. However, NASD 
Rule 2210 does not expressly apply to the content of correspondence, 
defined as a communication to only one person. In addition, there is 
presently no definition of correspondence in the NASD rules, even 
though members are required to supervise the use of correspondence by 
their associated persons under NASD Rule 3010.
    In June 1997, the NASDR requested comment on proposed amendments to 
NASD Rule 2210 to define ``correspondence'' and amend the rule to 
clarify which particular standards would apply to correspondence.\7\ As 
first proposed, the amendments to NASD Rule 2210 would have required 
that communications prepared for a single customer be subject to the 
standards, but not the filing and review requirements, of NASD Rule 
2210. The general standards of NASD Rule 2210 define or prohibit the 
dissemination of statements that could be considered misleading. The 
specific standards of NASD Rule 2210, set forth in subparagraph (d)(1) 
require certain additional disclosures to be included in certain cases. 
Most commenters supported applying to correspondence only the general 
standards of NASD Rule 2210, which, among other things, prohibit untrue 
statements of material facts, the omission of material facts, and 
statements that are exaggerated, misleading, or unwarranted. These 
commenters stated that imposing all of the specific standards on each 
item of correspondence, particularly those that require additional 
disclosure, would unduly complicate communication with clients and 
unnecessarily burden supervisory programs without materially 
contributing to the protection of investors.
---------------------------------------------------------------------------

    \7\ See NASD Notice to Members 97-37 (June 1997).
---------------------------------------------------------------------------

    The NASDR believes that certain statements pose similar dangers 
regardless of whether they are communicated to one person or many 
persons. Therefore, the NASDR proposed to subject correspondence to the 
general standards and those specific standards of NASD Rule 2210 that 
prohibit misleading statements, but not to the specific standards of 
the rule that require specific disclosure. The proposal would create a 
category defined as ``communications with the public'' to include the 
current definitions of ``advertisement'' and ``sales literature,'' and 
a new definition of ``correspondence.'' ``Correspondence'' is defined 
in the proposal as ``* * * [a]ny written or electronic communication 
prepared for delivery to a single current or prospective customer, and 
not for dissemination to multiple customers or the general public.'' 
The NASDR also proposes that in determining whether a written or 
electronic communication is prepared for delivery to a single current 
or prospective customer, NASD members should consider, and the staff of 
the NASDR should examine, among other things, the form and content of 
the communication. Thus, a written or electronic communication 
addressed to a single current or prospective customer, the content of 
which is substantially identical to that of written or electronic 
communications sent to one or more other current or prospective 
customers, is a form letter, not ``correspondence.'' Form letters are 
considered ``sales literature'' under NASD Rule 2210 and therefore, 
would be subject to all of the general and specific standards of NASD 
Rule 2210.
    The proposed rule change would amend NASD Rule 2210 to subject 
individual correspondence to the general standards under subparagraph 
(d)(1) and the following specific standards under subparagraph (d)(2) 
of NASD Rule 2210: (i) subparagraph (d)(2)(C), which prohibits 
exaggerated, unwarranted, or certain other specific claims or opinions; 
(ii) subparagraph (d)(2)(E), which prohibits certain offers of free 
services; (iii) subparagraph (d)(2)(F), which prohibits certain claims 
for research services; (iv) subparagraph (d)(2)(G), which prohibits 
certain hedge clauses; (v) subparagraph (d)(2)(J), which prohibits the 
implication of endorsement or approval by regulatory organizations; and 
(vi) subparagraph (d)(2)(N), which prohibits predictions and 
projections of investment results.\8\ Each of these specific provisions 
derive from members' general obligations not to make statements that 
are misleading or without a reasonable basis in fact. In addition, as 
the proposed rule change is not intended to change the current

[[Page 47063]]

application of Interpretive Memoranda under NASD Rule 2210, paragraph 
(a) to IM-2210-1, relating to collateralized mortgage obligations, has 
been amended to clarify that the interpretation applies only to 
advertisements and sales literature.
---------------------------------------------------------------------------

    \8\ As initially proposed, subparagraph (d)(2)(L), which 
prohibits certain statements regarding tax free or tax exempt 
returns, also would have applied to correspondence. In response to 
the ICI Letter, the NASDR, in Amendment No. 2, eliminated this 
requirement. See Amendment No. 2, supra note 6.
---------------------------------------------------------------------------

III. Summary of Comments

    The Commission received one comment letter on the proposed rule 
change.\9\ The commenter generally opposed the proposal. Specifically, 
the ICI believes the proposed changes are unnecessary given recent 
amendments to NASD Rule 3010 and 3110 and the fact that NASDR based the 
rule on three isolated incidents occurring more than two years ago. The 
ICI also requested: (1) clarification as to the applicability of 
correspondence to the Commission's advertising rules; (2) that the 
proposal be limited to correspondence made ``in connection with the 
offer or sale of any security;'' (3) that subparagraph (d)(1)(A) to 
NASD Rule 2210 be revised to limit the applicability of the ``sound 
basis'' requirement to advertisements and sales literature; (4) that 
the phrase ``or a single customer'' be deleted from subparagraph 
(d)(1)(D)(ii) to NASD Rule 2210; and (5) that subparagraph (d)(2)(L) to 
NASD Rule 2210 be revised to apply only to advertisements and sales 
literature.
---------------------------------------------------------------------------

    \9\See ICI Letter, supra note 5.
---------------------------------------------------------------------------

    In response, the NASDR proposes to amend its filing to delete the 
phrase ``or a single customer'' in subparagraph (d)(1)(D)(ii) to NASD 
Rule 2210 and to revise subparagraph (d)(2)(L) to NASD Rule 2210 to 
specify that the requirements apply solely to advertisements and sales 
literature.

IV. Discussion

    After careful review, the Commission finds that the proposed rule 
change is consistent with the requirements of the Act and the rules and 
regulations thereunder applicable to a national securities 
association.\10\ Specifically, the Commission believes the proposal is 
consistent with the requirements of Section 15A(b)(6) of the Act \11\ 
in that it is designed to prevent fraudulent and manipulative acts and 
practices and to protect investors and the public interest. The 
Commission believes that the proposal, which applies the general and 
certain specific standards of the NASD's communications rules to 
correspondence directed towards a single customer, is designed to 
protect existing and prospective customers by requiring that such 
correspondence not be misleading.
---------------------------------------------------------------------------

    \10\ In approving this rule, the Commission has considered the 
proposed rule's impact on efficiency, competition, and capital 
formation. 15 U.S.C. 78c(f).
    \11\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

    The NASDR proposes to define the word ``correspondence'' in new 
subparagraph (a)(3) to NASD Rule 2210 as ``. . .[a]ny written or 
electronic communication prepared for delivery to a single current or 
prospective member, and not for dissemination to multiple customers or 
the general public.'' The Commission believes that the proposed new 
definition of the word ``correspondence'' adequately addresses the type 
of communications sent by member firms to prospective and existing 
customers that satisfy the definitions of neither ``advertising'' nor 
``sales literature'' under the rule. In addition, the Commission 
believes the proposal appropriately advises members and NASD examiners 
to consider, among other things, the form and content of the 
communication when determining whether a given communication 
constitutes correspondence.
    As discussed above, the NASDR proposal would apply the general and 
certain specific standards of NASD Rule 2210 to correspondence directed 
towards a single customer. The Commission believes that the NASD Rule 
2210 requirements, which are designed to ensure that communications are 
fair, balanced, and not misleading, are consistent with the Act. The 
Commission believes that the application of such standards to 
correspondence directed towards a single customer is appropriate, as 
such persons have as much, if not more, reason to rely on the veracity 
and accuracy of the content of such correspondence as would the 
recipient of a ``form'' letter, which is subject to all of the general 
and specific standards of NASD Rule 2210. The Commission recognizes 
that several existing NASD Rules, including NASD Rules 2110, 3010, and 
IM-2310-2,\12\ impose broad-based requirements on NASD member firms to 
deal fairly with the public. Nonetheless, the Commission believes that 
the more specific requirements set forth in the current proposal should 
help to clarify member firms' obligations with respect to written and 
electronic correspondence directed towards a single existing or 
prospective customer.
---------------------------------------------------------------------------

    \12\ NASD Rule 2110 requires that ``[a] member, in the conduct 
of his business, shall observe high standards of commercial honor 
and just and equitable principles of trade.'' NASD Rule 3010(d) sets 
forth members' responsibilities relating to the supervision of 
correspondence. IM-2310-2 sets forth member firms' obligations in 
their dealings with customers.
---------------------------------------------------------------------------

    The Commission also believes that the NASDR's proposal to apply 
only certain of the specific standards set forth in subparagraph (d)(2) 
to NASD Rule 2210 to correspondence directed towards a single customer 
is reasonable. To require each of the specific standards of NASD Rule 
2210 to be applied would likely overwhelm the recipient of such 
correspondence with irrelevant, and possibly confusing, information. 
The Commission believes that the NASDR's proposal to apply certain of 
the specific standards set forth in subparagraph (d)(2) to NASD Rule 
2210 reasonably balances member firms' need for workable regulatory 
guidelines with investors' need for reliable information. Accordingly, 
the Commission believes that the proposed rule change, as amended, is 
consistent with the Act.
    The Commission finds good cause for approving proposed Amendment 
No. 2 prior to the thirtieth day after the date of publication of 
notice of filing thereof in the Federal Register. In Amendment No. 2, 
the NASDR addresses the concerns raised in the one comment letter 
received by the Commission on this proposal. Amendment No. 2 modifies 
the original filing only slightly, in response to specific comments 
made in the ICI Letter. Specifically, Amendment No. 2 deletes the 
phrase ``or a single customer'' in subparagraph (d)(1)(D)(ii) to NASD 
Rule 2210 and limits the applicability of subparagraph (d)(2)(L) to 
NASD Rule 2210 to advertisements and sales literature. As the 
modifications proposed in Amendment No. 2 are reasonable and do not 
significantly alter the original proposal, the Commission believes that 
Amendment No. 2 raises no issues of regulatory concern. Accordingly, 
the Commission believes that it is consistent with Section 15A(b)(6) of 
the Act \13\ to approve Amendment No. 2 to the proposed rule change on 
an accelerated basis.
---------------------------------------------------------------------------

    \13\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

V. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning Amendment No. 2, including whether Amendment No. 2 
consistent with the Act. Persons making written submissions should file 
six copies thereof with the Secretary, Securities and Exchange 
Commission, 450 Fifth Street, NW., Washington, DC 20549. Copies of the 
submission, all subsequent amendments, all written statements with 
respect to the proposed rule change that are filed with the

[[Page 47064]]

Commission, and all written communications relating to the proposed 
rule change between the Commission and any person, other than those 
that may be withheld from the public in accordance with the provisions 
of 5 U.S.C. 552, will be available for inspection and copying in the 
Commission's Public Reference Room, 450 Fifth Street, NW, Washington, 
DC 20549. Copies of all such filings will also be available for 
inspection and copying at the principal office of the NASD. All 
submissions should refer to File No. SR-NASD-98-29 and should be 
submitted by September 24, 1998.

VI. Conclusion

    It Is Therefore Ordered, pursuant to Section 19(b)(2) of the 
Act,\14\ that the proposed rule change (SR-NASD-98-29), as amended, is 
approved.

    \14\ 15 U.S.C. 78s(b)(2).
---------------------------------------------------------------------------

Jonathan G. Katz,
Secretary.
    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\15\
---------------------------------------------------------------------------

    \15\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Jonathan G. Katz,
Secretary.
[FR Doc. 98-23769 Filed 9-2-98; 8:45 am]
BILLING CODE 8010-01-M