NASAA applauds SEC proposal to simplify mutual fund disclosures

By Jay Fishman, J.D.

The North American Securities Administrators Association (NASAA), on January 4, 2021, submitted a letter to the SEC applauding the Commission’s proposal to simplify investment company shareholder reports, to make them shorter, user-friendly and much more digestible for retail investors. But to ensure the likelihood that investors actually read and rely on the mutual fund disclosures following implementation of the reforms, NASAA suggested some changes to the proposal.

Why NASAA applauds the proposal. NASAA applauds this proposal to overhaul how open-end management investment companies, i.e., mutual funds and exchange-traded funds (ETFs), communicate with investors because while the current disclosure framework for prospectuses; Statements of Additional Information (SAIs); annual and semi-annual shareholder reports; portfolio holding reports; and investment company advertising would be retained, the disclosures in these documents would be targeted to different audiences. Specifically, annual and semi-annual shareholder reports would be targeted to existing investors while prospectuses would be geared to prospective investors. Other changes would include:

• Revising Form N-IA and instructions to encourage more succinct and digestible disclosures;
• Shortening shareholder reports and making them user-friendly by adding graphics;
• Simplifying prospectuses by curbing verbose summary risk disclosures;
• Replacing the statutory prospectus’s existing fee table in the summary section with a simplified fee summary;
• Moving all non-principal risk disclosures into SAIs;
• Adjusting disclosures related to acquired fund fees and expenses; and
• Make conforming updates to the SEC’s relevant advertising rules.

Suggested changes to the proposal. NASAA’s letter did, however, contain a number of suggestions for the SEC to make to the proposal. Regarding fees, NASAA recommended that the footnotes to the shareholder expense report direct investors to where they can learn more about the fund’s costs, particularly fees or expenses not captured by the report’s presentation. While the current footnote clearly states that the expense report presentation does not necessarily reflect every fee or expense an investor might experience, it should further provide information on those costs and where investors can find disclosures about them. Pertaining to risk disclosures, NASAA said the proposal should mandate that funds not simply copy and paste generic language about risks but, instead, add an explicit instruction to Form N-IA’s item 4 prohibiting these lengthy verbose risk disclosures, along with requiring funds to tailor their prospectus risk disclosures to the specific profile of each investment series. And concerning "series," NASAA recommended that funds be required to prepare separate annual and semi-annual shareholder reports for each fund or series rather than continuing with the current system that consolidates shareholder reports for multiple series into a single document. NASAA’s concern is that since these consolidated reports often run hundreds of pages, investors are burdened with having to scroll through them just to find the series name or ticker symbol for their respective investment and may give up on doing so.

Follow-up. NASAA suggested that after the proposal’s adoption, the Commission plan post-implementation testing and investor surveys to ensure that the new forms and disclosures are working as intended. Also, NASAA implored the SEC’s Office of Investor Education and Advocacy to work with NASAA and state securities regulators to develop new investor education materials to instruct investors on these reforms.