On September 12, 2005, the NASD published Notice to Members 05-59, "Guidance Concerning the Sale of Structured Products." In this Notice, the NASD clarifies the obligations of members in the sales of structured products, stresses its concern that members may not be fulfilling these obligations (especially in sales to retail customers) and focuses members on certain compliance provisions considered critical.
The Notice summarizes the obligations of members which are of primary concern, including the requirements to:
- provide balanced disclosure of risks and benefits in promotional efforts (e.g., oral presentations and supplemental sales materials) pursuant to Rule 2210; including a description of the derivative component of the product, if any, disclosure of liquidity risks and credit rating delineations between credit worthiness of the issuer and market risk of the structured product or referenced security;
- ascertain accounts eligible to purchase structured products (limiting them to accounts approved for options trading or developing comparable procedures designed to ensure appropriate eligibility criteria) with special focus on Rule 2720 for discretionary accounts;
- deal fairly with customers with regard to derivative products or "new financial products;"
- perform appropriate due diligence regarding the product to support a "reasonable- basis suitability determination" for the intended class of prospective investors;
- determine the suitability of the product for each particular investor (considering possibly "whether the customer meets the suitability requirements for options trading");
- supervise and maintain a supervisory control system in accordance with Rule 3010 including written supervisory procedures for supervisory and compliance personnel tested for adequacy under Rule 3012; and
- train registered persons selling structured products and their supervisors about the characteristics of each structured product, emphasizing that retail investors may not understand the features of the product or the associated risks of investing in them.
It is recommended that NASD members carefully review Notice to Members 05-59 (available at http://www.nasd.com/web/groups/rules_regs/documents/n otice_to_members/nasdw_014997.pdf) and their current marketing procedures and compliance manuals and determine whether any revisions are appropriate to bring their policies and procedures into compliance with the newly clarified NASD guidance provided in the Notice. Attorneys in our regulatory and transaction practice groups are prepared to assist clients in any review and revision.
This article has been prepared by Sidley Austin Brown & Wood LLP for informational purposes only and does not constitute legal advice. This information is not intended to create, and receipt of it does not constitute, an attorney-client relationship. Readers should not act upon this without seeking professional counsel.
