Series 6 Study Guide
Post 1 of 13
- 1.1 Reaching out to current and potential customers
- 1.2 Describing to potential and current customers
- 2.1 Provides information about the different account types
- 2.2 Secures customer information/documentation and looks out for suspicious activity
- 2.3 Tries to secure investment profile information regarding the customer
- 2.4 Opening accounts and the supervisory approval
- 3.1 Give customers details regarding strategies for investment
- 3.2 Studies and scrutinizes the investment profiles of customers
- 3.3 Highlights various disclosures to customers about investment products
- 3.4 Keeps customer records
- 4.1 Gives current quotes
- 4.2 Confirmation for customer transactions in line with all regulatory requirements
- 4.3 Tell relevant superior and help with the solution to any customer complaints
Post 1 of 13 in the Series 6 Study Guide
A major part of a registered representative’s job involves communicating with the public.
This is something that’s covered in the Series 6 exam, so you should pay attention to it.
Registered representatives and communicating with the public
The Financial Industry Regulatory Authority (FINRA) takes communication with the public very seriously, as it’s a large part of a registered representative’s daily tasks.
FINRA sees it as such a critical aspect that they’ve included various conduct rules governing communication with the public in their regulations.
Much of this revolves around not providing information to clients or potential clients that is deceptive, manipulative, or fraudulent.
Communication must always be fair and carried out in good faith at all times.
It should always be provided by first evaluating all the necessary facts regarding a security before offering an opinion on it, for example.
A client cannot be misled by only communicating certain positive aspects of a security or a service offered.
Regulations state that neither material facts nor qualifications should be left out of any communication if they could play a part in a client’s final decision.
Also, communication should never be misleading or exaggerated in any way.
FINRA says the following should be considered in helping to determine whether a communication is misleading or not.
- The context of the statement overall. In one context, a statement may be misleading, but then again, in another, it’s not. Consider risks and potential returns as a way to see if the statement offers balanced treatment to the investor.
- The various levels of detail or explanation needed for communication. Who is going to come into contact with it? Will it only be sent to a certain group of investors or will the general public see it. For example, communication for sophisticated investors might be misleading to the general public.
- The communication’s overall clarity. FINRA says that rule violations may occur as a result of misunderstandings caused by unclear statements with regard to communication to investors or potential investors.
An example of what might be seen as misleading is when material disclosures or technical explanations that might be confusing to investors are put into footnotes of various forms of communication.
There are three categories of communication as set out by FINRA and rules are applied differently depending on the type of communication used.
The three types are:
- Institution communication
- Retail communication
Let’s look at these in more detail.
When we talk about institutional communication, we are talking about written communication between a member firm and its institutional investors.
Institutional investors include:
- Savings and loan associations
- Insurance companies
- Registered investment companies
- SEC-registered investment adviser
- State Securities Commission registered investment adviser
- Natural persons, partnerships, trusts, or corporations with over $50 in total assets
It does not include any communication that’s carried out internally.
Before the dawn of the internet and electronic communication, most of this type of information was in written form.
Nowadays, it’s almost all electronic.
Should communication sent out by a member firm be made available to a retail investor, or the member firm has reason to believe that it has been forwarded to them in some way, FINRA regulations say that cannot be treated as having been sent to institutional investors.
Before use and even post-use review, member firms will have to determine if any of their institutional communication needs approval from a principal.
In the case of principal approval not being required, broker-dealers will need to ensure that associate persons are trained and educated about institutional communication and who it is targeted at.
When talking about retail communication, this has two key components.
First, it’s going to be distributed to more than 25 retail investors.
Secondly, the distribution period in which those 25 or more retail investors will be subject to the communication is any 30-day calendar period.
So what constitutes a retail investor then?
Well, anyone that’s not an institutional investor is considered to be a retail investor.
The other critical factor about this investor group is the fact that they don’t necessarily have to have an investment account with the member firm that’s communicating with them.
Examples of retail advertising include:
- Sales scripts
- Social media posts that are seen by more than 25 retail investors
- Radio advertising
- Television advertising
- Independently prepared advertising reprints
Before any retail advertising is used by a member firm, it must first be approved by a principal.
It also will need to be filed with FINRA as per their regulations in which filing requirements can be found under Rule LO 5.b.
In some circumstances, however, depending on the time a member firm will distribute retail communication, it won’t need to receive principal approval.
- The communication has already been filed with FINRA by another member firm and has received approval for it
- If used by a member in a way that’s consistent with and in reliance upon the letter and without any alterations
Principal approval is also not needed should communication be placed in online forums, if it doesn’t promote services or products of the member firm or if no investment or financial advice is given at any time.
For the Series 6 exam, always remember that when customers are not institutional, they are most definitely retail.
Correspondence differs from retail communication in the fact that it is going to 25 or fewer retail investors within a 30-day calendar period.
It covers all forms of written communication member firms might send out both physical and electronic.
Before it’s used for the first time, or at least after it has been used, it must first be established if any communication deemed as correspondence must receive principal approval.
Should it not require the principal approval before it is used, broker-dealers will need to ensure that associated persons are trained and educated about communication considered to be correspondence
When a member firm receives incoming correspondence, this will need to be reviewed by a principal.
That’s because their oversight is essential when dealing with complaints against the member firm or registered representatives thereof.
It will also help to find attempts at potential fraud as well as any other activities that might be deemed to be inappropriate.
For the Series 6 exam, you should remember that whenever communication goes out to the public, it will have to have the member firm’s name in it.
The only time this rule doesn’t need to be adhered to is when the member firm makes use of recruitment advertising.
When looking to find potential employees to fill a position, the member firm will not need to disclose their name.
The use of social media
Over the past decade, social media has become a substantial part of any modern business, even for those that deal with securities.
It’s pretty tricky too.
That’s because regulations regarding the use of social media mean that member firms not only have to ensure that their own social media activities don’t break the rules but all their representatives too.
That means that all these social media accounts will need to be monitored.
Principal approval is needed for the content that will appear on a blog or website.
In some cases, depending on the subject of the content, it will need to be approved by FINRA as well.
Again, if posts are made in online forums by registered representatives of a member firm, approval is not necessary.
That being said, there must be procedures and policies in place that govern these types of forum posts.
Also, social media usage is allowed as a way for registered representatives to engage with potential and even current customers.
Other communication types
There are also other types of communication that we need to cover in terms of their characteristics and whether a registered representative will need approval should they partake in them.
The first is public appearances.
A public appearance can be many things.
- Taking part in an interactive forum
- Being interviewed on TV or radio
- Public speaking
- Taking part in a webinar
- Taking part in a seminar
Each member firm to consider these public appearances and then to have procedures drawn up for them.
In this way, a registered representative will have a guideline as to what they can and cannot do when they partake in one of the public appearances that we’ve outlined above.
Other than having procedures in place, ensuring that registered representatives receive education and training as a way to prepare them for public appearances is a must.
Records of this training should be kept as well as if registered representatives have received any follow-up supervision.
This helps to ensure that the member firm’s procedures when it comes to public appearances are properly followed.
FINRA may from time to time request to see evidence of the implementation of supervisory procedures as well as the fact that they have been put into action by the member firm.
Note that a public appearance might see the registered representative giving a presentation or passing on handouts or working from a specific script provided to them by the member firm.
For regulation purposes, these are always considered to be retail communication.
A registered representative might recommend a certain type of security during these public appearances.
Should they do that, FINRA requires that they have a reasonable basis for suggesting it and that it should be in the interest of any potential investors present.
If they have any conflicts of interest, this must be disclosed during the public presentation as well.
For a good example of a conflict of interest, look no further than a registered representative having an interest financially in a product or a security that they recommend.
Our next type of communication is the independently prepared reprint.
Also known as an IPR, this refers to any article reprints.
The main content cannot be altered in any way by the member and therefore need to meet particular standards.
An independent publisher also needs to have issued the reprint.
A qualified IRP will meet the following criteria:
- It cannot be altered in any way by a member firm in terms of the main contents being changed. If there are factual errors these may be changed as well as other changes making it relevant to the member firm.
- The IPR publisher cannot be affiliated with the member firm in any way. The underwriter of the securities mentioned in the reprint or the institution issuing change be the publisher of the IPR either.
- The reprint may not be commissioned by the member firm, securities issuer, or the underwriter mentioned in it.
When it comes to their approval, it depends on what reasons and to what target audience an IPR is being distributed.
For example, institutional communication rules will be in play for those that are used for institutional customers.
Or in the cases of those that are used for retail communication, principal preapproval is a necessity.
What member firms using IPRs won’t have to worry about is FINRA spot checks or the need to file them with the regulator.
That’s not a requirement.
The final communication type that we are going to talk about in this section is research reports.
These documents often focus on either a sector of the economy or even a single stock.
They provide relevant information, for example, if it’s about a particular stock, a research report might advocate that it is the right time to sell that stock, or perhaps buy more of it.
Generally, they are drawn up by analysts that form part of a research team that operates within a broker-dealer or an investment bank.
I am sure you will agree that the information contained in research reports could be critical for an investor, and as such FINRA has regulations around them.
Those regulations are all about ensuring that investors get information that is reliable, accurate, and objective so they can make the proper investment decisions once they’ve looked through relevant reports they receive from member firms.
These regulations also ensure that procedures are put in place by member firms to make sure that these reports show the honest views of those who write them and that their considerations are not shaped by potential conflicts of interest.
Should that not be the case, FINRA can consider thoughts inconsistent with the actual views of the author on the topic as being falsified or dishonest.
The following rules apply to research reports as a way to guarantee that those who receive them know the information contained within is objective:
- Rating systems used in these reports must be thoroughly explained to investors.
- Rating terms must be easy to understand.
- Each category’s percentage of investment banking clients must be noted in the report.
- Each category (buy, sell and hold) must have percentage ratings assigned to them.
- Compensation for analysts cannot be linked to the revenues generated by the member firm through investment banking.
- If a member of their household has a financial interest in the subject company or if the company firm owns 1% or higher of any class of the equities of the subject company at the close of the previous month’s business, analysts must include this in both the research report or any public appearances they make.
- Research reports must include if a member firm has been paid investment banking fees over the past 12 months from a co-managed or sole managed public offering of the company that the research report is about.
- If a broker-dealer or investment adviser uses a research report, other analysis, or recommendations that were authored by other firms or persons, they must disclose this to the client. Reports from others can be used in this way but they must never be presented as the broker-dealer or investment adviser’s own work.
Last, we have electronic communication.
Internet growth over the last few decades means that electronic communication has become the major way in which companies deal with their customers.
For broker-dealers and those in the world of securities, it’s no different really.
The rise in electronic communication means that FINRA has had to come up with a regulatory framework for it.
Take websites for example.
It doesn’t matter if these are for an investment company as a whole, or a registered representative thereof has one set up for their own services, when it comes to the types of communication we dealt with earlier, a website is seen as retail communication.
The relevant rules that guide us with this type of communication are applied to websites.
For example, websites must not include exaggerated claims or any information that could mislead investors.
If one is set up, it will need to be reviewed first and then approved by a principal of the member firm before it can be put into operation.
If they provide a hyperlink back to FINRA’s home page, a firm can then show they are indeed a member of the regulatory organization.
We’ve already mentioned electronic bulletin boards earlier, but let’s just look into these a little more.
Remember, these are seen by FINRA as a form of retail communication.
These are often used by registered representatives but if they do, they will first need principal approval.
It’s impossible, however, for approval to be sought for each post they make, so that’s not a requirement, just as long as the principal does know that the registered representative is making use of these mediums.
Also, when using a chat room, bulletin board, or other similar electronic communication, it’s not necessary for the person using them to tell other users they are registered.
As for instant messaging, that can be both retail communication or correspondence.
The determining factor will be the size of the audience it reaches.
For example, if it’s going to one person, it’s most definitely just correspondence.
If an instant message is sent to a lot of investors (over 25 people) in a Facebook messenger group, for example, then yes, it’s retail communication as per the rules we set out earlier.
Standards of accuracy and overall completeness will be applied to any information shared by registered representatives electronically.
Although it can be more informal at times, this is never seen as chatting with your best friend, for example, and ultimately, you are representing the member firm that you work for.
Generic advertising as per SEC Rule 135a
Let’s start by defining what we mean when we speak about generic advertising.
Well, it’s advertising that’s about securities but not one specific security.
This is the kind of information that you will find in generic advertising:
- The types of securities and investments the company offers
- The way an investment company operates
- Based on the described securities, the services that the company will offer to investors
- The types of investment companies that investors can make use of
- Reinvestment and exchange privilege description
- Information on how to contact the investment company
Generic advertising must include contact details for whoever has sponsored it.
It must never, however, include the name of specific securities.
That’s because that it’s purely informational and isn’t trying to promote specific security.
Lastly, a firm can only place a generic advert if they are offering the type of service of the class of security described within it.
Variable life insurance and variable annuities communication
Over and above FINRA regulations that govern communication, when it comes to variable life insurance and variable annuities, there is another set of standards that need to be applied.
In particular, they focus on sales literature and advertising related to these products.
They also cover communication that might be sent to individuals, for example, personalized letters as well as illustrations that have been generated by a computer and are either available as an attachment to an email, on a website, or even printed.
When communicating about these types of products, it should be clear as to what they are exactly, either a variable life insurance product or a variable annuity, whichever is relevant.
Over and above the descriptions of the products offered, proprietary names can be used during these communications as well.
However, communication can never imply that the product that’s covered or the underlying account that it’s associated with is a mutual fund.
There are various standards with regards to liquidity as well.
Communication for variable life insurance and variable annuities should never represent them as an investment that is for the short-term or that offers liquidity.
That’s because when someone who has an investment like this opts for an early withdrawal (which is certainly possible), they will incur charges related to that, and/or there might be penalties applied that are tax-related.
The negative implications linked to the early withdrawal of capital from these types of investment products must be clearly made if any statement about the ease of liquidation is communicated.
These implications not only mean tax penalties or charges that may be incurred but also:
- Implications for the overall cash value
- Implications on the overall death benefit
These types of products offer various guarantees as well, all of which the insurance company will provide support for based on their ability to pay claims should they arise.
It cannot be implied, however, that these guarantees will apply to either the principal value of the separate account or the return on investment.
At no point can financial ratings of the insurance company apply to a separate account be implied either.
As a way to see if insurance companies can meet their obligations when it comes to the products, a rating system is used.
For example, the overall financial health of an insurance company can be seen through Stand and Poor’s or Moody’s Investor rating systems, which do apply to the insurance industry.
The main rating source for the insurance industry, however, is A.M. Best.
Many clients choose to check the ratings of the firms they are thinking about buying products from and seeing if they can meet their claim obligations when necessary.
Some regulations pertain to how a fund has performed before a variable product became part of it.
Often, this performance is shown through the use of illustrations, for example, a performance graph.
They will show the investment performance of an existing fund operating within a variable annuity policy or life policy.
Should no notable changes have occurred to the fund when it joined the variable product, or at any time following that, the performance that predates its inclusion can be shown.
When it comes to communication regarding single premium variable life products, regulations say that the investment features offered by the product can only be highlighted following a reasonable description of the life insurance aspects as well.
Next, we look at rates of return in variable life insurance shown through the use of hypothetical illustrations.
These are often used to show how variable life policies could perform, specifically in view of their rate of returns.
As this is performance is always assumed, there is a range of rules that apply when these types of illustrations are used:
- They must never be used for investment result projections or predictions.
- Combinations of assumed investment results can only be up to a gross rate of 12% in these illustrations. One of the returns shown must be a 0% gross rate as well. When determining the reasonable maximum rate, always take the market conditions and the investment options available into account.
- For each assumed rate of return shown, these illustrations must show the policy’s expense charges as well as the maximum mortality figures. It can also show what current charges are.
For the most part, regulations don’t allow for the comparison of a variable life product’s performance with that of other investment products.
As a way to show the idea of tax-deferred growth, it is permitted to compare a variable life product to a term insurance product.
Various regulations govern recordkeeping and filing requirements as well.
When it comes to IPRs and other retail communication, these must be kept on file for three years.
This three-year duration must be timed from the time they were last made use of.
It’s recommended that they are kept in separate files along with other information, for example, the name of the person who prepared them as well as who gave the overall approval for that they could be used.
Supervision rules also cover correspondence when it comes to recordkeeping.
A copy of the correspondence from registered representatives of a member firm must be retained in accordance with Rule 3110 and SEC rules 17a-3 and 17-a, all of which pertain to recordkeeping specifically.
Lastly, a three-year requirement in terms of keeping records thereof applies to electronic securities business correspondence as well.
As for filing requirements, there are several regulations to consider.
For those firms that register with FINRA, regulations state that while they operate during the first year following registration, before any retail communication is published, it must first be profiled with the regulatory body.
This includes communication using electronic and/or public media such as:
- Websites accessible to the general public
- Other types of periodicals
- Recordings (audio or telephone)
- Video displays
- Motion pictures
- Telephone directory listings
When a firm is considered to be established – having completed one year of registration with FINRA – filing with FINRA still needs to occur but now is known as post-filing.
This means that when retail communication involves UITs, variable contracts, and mutual funds, it can be filed within 10 business days of having been first used by the member firm.
There is an exception to this, however.
Even if a member firm is established (and has completed a year or more of registration with FINRA), should the retail communication for either UITs, variable contracts, or mutual funds include some form of ranking or comparison, pre-filing with FINRA 10 days before use is necessary.
Should the comparison or ranking be produced by an independent company (for example, Lipper) then it may be post-filed and reach FINRA 10 business days after its initial use.
Note that the retail communication as sent out by member firms can come under FINRA spot checks at any time.
This takes the form of written requests from the regulatory body for material to be sent to them.
This will only be for any material that has not yet been filed with FINRA.
Any previous retail communication that has been used and filed before shouldn’t be resent.
It’s important to note that there are other exemptions when it comes to filing and spot checks.
- Material to be used without changing anything and that was previously filed
- Any retail communication in which investment or financial recommendations are not made
- Any retail communication that does not promote the services of a member firm
- Any retail communication that does not promote a product offered by the member firm
- Any retail communication that does not show a security that the member firm acts as a market maker for
- Any retail communication that doesn’t show the member firm’s national securities exchange symbol
- Any retail communication where the member firm is identified
- Any retail communication where a security, as well as its state price, is shown
- Releases that are for the media only
- IPR reprints or excerpts that are publisher issued
- Institutional communication
- Communication about investment types that are solely part of either the services offered by a member firm or a listing of products
- Retail communication that’s used on online forums
- Press releases from NYSE listed closed-end investment companies
In some cases where FINRA believes that a member firm is not ensuring acceptable standards when it comes to retail communication, they may rule that profiling is necessary for all communication that will be seen by the public.
Member firms and financial institution network arrangements
Should a member firm and a financial institution (a bank, for example) share a networking association, there are special rules in place when it comes to the supervision of communication with the public.
When it comes to conditions and association, FINRA Rule 3160 will help guide member firms in this regard.
So let’s look at an example where a member firm provides broker-dealer services from the financial institution’s premises.
To do so, the firm must:
- Ensure that the registered representative is easily identified as the person providing the broker-dealer services on the premises.
- The broker-dealer services on offer must be easily seen to be set apart from the services that the financial institution offers
- The member firm’s name must be clearly displayed in the area from which they or their registered representative conduct their work from
- If possible, the member firm or their registered representative should operate their services in a location that is away from where the financial institution conducts retail deposit-taking activities.
Let’s also talk about customer disclosure in these networking arrangements.
Either before or when a customer opens an account with a member firm that operates in a networking arrangement with a financial institution, they must be informed in writing of the following:
- The services on offer from the broker-dealer are not provided by the financial institution but only by the member firm.
Therefore, any of the transactions that take place with regard to the buying or selling of securities are:
- Not FDIC insured
- Not any type of deposit to that financial institution
- Are not guaranteed by that financial institution
- Are always subject to the risks associated with investments, for example, the principal investing being lost
Not only must these disclosures be made in writing, but they must also be conveyed verbally to clients that open an account where these networking arrangements take place.
These regulations also pertain to when communicating with the public.
It’s the duty of the member to ensure that the public knows that it’s not the financial institution providing the broker-dealer services, but the member firm itself.
In particular, this must be carried out for account statements and customer confirmations.
The details and disclosures we’ve covered above must also be in any communication where the location of the financial institution, the bank address, for example when they provide information on the broker-dealer services found there is announced.
The type of communication in which the above must take place is covered by FINRA and includes:
- Radio broadcasts
- TV broadcasts
- Billboards and signs
- Posters and brochures
There is a simplified form of the disclosures that FINRA requests that member firms make when they work in networking arrangements.
- “Not FDIC Insured”
- “No Bank Guarantee”
- “May Lose Value”
In some instances, these disclosures are not required.
The communication cannot be misleading in any way, however.
For example, the disclosure won’t be needed for:
- A radio broadcast where the duration is less than a minute-and-a-half
- Any electronic signs
- If signs, banners, or posters are only used as a location guide
Communications regarding investment companies
FINRA is strict on communications that pertain to investment companies.
Their regulations do not allow any form of ranking for various investment companies to be placed in any retail advertising with two exceptions:
- The rankings were created by one of the ranking organizations that carry out this kind of process
- The rankings were published by a rankings organization
- Rankings that are based on standard performance measurements are created by an investment company or an affiliate thereof
Necessary disclosures related to investment company rankings
At no point may a headline or other statement that features prominently in any communication from an investment company in any way infer that they are the best performer in a specific category unless they are ranked first there.
Included disclosure are:
- The category by name (for example, growth)
- The ranking organization that provided the rankings
- If the subcategory to the rankings was created by the investment company or an affiliate thereof (if applicable)
- How the ranking is achieved or in other words, the various criteria on which it is based
- A statement that future results are not guaranteed by past performance
- Rankings based on total return for the periods of 1, 5, 10, or since inception (if shorter) must accompany a ranking based on the total return
Bond mutual fund volatility rating requirements
FINRA describes bond mutual volatility ratings as “a description issued by an independent third party relating to the sensitivity of the net asset value of a portfolio of an open-end management investment company that invests in debt securities to changes in market conditions and the general economy, and is based on an evaluation of objective factors, including the credit quality of the fund’s individual portfolio holdings, the market price volatility of the portfolio, the fund’s performance, and specific risks, such as interest rate risk, prepayment risk, and currency risk.”
With these ratings, volatility cannot be described as a form of risk rating.
If used, the organization that issued the rating will need to be identified as well as the following additional information provided:
- The current rating’s date
- The criteria and methodology used to attain the rating (usually provided with a link to a website to show how it’s worked out)
- A statement that says that in determining the rating, there is no standard method used
- The types of rating measures and a description of each
- A statement that confirms that over time and in the future, the fund is never guaranteed to keep its current rating or to offer a rated future performance
Take note that documents that are prepared by the issuer, such as the statutory and summary prospectus, for example, do not require principal approval.