[Federal Register: February 23, 2007 (Volume 72, Number 36)]
[Rules and Regulations]
[Page 8106-8109]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr23fe07-6]
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COMMODITY FUTURES TRADING COMMISSION
17 CFR Part 4
RIN 3038-AC35
Advertising by Commodity Pool Operators, Commodity Trading Advisors, and the Principals Thereof
AGENCY: Commodity Futures Trading Commission.
ACTION: Final rules.
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SUMMARY: The Commodity Futures Trading Commission (Commission or CFTC) has amended Regulation 4.41, which governs advertising by commodity pool operators (CPOs), commodity trading advisors (CTAs), and the principals thereof, (1) To restrict the use of testimonials, (2) to clarify the required placement of the prescribed simulated or hypothetical performance disclaimer, and (3) to include within the regulation's coverage advertisement through electronic media (Amendments). This action is in furtherance of the Commission's longstanding view that all advertisements by CPOs, CTAs, and their principals must not be fraudulent, deceptive or misleading.
EFFECTIVE DATE: March 26, 2007.
FOR FURTHER INFORMATION CONTACT: Barbara S. Gold, Associate Director,
or Peter B. Sanchez, Staff Attorney, Division of Clearing and
Intermediary Oversight, Commodity Futures Trading Commission, 1155 21st
Street, NW., Washington, DC 20581, telephone numbers: (202) 418-5450 or
(202) 418-5237, respectively; facsimile number: (202) 418-5528; and
electronic mail: [email protected] or [email protected], respectively.
SUPPLEMENTARY INFORMATION:
I. Background
A. Regulation 4.41
Part 4 of the Commission's regulations governs the operations and
activities of CPOs and CTAs.\1\ In particular, Regulation 4.41 pertains
to advertising by CPOs, CTAs, and the principals \2\ thereof, an issue
first addressed by the Commission over 25 years ago. The Commission
originally proposed that CPOs, CTAs, and their principals could not
advertise their actual past performance results in a format other than
that which the CPO or CTA was required to use in its Disclosure
Document,\3\ and that the presentation of simulated or hypothetical
performance of a CPO, CTA, or the principals thereof would be
prohibited.\4\ In response to the comments received and its further
deliberations on these proposals, the Commission adopted less
restrictive advertising regulations.\5\
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\1\ 17 CFR Part 4 (2006). The Commodity Exchange Act (Act), 7
U.S.C. 1 et seq. (2000), and the Commission's regulations issued
thereunder may be accessed through the Commission's Web site, at
http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.cftc.gov/cftc.cftclawreg.htm.
\2\ The definition of the term ``principal'' is set forth in
Regulation 4.10(e)(1), which cross-references the definition of the
term in Regulation 3.1(a). An example of a principal of a CPO
organized as a corporation would be the corporation's chief
executive officer.
\3\ Regulations 4.21 and 4.24-4.26 and 4.31 and 4.34-4.36
concern the Disclosure Document that registered CPOs and CTAs,
respectively, must prepare, deliver, and file.
\4\ 45 FR 51600 (Aug. 4, 1980).
\5\ 46 FR 26004 (May 8, 1981).
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With respect to the presentation of actual past performance, the
Commission explained that it had adopted in Regulation 4.41(a) ``a rule
that leaves to the discretion of the [CPO, CTA, or principal]
advertising performance results--whether actual, simulated or
hypothetical--the format of that presentation, so long as that format
is not false, misleading or deceptive.'' \6\ With regard to the
presentation of simulated or hypothetical performance results, the
Commission explained that it had adopted in Regulation 4.41(b) ``a rule
that allows the presentation of those results, provided that the
presentation is accompanied by the statement prescribed in the rule,''
whose purpose was ``to alert prospective customers to the limitations
inherent in simulated and hypothetical past performance
[[Page 8107]]
results.'' \7\ The Commission also noted the scope of new Regulation
4.41--that it applied to both oral and written communications and
regardless of whether a CPO or a CTA was exempt from registration under
the Act.\8\
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\6\ While acknowledging that it was not possible to identify
every advertisement that was prohibited by new Regulation 4.41, the
Commission nonetheless gave notice in the Federal Register release
announcing the adoption of the rule that it would consider the
following, non-exclusive list of advertisements, to be prohibited:
(1) References only to successful trades, if during the same
time period, trades which were unsuccessful were also recommended or
executed; (2) references to the results during a specific time
period, if the results claimed were not fairly representative of
results achieved for comparable periods; (3) suggestions, assurances
or claims of profit potential that do not also fairly present the
possibility of loss; (4) statements of opinions or predictions which
are not clearly labeled as such or which have no reasonable basis in
fact; and (5) failure to disclose whether, and to what extent, fees,
commissions and other expenses are reflected in the past performance
results. Id. at 26012.
\7\ Id.
\8\ Section 4m(1) of the Act, 7 U.S.C. 6m(1) (2000), generally
requires the registration of CPOs and CTAs. Regulation 4.13 provides
exemptions from CPO registration for certain persons, and Sections
4m(1) and 4m(3) and Regulation 4.14 provide exemptions from CTA
registration for certain other persons.
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B. The Proposal
Based upon its experience with the operation of Regulation 4.41
over the course of the past 25 years, on August 23, 2006, the
Commission published for comment proposed amendments to the regulation
(Proposing Release).\9\ Specifically, the Commission proposed to amend
Regulation 4.41: (1) To restrict the use of testimonials; (2) to
clarify the required placement of the prescribed simulated or
hypothetical performance disclaimer; and (3) to include within the
regulation's coverage advertisement through electronic media
(Proposal).
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\9\ 71 FR 49387. The Proposing Release may be accessed through
the Commission's Web site, at http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.cftc.gov/files/foia/fedreg06/foi060823a.pdf
.
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C. The Comments on the Proposal
The Commission received six comment letters in response to the
Proposal, as follows: \10\ one from a registered futures association;
one from a bar association; one from a futures industry trade
association; and three from unregistered CTAs.\11\ The first three
commenters supported the Proposal, stating that it would further the
goals of Regulation 4.41. The CTAs, however, questioned the
Commission's authority to adopt and maintain Regulation 4.41
altogether.
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\10\ The comments on the Proposal similarly may be accessed
through the Commission's Web site, at http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.cftc.gov/foia/comment06/foi06_005_1.htm
.
\11\ It appears that each of these CTAs is exempt from
registration pursuant to Regulation 4.14(a)(9), which provides an
exemption from registration for a CTA who does not direct client
accounts or who does not provide commodity interest trading advice
based on, or tailored to, the commodity interest or cash market
positions or other circumstances or characteristics of particular
clients.
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Specifically, they objected to Regulation 4.41 on the grounds that
it violates the First Amendment as applied to some CTAs. However, as
the Commission explained in the Proposing Release, false, deceptive or
misleading commercial speech is not protected by the First Amendment,
and disclosure requirements to ensure that commercial speech is not
false, deceptive or misleading are a constitutionally permissible form
of regulation.\12\ Thus, the Commission continues to believe that,
because Regulation 4.41 applies to forms of communication used by CTAs
and CPOs for marketing their services, the regulation is subject to the
constitutional standards for commercial speech and it complies with
those standards.
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\12\ 71 FR at 49389, citing Zauderer v. Office of Disciplinary
Counsel, 471 U.S. 626, 638 (1985), and Pearson v. Shalala, 164 F.3d
650, 655 (D.C. Cir. 1999).
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In light of the foregoing and the specific comments the Commission
received on the Proposal, which are discussed more fully below, the
Commission is adopting the revisions to Regulation 4.41 as proposed. In
the Proposing Release, the Commission provided a detailed explanation
of each revision it had proposed to make. Accordingly, the scope of
this Federal Register release generally is restricted to responding to
the comments received on the Proposal. The Commission invites
interested persons to read the Proposing Release for a fuller
discussion of the purpose of each of the amendments contained in the
Proposal.
II. Responses to the Comments
A. New Regulation 4.41(a)(3): Testimonials on Actual Past Performance
of CPOs, CTAs, and Their Principals
As proposed and as adopted, Regulation 4.41(a)(3) requires
advertisements of the actual past performance of a CPO, CTA, or a
principal thereof that refer to a testimonial to prominently disclose
specified information about the testimonial--e.g., that it may not be
representative of the experience of other clients. As the Commission
noted, it modeled this provision upon Rule 2210(d)(2) of the National
Association of Securities Dealers, Inc. (NASD), which sets similar
limits on the use of testimonials in advertisements and other marketing
materials applicable to NASD members--i.e., persons who are registered
as securities broker-dealers under the Securities Exchange Act of 1934
(BDs).\13\
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\13\ 71 FR at 49388 n.9.
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One commenter questioned why the Commission proposed to regulate
the use of testimonials along the lines of the NASD requirement for
BDs, as opposed to adopting an outright prohibition against their use--
as the Securities and Exchange Commission has done with respect to
persons registered or required to be registered as investment
advisers.\14\ The same commenter asked the Commission to explain its
rationale for how it approached the use of testimonials--e.g., whether
the Commission had based its approach on problems the Commission had
observed or on requests for clarification from CPOs and CTAs.
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\14\ See 17 CFR 275.206(4)-1(a)(1) (2006).
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The purpose of this amendment, as with all of the Amendments, is to
``modernize and clarify'' the Commission's regulations concerning
communications with the public--which was the same purpose of the NASD
in proposing its Rule 2210(d)(2).\15\ While the Commission based this
amendment on the observations of its staff, those observations were not
of a nature so as to justify the adoption of an outright ban on
testimonials at this time. In addition, the Commission notes that, as
proposed and as adopted, Regulation 4.41(a)(3) applies to all CPOs and
CTAs, not solely to those CPOs and CTAs subject to registration.
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\15\ See 68 FR 27116 at 27117 (May 19, 2003).
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B. Amended Regulation 4.41(b): The Statement That Must Accompany
Simulated or Hypothetical Performance of CPOs, CTAs, and Their
Principals
1. Regulation 4.41(b)(1): The Text of the Statement
Regulation 4.41(b)(1) prohibits the presentation of simulated or
hypothetical performance results of a CPO, CTA, or principal thereof
unless that presentation is accompanied by either: (1) The statement
prescribed by the regulation; or (2) a statement prescribed by a
registered futures association. The National Futures Association (NFA)
currently is the sole registered futures association, and it has
prescribed such a statement in its Compliance Rule 2-29(c).\16\ As
proposed, the Commission has amended Regulation 4.41(b)(1) so as to
clarify the meaning of the term ``accompanied by'' in the context of
the statement prescribed by the regulation.\17\
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\16\ All of NFA's rules can be accessed through NFA's Web site,
http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.nfa.futures.org.
\17\ The Commission additionally has conformed the reference to
performance in the statement to the references throughout Regulation
4.41(b), so the statement now refers to ``simulated or
hypothetical'' performance (whereas previously it referred to
``hypothetical or simulated'' performance).
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One of the commenters on the Proposal questioned the need for
alternative statements under the regulation. In response, the
Commission notes that the availability of alternative statements
provides a meaningful option for compliance with the regulation.
Indeed, in the more than ten years following NFA's adoption of
[[Page 8108]]
Compliance Rule 2-29(c),\18\ the Commission has not been made aware of
any compliance or other issues arising from the existence of
alternative cautionary statements in Regulation 4.41(b)(1).\19\
Accordingly, the Commission has not adopted the recommendation of this
commenter that it abandon its own prescribed statement in favor of the
prescribed NFA statement.
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\18\ See NFA Notice to Members, Notice I-95-24 (Dec. 28, 1995).
\19\ The Commission also notes that the use of alternative
cautionary statements is not restricted to the presentation of
simulated or hypothetical performance results. Commission Regulation
1.55(b) sets forth the risk disclosure statement to be made to
customers by futures commission merchants (FCMs) and introducing
brokers (IBs). Regulation 1.55(a) provides, however, that the
Commission may approve a risk disclosure statement authorized by one
or more foreign regulatory agencies or self-regulatory
organizations. In 1994, the Commission approved the use of an
alternative risk disclosure for use by FCMs and IBs for trading in
futures and options in the United States, the United Kingdom, and
Ireland. 59 FR 34376 (Jul. 5, 1994). The Commission similarly is
unaware of any compliance or other problems arising from the
existence of such dual general risk disclosures.
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Two commenters recommended that the Commission adopt an exception
to its prescribed statement where advertisements are directed solely to
persons who meet the definition of ``qualified eligible person'' (QEP)
in Commission Regulation 4.7.\20\ They claimed adoption of such an
exception would be consistent with NFA Compliance Rule 2-29(c)(6).
However, based upon its review of the record of the adoption of the NFA
rule, the Commission has concluded that the NFA rule does not provide
for any such exception.
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\20\ Regulation 4.7 makes relief from otherwise applicable
disclosure, reporting and recordkeeping requirements available to
registered CPOs and CTAs whose participants and clients are solely
QEPs--e.g., certain Commission and SEC registrants, ``knowledgeable
employees'' and ``qualified purchasers,'' and accredited investors
who have investments with an aggregate market value of $2 million.
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In its Notice to Members announcing the adoption of amendments to,
and a formal interpretation of, Compliance Rule 2-29(c), NFA stated:
Compliance Rule 2-29(c) and the Interpretative Notice do not
apply to promotional materials directed exclusively to [QEPs] as
defined in CFTC Regulation 4.7. However, CFTC Regulation 4.41(b)
requires CPOs and CTAs to provide all potential pool participants or
clients with either the disclaimer in NFA Compliance Rule 2-29(c) or
the shorter disclaimer in CFTC Regulation 4.41(b)(1)(i) if they are
using hypothetical performance results. Therefore, promotional
materials directed to QEPs by CPOs and CTAs should continue to
include the disclaimer in CFTC Regulation 4.41(b)(i) (unless they
include the disclaimer in Compliance Rule 2-29(c)) (emphasis in the
original).\21\
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\21\ See supra n. 18.
This NFA advice was issued pursuant to the Commission's letter
approving the amendments and interpretation, which stated:
Under recently-amended Commission Regulation 4.41, persons who
present commodity interest hypothetical trading results in their
promotional material must include in such materials either the
disclaimer specified in Commission Regulation 4.41(b)(1)(i) or a
disclaimer which complies with the rules promulgated by a registered
futures association pursuant to Section 17(j) of the Act.
Accordingly, NFA should inform its members that while new NFA
Compliance Rule 2-29(c)(4) would not require members to provide
[QEPs] with any disclaimer under Rule 2-29, members would be
required to provide QEPs with a disclaimer pursuant to Commission
Regulation 4.41(b)(1)(i). Letter from Jean A. Webb, Secretary of the
Commission, to Daniel J. Roth, NFA's General Counsel, dated Dec. 12,
1995.
Moreover, given the nature of simulated or hypothetical performance
results, the Commission does not believe that it is appropriate to
extend the approach of fewer disclosures to QEPs in this instance. Due
to their financial sophistication and/or wealth, QEPs may justifiably
be presumed to be better equipped to obtain information regarding
industry professionals and to scrutinize the risks and rewards for
particular investments. However, it is not clear that QEPs, solely by
virtue of their being QEPs, are able to identify each instance in which
otherwise unexplained performance results are simulated or
hypothetical.
Accordingly, the Commission has not adopted the recommendation of
these commenters.
2. Regulation 4.41(b)(2): The Meaning of ``In Immediate Proximity''
Regulation 4.41(b)(2) requires that the statement prescribed by
Regulation 4.41(b)(1) be ``prominently disclosed'' if the simulated or
hypothetical performance that is presented is other than oral. In order
to make clear that simulated or hypothetical performance is clearly
identified as such, as proposed and as adopted, Regulation 4.41(b)(2)
specifies that the prescribed disclaimer also must be ``in immediate
proximity to the simulated or hypothetical performance being
presented.''
One commenter suggested that the proposed amendment lacked
specificity as to the term ``in immediate proximity.'' The commenter
requested that the Commission either define the term ``in immediate
proximity'' or provide examples of how compliance with that requirement
would be assessed in practice.
In determining what constitutes ``in immediate proximity'' for the
purpose of Regulation 4.41(b), the Commission does not believe that a
bright-line test is practical for all circumstances. Rather, the
Commission believes that, in determining what would constitute ``in
immediate proximity'' to the simulated or hypothetical performance
being advertised, the person providing the prescribed statement should
use its best judgment. If it would be clear to someone viewing the
simulated or hypothetical performance results that the statement is
intended to refer to those particular performance results, then the
statement would be ``in immediate proximity'' to the performance
results.\22\ Thus, placing the statement on the cover page of a
document would not be sufficient, because it would be on a different
page from the simulated or hypothetical performance being shown.
Similarly, if simulated or hypothetical performance results appear on
several pages, the statement should appear on a sufficient number of
pages so as to leave no doubt as to the nature of the performance
results as they appear on each of those several pages.
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\22\ Additional guidance regarding unacceptable practices can be
gleaned from past enforcement actions concerning violations of
Section 4o of the Act and Regulation 4.41. See, e.g., CFTC v.
Vartuli, 228 F.3d 94 (2d Cir. 2000) (prescribed statement appears on
a separate page from the hypothetical trading results), and CFTC v.
Heffernan, 245 F.Supp.2d 1276 (S.D. Ga. 2003) (statement on a
webpage, but not included in the original advertisement containing
the hypothetical performance).
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II. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act (RFA) \23\ requires that agencies,
in proposing regulations, consider the impact of those regulations on
small businesses. The Commission has previously established certain
definitions of ``small entities'' to be used by the Commission in
evaluating the impact of its regulations on such entities in accordance
with the RFA.\24\
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\23\ 5 U.S.C. 601 et seq.
\24\ 47 FR 18618 (Apr. 30, 1982).
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With respect to CTAs, the Commission has previously stated that it
would evaluate within the context of a particular rule proposal whether
all or some affected CTAs would be considered to be small entities and,
if so, the economic impact on them of the proposal.\25\ Moreover, the
Commission stated that CPOs would be considered small entities if they
are exempt from registration by virtue of Regulation 4.13(a).\26\ The
Commission does not believe that the Amendments will have a significant
impact on affected CTAs,
[[Page 8109]]
CPOs, and their principals. This is because the only burden that will
be imposed by the Amendments will be in furtherance of the obligation
to comply with the antifraud provisions of Section 4o of the Act when
presenting the past performance of CTAs, CPOs, and their principals--
whether by way of actual, simulated or hypothetical performance or
through the use of testimonials. Assuming arguendo, however, that
compliance with Section 4o will constitute a significant burden, the
burden is neither new nor additional, because the Amendments are
consistent with the Commission's longstanding interpretation of Section
4o as applicable to all advertisements by CTAs, CPOs, and their
principals, including advertisements that are viewed electronically,
and with the requirement that such advertisements must not be false or
misleading.
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\25\ Id. at 18620.
\26\ Id.
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The Commission did not receive any comments relative to its
analysis of the application of the RFA to the Proposal.
B. Paperwork Reduction Act
The Paperwork Reduction Act of 1995 (PRA) \27\ imposes certain
requirements on Federal agencies (including the Commission) in
connection with their conducting or sponsoring any collection of
information as defined by the PRA. The Amendments do not require a new
collection of information on the part of any entities.
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\27\ 44 U.S.C. 3501 et seq.
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The Commission did not receive any comments relative to its
analysis of the application of the PRA to the Proposal.
C. Cost-Benefit Analysis
Section 15(a) of the Act \28\ requires the Commission to consider
the costs and benefits of its action before issuing a new regulation
under the Act. By its terms, Section 15(a) does not require the
Commission to quantify the costs and benefits of a new regulation or to
determine whether the benefits of the proposed regulation outweigh its
costs. Rather, Section 15(a) simply requires the Commission to
``consider the costs and benefits'' of its action.
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\28\ 7 U.S.C. 19(a) (2000).
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Section 15(a) further specifies that costs and benefits shall be
evaluated in light of five broad areas of market and public concern:
Protection of market participants and the public; efficiency,
competitiveness, and financial integrity of futures markets; price
discovery; sound risk management practices; and other public interest
considerations. Accordingly, the Commission could in its discretion
give greater weight to any one of the five enumerated areas and could
in its discretion determine that, notwithstanding its costs, a
particular regulation was necessary or appropriate to protect the
public interest or to effectuate any of the provisions or to accomplish
any of the purposes of the Act.
The Commission did not receive any comments relative to its cost-
benefit analysis of the Proposal.
List of Subjects in 17 CFR Part 4
Advertising, Commodity pool operators, Commodity trading advisors,
Commodity futures, Commodity options, Customer protection, Reporting
and Recordkeeping.
0
For the reasons presented above, the Commission hereby amends chapter I
of Title 17 of the Code of Federal Regulations as follows:
PART 4--COMMODITY POOL OPERATORS AND COMMODITY TRADING ADVISORS
0
1. The authority citation for part 4 continues to read as follows:
Authority: 7 U.S.C. 1a, 2, 4, 6b, 6c, 6l, 6m, 6n, 6o, 12a, and
23.
0
2. Section 4.41 is amended by removing ``or'' at the end of paragraph
(a)(1), removing the period and adding a semi-colon and ``or'' at the
end of paragraph (a)(2), adding new paragraph (a)(3), and revising
paragraphs (b)(1)(i), (b)(2), and (c)(1) to read as follows:
Sec. 4.41 Advertising by commodity pool operators, commodity trading
advisors, and the principals thereof.
(a) * * *
(3) Refers to any testimonial, unless the advertisement or sales
literature providing the testimonial prominently discloses:
(i) That the testimonial may not be representative of the
experience of other clients;
(ii) That the testimonial is no guarantee of future performance or
success; and
(iii) If, more than a nominal sum is paid, the fact that it is a
paid testimonial.
(b) * * *
(1) * * *
(i) The following statement: ``These results are based on simulated
or hypothetical performance results that have certain inherent
limitations. Unlike the results shown in an actual performance record,
these results do not represent actual trading. Also, because these
trades have not actually been executed, these results may have under-or
over-compensated for the impact, if any, of certain market factors,
such as lack of liquidity. Simulated or hypothetical trading programs
in general are also subject to the fact that they are designed with the
benefit of hindsight. No representation is being made that any account
will or is likely to achieve profits or losses similar to these being
shown.'' ; or
* * * * *
(2) If the presentation of such simulated or hypothetical
performance is other than oral, the prescribed statement must be
prominently disclosed and in immediate proximity to the simulated or
hypothetical performance being presented.
(c) * * *
(1) To any publication, distribution or broadcast of any report,
letter, circular, memorandum, publication, writing, advertisement or
other literature or advice, whether by electronic media or otherwise,
including information provided via internet or e-mail, the texts of
standardized oral presentations and of radio, television, seminar or
similar mass media presentations; and
* * * * *
Issued in Washington, DC, on February 16, 2007, by the
Commission.
Eileen A. Donovan,
Acting Secretary of the Commission.
[FR Doc. E7-3122 Filed 2-22-07; 8:45 am]
BILLING CODE 6351-01-P
Last Updated: May 9, 2012