U.S. Securities and Exchange Commission

Report to the Congress:

The Impact of Recent Technological Advances on the Securities Markets

Contents

Introduction

I.   Public Companies

II.   Investment Companies

III.   Investment Advisers

IV.   Secondary Securities Markets

V.   Commission Enforcement Program

Appendix A:   Selected SEC Releases Addressing Technology

Appendix B:   Selected Staff Interpretive, Advice and No-Action Letters Addressing Technology

Appendix C:   Enforcement Actions Involving Internet-Based Activities

Appendix D:   Glossary of Selected Terms

Executive Summary

Section 510(a) of the National Securities Markets Improvement Act of 1996 directed the Commission to study and report to Congress on the impact of technological advances on the securities markets. Pursuant to that provision, this report discusses the impact of recent technological advances on the securities markets, how these advances have changed the way the markets operate, and steps the Commission has taken to address these changes. The use of new technologies at this time varies considerably in nature and scope among different segments of the industry, and the report separately addresses the current trends in technology use by public companies, the mutual fund industry, investment advisers, and the secondary markets. Finally, the report discusses the effect of recent technological advances on enforcement of the federal securities laws.

• The Commission is mindful of the benefits of increasing use of new technologies for investors and the markets, and has encouraged experimentation and innovation by adopting flexible interpretations of the federal securities laws.

• The Commission's approach has balanced the goals of promoting the benefits of electronic media, with the need to protect investors and the integrity of the markets from fraud and abuse.

• As technological advances proceed, continued coordination with market participants and federal, state and international regulators will be essential.

Public Companies

• Many investors now have improved access to information about securities, partly through use of the Internet.

• Today, most domestic companies make their filings in an electronic format on the Commission's EDGAR (Electronic Data Gathering, Analysis, and Retrieval) system. The ready access to this database made possible by the Internet, both through the Commission's own web site and others, forms the core of a new body of corporate information now available on-line.

• Many public companies now publicize business and financial information on the Internet, but few as yet use the Internet or other electronic media to meet delivery and disclosure requirements under the federal securities laws.

• Developing communication technologies hold the promise of making the capital markets more efficient by providing all participants with faster, more effective means of exchanging information.

• The Commission has provided guidance to facilitate the use of electronic media for companies to satisfy their disclosure obligations:
  • The Commission's October 1995 and May 1996 interpretive releases provided guidance for market participants on using electronic media to satisfy delivery obligations of disclosure documents.

  • The Commission staff has provided interpretive guidance regarding applications of technology to market practices.

  • The Commission staff also addresses electronic issues on a case by case basis as they are raised by market participants.

• The Commission also has begun an initiative to reexamine basic federal securities law principles partly in response to technological advances. In July 1996 the Commission published a concept release on Securities Act registration and disclosure reform which sought comment from the public about broad reform of the capital formation regulatory framework.

• The Commission's regulatory authority, including the exemptive authority in the National Securities Markets Improvement Act of 1996, will allow the Commission to adapt the federal securities law framework to keep abreast of -- and realize the potential benefits of -- new technological developments.

Investment Companies

• Investment companies are now electronically providing a substantial amount of information and services to a large number of investors, particularly via the Internet.

• Investors, in turn, are taking advantage of the enormous amount of information that is available electronically from investment companies, and are making additional demands for increased electronic information flow.

• The Commission has facilitated the investment company industry's use of many technological innovations that serve investors more efficiently, consistent with investor protection.

Investment Advisers

• New computer technologies, and increasing access to the Internet, have the potential to affect investment advisory services substantially in the next century.

• Many investment advisers are taking advantage of the extensive information that is available electronically to research potential investments for their clients.

• As investors have become more comfortable with using their personal computers, some advisers have begun to provide advisory services on-line, creating a new medium for their services.

• The Commission has provided guidance regarding a variety of legal issues created by the use of new technologies by investment advisers, and the Commission will continue to facilitate the future use of such technologies, consistent with investor protection.

Secondary Markets

• As computing power has become exponentially more powerful and comparatively inexpensive, technology has transformed trading in secondary markets.

• The Exchanges and Nasdaq have adopted electronic systems for order delivery and automatic execution and have automated other functions such as the dissemination of transaction and quotation information, specialists' limit order books and the comparison of trades prior to settlement.

• Broker-dealers and institutional investors use powerful computer systems and sophisticated applications, among other things, to manage inventory, order flow and risk and to receive market data, research reports and company information electronically.

• For most markets and market professionals, the Internet and Internet technology should enhance communications networks already in place.

• For individual investors, the Internet can provide information flow and communication links similar to those currently available to institutional investors and market professionals.

• Technology also has made possible the development of efficient electronic systems for trading securities off the established securities markets.

• The Commission has begun an effort to ensure a regulatory framework that will integrate regulation of these alternative trading systems into the mechanisms that ensure market transparency, fairness, and oversight.

• The Commission also has adopted rules that permit markets and market participants to make use of technology, and has modified other rules or interpretive positions that might conflict with technological innovations.

Enforcement

• Recent technological advances, particularly Internet-related forms of communication, have presented new challenges in the Commission's effort to combat fraud.

• The Commission is responding to attempts to use the Internet to perpetrate securities fraud through an evolving program of education, surveillance and litigation.

• Coordination and cooperation with other federal and state regulators and the self-regulatory organizations are part of this program.

• Because the Internet provides an easy method for cross-border communications, abuses of the Internet emphasize the need for coordinated activities with foreign securities regulators.

• The staff works closely with other agencies, both foreign and domestic, to promote fair and efficient markets and to protect investors.

Introduction

The Securities and Exchange Commission has principal responsibility for the administration and enforcement of the federal securities laws. Section 510(a) of the National Securities Markets Improvement Act of 1996 ¹ directed the Commission to study and report to Congress within one year on the impact of technological advances on the securities markets. ²

Information and communications technologies are critical to healthy and efficient primary and secondary markets. Indeed, under the federal securities laws, disclosure and dissemination requirements are crucial elements of the Commission's approach to protecting investors and promoting fair and orderly markets. The Commission has long recognized the benefits of information and communication technologies in furthering these goals.

While the markets have always quickly assimilated technological advances that increase market efficiencies and enhance information flow, the recent pace of development has accelerated. In the last decade, such tools as personal computers, desktop workstations, networking capabilities, more powerful computer processing and increasingly sophisticated hardware and software have been developed and made commercially available.³ These recent advances in information and communications technology are resulting in markets that are more efficient and transparent and better able to handle increased trading volume. In these respects, the impact of new technologies upon the securities industry as a whole has been pervasive. Moreover, the benefits of recent technological developments have not been limited to the markets, but extend to all securities industry professionals.

The future impact of continuing technological advance is far-reaching. ⁴ Already, an individual investor with a computer and a modem has unprecedented access to information. Information and communication technologies such as the Internet may ultimately significantly affect the ways in which investors interact in our markets. ⁵ Various industry participants have been offering both retail and institutional investors the opportunity to transact business on-line. On the other hand, although there have been numerous experiments in the on-line world, the vast majority of securities transactions still occur in traditional ways. This may be because the technologies that will ultimately allow realization of these benefits are developing and changing. Until new technologies coalesce around uniform standards, and until consumers and investors generally accept new technologies as safe and effective ways of doing business, the potential benefits will not be fully realized.

Because of the continuing stream of advances in the information technology industry and the rapid pace of implementation by industry participants, this report can only provide a snapshot of the impact of technological advances on the markets. As detailed in the body of this report, the use of new technologies at this time varies considerably in nature and scope among different segments of the industry.

Because of the central role of technology in the securities markets, the Commission's regulations have always had to take into account the state of technology in the industry. The Commission has issued interpretive releases making clear that electronic media, including the Internet, may be used to satisfy statutory delivery requirements and has provided extensive guidance on using these media for effective delivery. The Commission staff has issued numerous no-action and interpretive letters and has provided informal guidance to facilitate compliance with securities law requirements by users of novel applications of new technologies. The staff has also acted to clarify the application of existing legal requirements to securities products or services made possible by new technology. In addition, the staff has underway major initiatives to review fundamental elements of the regulatory structure governing public offerings under the Securities Act of 1933, and of the regulatory structure governing securities markets under the Securities Exchange Act of 1934.

Consistent with these efforts, the Commission has been sensitive to the regulatory challenges of a changing technological environment. It has sought to balance the benefits of encouraging innovation and the use of new technologies against the need to protect investors and maintain orderly markets. For example, while the Commission has permitted electronic delivery of required documents, it remains committed to protecting all investors, including those who do not have access to, or do not choose to use, new technologies. The Commission has acted to encourage such beneficial products and services, while also aggressively seeking to ensure that new technologies, and particularly the Internet, do not become new media for fraud and abuse.

As the Commission moves forward to implement the goals of the federal securities laws, it will be important to keep abreast of changing technologies and developments in related areas of the law. As information and communication technologies mature and gain more widespread market acceptance, the Commission will need to continue to work closely with other governmental regulators, industry participants and technical specialists.

I. Public Companies

A. Overview

Recent technological advances have offered unprecedented opportunities to public companies and investors alike. This chapter will discuss the regulatory framework, the current practices, and the Commission's approach to these developments as they relate to capital-raising, as well as to companies' disclosure of information to their investors and the trading markets at large. ⁶

Information is at the heart of the federal regulatory framework for protecting investors. It rests on the premise that an investor can make a reasoned decision on whether to buy, sell or hold securities, or how to vote on corporate matters, if the investor has full and accurate information -- about the company, its business and financial condition, the security it is selling, and any merger, tender offer or other transaction in which it is engaged.

As early as 1984, the Commission recognized the value of having information required by the federal securities laws available in electronic format, when it instituted a pilot program for electronic filing with the Commission. Today, most domestic companies make their filings in electronic format on the Commission's EDGAR (Electronic Data Gathering, Analysis, and Retrieval) system. The ready access to this database made possible by the Internet, both through the Commission's own web site and other sources, forms the core of a new body of corporate information now available on-line.

Public companies and other market participants are also using electronic media to communicate directly with their shareholders and potential investors. While the Internet is the most widely used technology for this purpose, experimentation with other electronic technology has also begun. The use of these technologies to disseminate information provides numerous benefits to companies and other market participants, such as:

• making the delivery of information faster, less expensive, and more widespread;

• helping to level the playing field between large and small companies;

• helping companies to raise capital more effectively by giving them better access to potential investors; and

• giving companies new avenues to communicate with shareholders.

• by giving investors information faster;

• by giving investors information in electronic format, so databases can be searched and financial information can be analyzed more readily;

• by reducing disparities between large and small investors' ability to access information; and

• by helping investors communicate with each other and with companies.

To enable the use of developing technologies, the Commission has engaged in several initiatives. The Commission's October 1995 interpretive release provided guidance for market participants on using electronic media to satisfy delivery obligations of disclosure documents. The Commission staff also has provided interpretive guidance or no-action relief in certain regulated areas where market participants have presented novel and innovative applications of technology to market practices. The Commission staff also addresses electronic issues on a case by case basis as they are raised by market participants.

As technologies continue to develop, the regulatory framework must evolve as well. The Commission began an initiative to reexamine basic federal securities law principles that have existed for over 60 years -- since the creation of the Securities Act of 1933. This reexamination is partially driven by the impact of recent technological advances. In July 1996, the Commission published a concept release on Securities Act registration and disclosure reform which sought comment from the public about broad reform of the capital formation regulatory framework. ⁷ The Commission's regulatory authority, including the exemptive authority in the National Securities Markets Improvement Act of 1996, will allow the federal securities law framework to keep abreast of -- and realize the potential benefits of -- technological developments.

B. Regulation of Securities Offerings, Public Company Disclosure and Communications

The Securities Act of 1933 and the Securities Exchange Act of 1934 are premised on the philosophy that investors are best protected in making investment decisions if they are presented with full and accurate disclosure of all material information about investments. Under some circumstances, the requirements focus on preventing premature or inappropriate disclosure, while under other circumstances, the requirements focus merely on establishing minimum standards of disclosure. In some cases, this information must be delivered directly to the investor, while in other cases, the information need only be filed with the Commission and made public, so that the entire investing public has access to it. Because communication of information is such a central concept under these laws, the following discussion provides highlights of the regulatory framework to provide a basis for assessing the impact of trends in the use of electronic media.

1. Public Offerings

The Securities Act establishes a framework for providing information during a securities offering, requiring that issuers provide investors with material information concerning securities offered for public sale. Before a company may offer a security to investors, the Securities Act requires that the security either be registered with the Commission or that the transaction or security be entitled to an exemption from registration. The Securities Act applies both to initial public offerings and to subsequent public offerings.⁸

The Securities Act controls the timing and content of disclosures made by issuers in their registered offerings of securities to investors by dividing the process into three time periods: pre-filing, waiting and post-effective. Different limitations apply to disclosure of information in each period.

The pre-filing period is when an issuer contemplates conducting a public offering but has not yet filed a registration statement with the Commission. ⁹ During the pre-filing period, the Securities Act imposes restrictions on activity that could condition the market for the securities.

Once a registration statement is filed with the Commission, ¹⁰ the waiting period begins. During the waiting period, while the Commission staff is processing the registration statement, only oral communications and distribution of the preliminary prospectus included in the registration statement (also known as a "red herring") are permitted. No other written material generally may be distributed and no sales of securities may be made.

After the Commission declares the registration statement "effective," issuers may complete their offerings. ¹¹ During the post-effective period, issuers may use written sales literature (in addition to the prospectus) to sell securities, as long as a final prospectus is sent before or with the sales literature. To complete a securities sale, a final prospectus must be delivered to all purchasers before or with the sales confirmation. In initial public offerings, a preliminary prospectus also must be sent to investors 48 hours before delivering the sales confirmation.

Certain securities and transactions are exempt from registration with the Commission. One example is private offerings limited to persons who have access to the type of information that registration would disclose and who do not propose to redistribute the securities. No general solicitation or advertising is permitted in a private offering. Other offerings may be exempt from registration if they do not exceed a certain amount, such as offerings by private companies not exceeding $1 million annually. ¹² In addition, Regulation A provides a conditional exemption for certain small offerings of up to $5 million. ¹³ Even if the security or offering is exempt from registration, the anti-fraud provisions still apply to the sales of all securities.

2. Disclosure and Communications

The Exchange Act establishes on-going periodic reporting and disclosure requirements for public companies. The Exchange Act governs over 15,000 publicly held companies, helping to ensure well-informed securities markets for a diverse group of issuers in every industry, from large multi-national companies to small businesses. The Exchange Act requires public companies to periodically file certain information with the Commission and, in certain cases, to deliver the information to security holders. This information, such as annual and quarterly reports, is available to the public regardless of whether there is an obligation to deliver these documents to investors.

In addition, under the Exchange Act, public companies and other persons who solicit proxy votes from shareholders must file with the Commission and deliver to shareholders a proxy statement containing specified information and a proxy card. ¹⁴ While the Commission's proxy rules govern the disclosure that must be provided to shareholders by soliciting parties and the procedures under which proxies may be solicited, state law primarily dictates which shareholders are entitled to vote and, in combination with the rules of the stock exchanges and Nasdaq, what they are entitled to vote on. Companies also must send their shareholders an annual report before or with the proxy statement delivered in connection with any shareholders' meeting at which directors are elected. ¹⁵

Under the Commission's rules, shareholders may submit proposals to be included in the company's proxy solicitation material. ¹⁶ The Commission's rules also address the ability of shareholders to communicate with each other and whether that communication is a solicitation that requires the filing of proxy materials. ¹⁷ If a vote on corporate control is involved, each party soliciting votes must file proxy solicitation materials. If control of a public company is sought through a tender offer or other planned acquisition of over 5% of a company's common stock, certain reporting and disclosure obligations arise. The purpose of these requirements is to assist investors to make informed decisions on takeover bids. Other provisions supplement the disclosure requirements to help ensure investor protection in tender offers.

3. Regulatory Framework for Electronic Delivery

Against the background of a regulatory scheme premised on the dissemination of information, the Commission has recognized the potential of new developments in electronic communications to further the availability of information to investors. It has attempted to encourage the use of new technology by market participants to deliver information as long as investor protection is maintained, by providing a flexible broad framework for analyzing electronic delivery issues. This section briefly describes that framework in order to provide context for the discussion of current market trends in Part IV.

The Commission issued an interpretive release on electronic delivery in October 1995. ¹⁸ The release allows the use of electronic media and equates information delivered by this means to information delivered in paper. ¹⁹ The release makes clear that it addresses only the procedural aspects of delivery, and does not change the circumstances under which delivery of information is required. Securities law liability provisions apply to electronic delivery just as they apply to paper delivery.

Although the use of the Internet and other technology to disseminate certain types of business and financial information is rapidly growing, it is important to recognize that not all investors have access to computers. Of those who do, not all have access to external databases or desire to receive their financial information in that manner. Accordingly, the Commission's October 1995 Release explains that its approach is to maintain a level playing field for investors who use electronic technology and those who remain with the traditional paper-based system. In general, companies making use of electronic media also must provide paper copies when investors want them. This policy may evolve as electronic media become more universally accepted and accessible.

The release establishes a broad framework under which market participants can use electronic media to satisfy their delivery requirements. These media include not only the Internet but also audiotapes, videotapes, facsimiles, CD-ROM, electronic mail, and proprietary computer networks. Three basic guidelines are set forth: notice, access, and evidence of delivery. Although not exclusive factors, the release stresses that these factors must be considered to determine whether delivery requirements have been satisfied. The release provides over 50 examples applying the framework to specific facts. ²⁰

a. Notice

Those providing electronic delivery should consider the extent to which such delivery provides timely and adequate notice. Postal mail delivery typically makes an investor aware that new information exists. As with paper delivery, postal mail delivery of information in electronic form, such as a CD-ROM, is sufficient notice. A web site posting of a document by itself, however, does not constitute notice. Separate notice for passive delivery systems, such as the Internet, is required unless the company can otherwise show that delivery has been effected. Separate notice can be made by e-mail or postal mail.

b. Access

Access to electronic communication should be comparable to that provided by postal mail. Recognizing the wide disparity in investor abilities to use electronic media, the Commission has required that an electronic medium not be so burdensome that access is effectively denied. In addition, for as long as the applicable delivery requirements dictate, the investor should have the ability to retain or have on-going access to the document.

c. Evidence of Delivery

Those providing electronic delivery should have reasonable assurance that the investor received the information. This principle ensures that a market participant is not relying on electronic delivery to an investor who is unable or unwilling to take advantage of it. The release lists five nonexclusive types of electronic delivery evidence. For web site viewers, the evidence likely will be revocable informed consents, coupled with notice and access assurances. For consents to be considered "informed," they generally must specify the medium of delivery and the period during which the consent is effective. The consent should also specify the information that will be delivered electronically and inform the viewer of any potential costs associated with web site delivery.

Delivery evidence also may consist of an e-mail return receipt or other confirmation of an investor's accessing, downloading and printing the document. If documents are disseminated through facsimile, delivery may be presumed. Other forms of evidence include an investor's accessing a required document by hyperlink or using forms available only by accessing a document.

4. Regulation of Exempt Offerings

The Commission has also provided guidance for those who use technological innovations in exempt offerings. For exempt private offerings, the use of the Internet poses difficult general solicitation issues. Under these exemptions, general solicitation is restricted to ensure the offering is private. Unless there are methods to restrict access solely to investors qualified to participate in a private offering, an on-line offering under these exemptions likely would violate the general solicitation restrictions. Sensitive to the benefits of electronic delivery in private offerings, the staff of the Division of Corporation Finance has issued letters to clarify how these offerings can be conducted on-line without violating the general solicitation restrictions. ²¹ For exempt limited offerings, where general solicitation is permitted (including small business offerings made under Regulation A), these constraints are not present. ²²

C. Trends in the Use of New Technology

1. Use of New Technology in Offerings

Although public companies and other market participants are taking advantage of technology for other purposes, they have been slow to change the methods by which they satisfy their regulatory obligations under the securities laws. In trying to do so, they may need to address regulatory issues of first impression. While the Commission has provided guidance on these matters, market participants also need to satisfy state securities and corporate law requirements, as well as rules of self-regulatory organizations. Some companies, particularly those in technology industries, believe the use of electronic media will appeal to their investor base, while others are less willing to devote time and resources to developing new means of communication with investors, particularly if it has limited and sporadic application.

In addition, investors are very diverse in their needs and wishes. Some take full advantage of electronic sources of information to aid them in their investment and voting decisions, while others prefer traditional (paper-based) methods of receiving information. Companies that want to use electronic media for delivery of information realize that they cannot ignore the needs of a large portion of their investor base. Over time, this may become less of an issue.

The past year has been a year of "firsts." The first multimedia prospectuses for public offerings were disseminated both on the Internet and on a CD-ROM. For the first time, several major companies provided annual reports and proxy statements on-line to meet delivery obligations to shareholders who consented to obtain them in that medium. The first Internet voting system was established and used by registered shareholders of several companies. Although it is too early to tell, these "firsts" may pave the way for increasing use of electronic media in satisfying regulatory obligations.

Perhaps the most significant technological development relating to public company disclosure is the on-line availability of the mandated electronic filing disclosure database, EDGAR. This dramatically improves the market's access to corporate disclosure. With this electronic filing disclosure database now available on the Commission's web site, access to corporate disclosure documents is no longer difficult for a rapidly growing number of investors. Since the September 1995 posting of the EDGAR database, the web site has been "hit" more than 100 million times. Daily, the web site typically is "hit" half a million times and approximately 2.5 million pages of text are downloaded. ²³

a. Web Site Prospectuses

The Commission has made it clear that issuers and underwriters may use web site prospectuses to satisfy delivery obligations if appropriate notice and access are
provided. ²⁴ Nevertheless, on-line prospectus delivery has been limited. Some companies have posted prospectuses on their web sites, but generally for informational and marketing purposes only. A limited, but growing, number of underwriters also post information about companies whose securities they are underwriting. ²⁵

In May 1996, a major investment bank was the first to create a web site devoted exclusively to a corporate securities offering. ²⁶ The web site included the textual preliminary prospectus and a list of participating brokers. In mid-1996, another highly publicized offering featured a web site prospectus. ²⁷ For both of these offerings, a web site was created exclusively for the prospectus. ²⁸ Since September 1996, a major public company has been offering its debt securities on-line. ²⁹ The web site prospectus was not used to satisfy delivery requirements in these offerings.

Internet technological advances are affecting the look and sound of web site prospectuses. In May 1997, the first web site prospectus with audio and video components was posted. Audio is provided by "streaming." ³⁰ Video is downloadable. The web site prospectus consisted of textual disclosure, a product overview with text, photographs, and audio, and a downloadable video with product demonstrations. The paper prospectus, used to satisfy delivery obligations, contained an appendix with an audio script and pictures from the video.

Breaking new ground in two limited contexts, issuers seeking to raise capital directly are beginning to use web site prospectus delivery. These issuers are raising capital on-line by two offering types: Internet direct public offerings and direct stock purchase plans. A direct public offering ("DPO") is an offering made without a professional underwriter. Since the 1995 much publicized Spring Street Brewery on-line initial public offering, commentators speculate that several hundred DPOs may have been offered. ³¹ DPOs typically are made by small businesses in limited offerings. ³² The actual number of on-line DPOs is difficult to determine since many DPOs are made in offerings that are not required to be registered under the Securities Act. ³³ Many of these do not require the filing of an offering document with the Commission. A sizable percentage of DPOs, however, are Regulation A offerings, ³⁴ and a few are registered offerings, both of which require filing an offering document with the Commission.

Larger, established public companies are making their first on-line foray into direct offerings through their direct stock purchase plans, which provide a vehicle for investors to purchase stock on a periodic basis. Compared to a handful in 1994, now more than 300 public companies offer direct stock purchase plans. On-line access to direct stock purchase plan prospectuses and enrollment forms is the latest development, which some commentators expect to grow quickly. ³⁵

b. Electronic Enrollment in Employee Plans

A growing number of major public companies are implementing "self-service" employee benefit systems, including those that offer company stock as a part of the benefits package. ³⁶ These systems allow employees to access information regarding their company benefits, such as 401(k) plans, through various media. One popular system, the voice response system, allows employees to use their touch tone telephones to quickly obtain account information, such as balances, and may also offer full transaction capabilities. ³⁷ More recently, employers have been beginning to consider using intranets to assist their employees in managing their accounts. ³⁸ An intranet, an in-house version of the Internet where only company employees have access, allows employees to access their benefits information and conduct transactions on their personal computers. ³⁹

c. CD-ROM Prospectuses

Public companies also are beginning to make use of electronic communication to offer securities by providing CD-ROM prospectuses. In February 1997, a company delivered the first multimedia CD-ROM prospectus to all offerees in its public offering. ⁴⁰ The preliminary and final prospectuses consisted of two separate types of media: paper and CD-ROM. The CD-ROM contained both textual disclosure and a video presentation by the company's management that focused on the company's business. Since that time, additional CD-ROM prospectuses have been delivered in public offerings. ⁴¹

d. Electronic Delivery of Tabular Data in Complex Offerings

The growth of complex financing techniques has been facilitated by the use of computers to analyze complex and large amounts of data. For example, unlike traditional corporate debt whose value depends partly on the creditworthiness of the issuer, the value of asset-backed securities principally is determined by the cash flow attributes of the numerous assets underlying the security. To determine whether to invest in these more complex securities, investors evaluate the impact of alternative potential future cash flows to assess the security's yield. This requires complex calculations on the cash flow attributes of the numerous assets underlying the security. To enable investors to make an informed investment decision, some asset-backed securities issuers are delivering computer disks that contain tabular data so that investors can use the data in their own computerized financial models. These computer disks are part of the prospectus. ⁴² The data enables the investors to make predictions of the future cash flow of the assets placed in the pool to determine the value of the security. ⁴³

e. Electronic Roadshows

For many offerings, an issuer's management and its underwriters engage in a direct selling effort to targeted investors. This selling effort, known as a "roadshow," typically is a presentation by an issuer's management made to a relatively small group of sophisticated investors or on a one-on-one basis. Most roadshows are conducted during the waiting period when written communications are restricted. ⁴⁴ Due to the expense of staging a roadshow in many cities, the demands on the targeted investors by multiple issuers, and the limited time available for an issuer to conduct a roadshow, market participants have been exploring whether roadshows could be provided electronically to investors. Several entities, which have received or requested no-action relief, recently announced plans to provide electronic roadshow services for issuers and underwriters. ⁴⁵

f. Electronic Sales Literature

Sales literature is any written material provided to investors after the registration statement is effective, not including prospectuses or tombstone advertisements. ⁴⁶ The Commission's release provides that sales literature can be provided on-line as long as certain procedures are followed to ensure that an investor has access to the final prospectus. For example, sales literature can be in close proximity on the same menu as the web site prospectus or hyperlinked to the final prospectus. ⁴⁷ To date, it appears that a limited number of issuers, most of whom are DPO issuers, are posting sales literature on their web sites.

g. Private Offerings

Due to limits on a company's ability to engage in general solicitation of potential investors during a private offering, the Internet is not an easy medium to use in private offerings. With Commission staff guidance, issuers are beginning to develop web sites with password protection that enable qualified investors to view private placements on-line. ⁴⁸ Although difficult to determine, it is believed that only a few private offerings have been made on-line to date.

2. Use of New Technology in Corporate Communications

a. Web Site Corporate Communications

Many public companies believe that Internet technology offers a valuable forum for communicating with current and potential shareholders. ⁴⁹ According to a National Investor Relations Institute ("NIRI") survey, over 95% of companies with over $1.5 billion in market capitalization, and over 75% of companies with under $1.5 billion in market capitalization, either already have or soon plan to establish a web site. Placing a company's web site address in advertisements is now commonplace.

The Commission has not regulated web site content any differently than any other medium's content. Companies are not required to notify the Commission when a web site is created. Nor must a company file web site content with the Commission solely because it is on a web site. As for any other medium, anti-fraud laws can apply to web site content. ⁵⁰ Any postings that may "condition the market" before a registration statement is filed for an offering may be illegal "gun jumping."

Disseminating corporate information appears to be one of the more popular uses of a public company's web site. ⁵¹ Over three-quarters of corporate web sites post financial information usually in the form of quarterly press releases or periodic reports, including annual reports, Forms 10-K, and Forms 10-Q. ⁵² The sites either hyperlink to the company's filings in the EDGAR Internet database or directly post reports. ⁵³ On-line access to this information may reduce the company's printing and mailing costs. Investors may have the ability to search more easily within a document, hyperlink to recent nonfinancial news, and learn about complex matters through the use of hyperlinks to educational material.

Many web site annual reports have enhanced features. ⁵⁴ Under the Commission's interpretive guidance, a web site annual report may contain information not included in the paper version of the report. Recent annual reports have included video presentations by senior management, and interactive applications to enable investor feedback. Some annual reports provide spreadsheets that permit the viewer to analyze the company's financial data. ⁵⁵

b. Other Technological Corporate Communications

Annual reports on a CD-ROM can employ search tools and display video and audio information. One obstacle to using CD-ROM annual reports is the cost for production, engineering and mailing a CD-ROM. Although CD-ROM annual reports were first used five years ago, companies have been slow to embrace this medium. ⁵⁶ The ability of web sites to provide audio and graphics to a broader audience may stall any further growth in CD-ROM annual report use. ⁵⁷

c. Electronic Delivery of Proxy Materials

The delivery of proxy material is somewhat complicated by two factors: (a) state law normally gives only record holders, and not beneficial owners, the right to vote; and (b) the majority of the stock of public companies today is held by record holders, typically broker-dealers and banks, in "street-name" and companies may not know the identity of many of their beneficial owners, typically individual and institutional investors. ⁵⁸ Because the record holders therefore have the right to vote street-name stock, under the laws of most states, they must either seek voting instructions from the beneficial owners or "pass through" the vote to these owners by giving them a signed proxy. ⁵⁹

The Commission's proxy rules provide a mechanism for delivery of annual reports, proxy statements and forms of proxy by requiring bank and broker-dealer intermediaries to forward these documents to the ultimate beneficial owners. ⁶⁰ Many broker-dealers and banks use a proxy intermediary firm, Automated Data Processing, Inc.'s Investor Communications Services ("ADP"), as their agent to comply with this requirement. Generally, ADP mails these materials in paper form. Also acting as agent for brokers and banks, ADP receives voting instructions electronically from those institutional investors that use ADP's Proxy Edge Service, and sends an omnibus ballot to companies.

Direct registration of securities enables companies to know their shareholders' identity. ⁶¹ Under the supervision of the Commission, in November 1996, the nation's largest clearing agency and securities depository, The Depository Trust Company, established a pilot direct registration program in cooperation with issuers, broker-dealers and bank record holders. ⁶² Participating shareholders voluntarily are able to have their shares registered in book-entry form directly on the books of the issuer. These shareholders receive a statement of ownership in lieu of a securities certificate (although they can get a certificate upon request). These shareholders also receive proxy materials directly from the issuer and can vote their shares without having to interact with an intermediary, subject to state law requirements.

During the 1997 proxy season, several public companies offered electronic delivery of proxy statements and annual reports to their record holders for the first time. ⁶³ One large company allowed its record holders to choose among three forms of delivery for its annual report: paper, CD-ROM and the company's web site. ⁶⁴ Another large company offered its record holders the opportunity to receive web site delivery of its proxy statement and annual report, pursuant to a notice and request for consent mailed to these holders. Those record holders who returned a consent then received another notice by mail notifying them of the web site address and availability of the annual report and proxy statement. ⁶⁵

The fastest growing audience for electronic proxy material and annual report distribution is employee stockholders. ⁶⁶ The reasons for the growth are that an employer's intranet or e-mail system makes the notice more secure and the company is more capable of recognizing and solving computer access problems for employees than for non-employees. In addition, a company providing access to electronic media can presume that employees will accept electronic delivery unless they request paper. ⁶⁷ Typically, notice of the proxy solicitation materials' availability is sent by e-mail to the employees and the materials are posted on the employer's web site. ⁶⁸

d. Electronic Voting

Many institutional investors that hold shares through banks and brokers have been electronically providing voting instructions through the ADP Investor Communications' Proxy Edge System. ⁶⁹ ADP's Proxy Edge is a software package that manages the proxy process for institutional investors in a variety of ways. By the end of 1997, ADP hopes to have an Internet voting system available.

State law governs whether on-line or telephonic voting is allowed. For companies incorporated in states that permit it, telephonic voting (also known as datagrams) for registered shareholders has been available for years. Since Delaware's 1989 liberalization of its laws, a number of companies have used datagrams. ⁷⁰ For the first time, public companies and their transfer agents are permitting registered shareholders to vote on-line. For the 1997 proxy season, a transfer agent established an on-line pilot voting program that three public companies used. ⁷¹ Also in 1997, the first company permitted direct on-line voting by registered shareholders. ⁷²

e. Electronic Access to Shareholder Meetings

Almost all state laws require companies incorporated in their state to hold annual in-person shareholder meetings. ⁷³ A few companies have provided shareholders electronic access to their annual shareholder meetings. In 1994, a company provided the first electronic access to an annual meeting through a supplemental satellite broadcast. ⁷⁴ In May 1996, a company supplemented its traditional in-person annual meeting with the first "cybercast" of an annual meeting. ⁷⁵ Internet attendance was open to the public. In 1997, several more companies supplemented their annual meeting on-line with cybercasts. ⁷⁶

f. Electronic Communications in Proxy Contests

Beginning in late 1995, participants in several proxy contests have used the Internet to communicate their views. ⁷⁷ Web sites used in proxy contests typically post proxy materials, press releases and letters. ⁷⁸ To get publicity, the web site address typically is published in the print media. Half a dozen other shareholder disagreements have been aired on-line. On occasion, shareholders have opposed management initiatives on-line without soliciting proxies. Institutional investors are beginning to use secured web sites, which restrict access, to communicate with each other quickly during proxy contests. ⁷⁹

g. Electronic Analyst Conference Calls

Telephonic conference calls are widely used by public companies to alert financial analysts and institutional investors of their latest corporate developments. ⁸⁰ In most cases, individual investors are not permitted to participate. ⁸¹ Although still rare, some analyst conference call transcripts and toll-free numbers for conference call replays are being posted on-line for the public's use. ⁸² Both of these services are limited to companies willing to have their calls available to the public. ⁸³

D. Commission's Response to Technological Challenges

1. The Commission's Encouragement of Technological Advances

To encourage the use of developing technologies, the Commission has taken a number of actions. The Commission's October 1995 interpretive release was an early source of guidance on satisfying delivery obligations of disclosure documents, and a big step towards eliminating perceived legal uncertainty that might restrain market participants from using electronic delivery. ⁸⁴ Whether they use electronic or paper-based delivery systems, market participants carry the ultimate responsibility for choosing an appropriate method of satisfying their delivery obligations. The release provided the flexibility necessary to accommodate evolving new technologies and the differing circumstances of market participants.

The October 1995 and May 1996 interpretive releases also gave guidance to facilitate other new uses of technology. One interpretation clarified that a securities offering may be lawfully conducted entirely on-line. ⁸⁵ Another clarified that a company may create multiple versions of the same document, provided that each meets applicable requirements. ⁸⁶ The staff also has provided interpretive guidance or no-action relief that has facilitated novel and innovative applications of technology in other areas. These areas include electronic roadshows or using the Internet for private offerings.

Of course, many challenges remain. As technology continues to develop at a remarkable pace, the regulatory framework must evolve as well. ⁸⁷ Some obstacles are related to technology itself, such as limited bandwidth creating slow connections to the Internet for many users. Other obstacles relate to technology users, including investors that differ greatly in their access to and ability to use new technology, and issuers that are unsure about how to use the technology.

2. Technological Challenges and Potential Regulatory Responses to Challenges

a. Securities Offerings

Recent trends in the use of technology by public companies show the tensions that application of traditional securities law concepts confront when faced with what the Internet and other advances have made possible. Of course, they also show that electronic communications may be able solve current problems. Although the Commission and the staff have attempted to address some of these issues through releases and no-action letters, the Commission also has recognized that a broader review of the regulatory framework is necessary.

The historical regulatory approach to communication, particularly during offerings, may limit certain uses of electronic communications. During offerings, the Securities Act's approach is to restrict written communication that offers a security for sale, other than through the regulated prospectus. Violation of these restrictions can have serious consequences, including, potentially, the purchaser's right to require the company to rescind the purchase.

Companies, underwriters and legal practitioners are concerned that certain types of communications that occur on the Internet are inconsistent with the regulatory framework if they are viewed as forms of impermissible written communication during offerings. ⁸⁸ The enhanced communication possibilities of the Internet are attractive. At the same time, though, freeing up communication during offerings -- whether on the Internet or elsewhere -- must be accomplished in a way that does not sacrifice investor protection.

The issues raised by the current regulatory framework for offerings in the context of electronic communications are many, including:

• whether content on an issuer's web page, or hyperlinked to an issuer's web page, would be considered to be an improper prospectus, even though that content does not appear to be "offering" material; ⁸⁹

• how should analysts' research reports available on-line during an offering be treated, particularly if they are hyperlinked to an issuer's web page; ⁹⁰

• how should oral communications, such as "roadshows," that are transmitted electronically be treated; ⁹¹

• can electronic communications, either through electronic delivery to investors or access to information available electronically, be used to address time pressures present in offerings that require prospectus delivery within the T+3 settlement schedule; ⁹²

• can the Internet be used effectively, in a manner consistent with investor protection, to find qualified investors for private offerings; ⁹³

  and

• how should offshore offerings that are not registered for sale in the United States but that can be viewed on the Internet anywhere in the world be treated under the U.S. securities laws. ⁹⁴

The Report of the Task Force on Disclosure Simplification, issued in March 1996, identified five "strains" in the regulatory system for securities offerings. The first one mentioned was technological developments in the field of electronic communications. The Report noted that "regulatory requirements that result in the imposition of artificial barriers to the flow of accurate information generally are not effective, in some cases not possible, and are viewed by some as not ultimately in the best interests of investors and the markets."

In July 1996, concurrent with the issuance of the Advisory Committee's Report, the Commission published a concept release on Securities Act registration and disclosure reform. ⁹⁵ It sought comment from the public about broad reform of the capital formation regulatory framework. That concept release discussed "company registration," as recommended in the Committee's report, and other possible approaches to reform of the regulation of the offering process. The Commission received many comment letters in response to this release.

With this extensive study of possible ways to reform regulation of the offering process, the staff is now developing recommendations on how best to address the problems faced by industry participants and take advantage of widespread, fast communication made possible by technology, while continuing the strong tradition of investor protection.

b. Shareholder and Corporate Communications

Electronic media has the potential to greatly enhance communication by shareholders with each other, and communication by companies with shareholders. As described above, companies are beginning to provide information to shareholders electronically on web sites. The concerns that may be causing companies not to use electronic media for securities offerings do not appear to be deterring companies from choosing this avenue of communication for regular corporate communication outside the offering process.

With the Commission's adoption of broad proxy rule amendments in 1992, regulatory barriers to inter-shareholder communication were reduced. ⁹⁶ As a result of these amendments, shareholders who are not soliciting proxy authority are now free to communicate -- in person, by phone or electronically -- with each other and company management on voting-related issues without worrying about the need to comply with proxy filing, disclosure and delivery obligations. ⁹⁷ In addition, shareholders may, without incurring filing obligations, use the press and television broadcasts, as well as the Internet, to announce how they intend to vote on any proposal, and to explain the reasons for their voting decisions. ⁹⁸

Five years later, some have suggested that these broad proxy reforms have "radically reduced the cost of shareholder communication." ⁹⁹ As shareholders take greater advantage of the potential that electronic communication presents for reaching each other, the benefits of these reforms will become even more apparent.

Shareholders are concerned that voting-related communications, including those made electronically, that are no longer restricted by the proxy rules, nevertheless may subject them to the beneficial ownership reporting requirements of Section 13(d) of the Exchange Act. The concern is that these communications later might be found to have demonstrated the existence of a voting agreement among holders of more than five percent of a particular company's stock, or to have caused a "passive" institutional investor that itself owns more than five percent to lose the more favorable "short-form" Schedule 13G filing status. ¹⁰⁰ The Commission has recognized this issue and has sought comment on how best to address it. Within the context of broader Section 13(d) rule proposals aimed at expanding the categories of 13G-eligible filers, the Commission has sought public comment on how best to balance the various concerns in this area.

E. Conclusion

New technology often offers exciting benefits to investors, issuers and other market participants. Beginning with EDGAR and continuing with Commission releases and other guidance, the Commission has studied, and will continue to study, the impact of technological advances upon its regulatory scheme with a view to allowing issuers to enjoy greater flexibility and investors to have access to better, more timely information.

II. Investment Companies

A. Overview

Mutual funds ¹⁰¹ and other types of investment companies have recognized and capitalized upon the tremendous opportunities provided by technology. Funds sell their shares to a rapidly growing market, and are anxious to use new systems to locate and communicate with potential investors. As of the end of June 1997, U.S. investors had entrusted approximately $4.6 trillion to over 4,000 investment companies subject to Commission regulation. Over 38 million U.S. investors are shareholders in mutual funds. Because of the large amount of assets invested in investment companies, and because of the large number of investors who invest in investment companies for their retirement and for other purposes, the investment company industry plays a crucial role in the U.S. economy.

Many funds have successfully adapted electronic media into their operations and communications strategies. Technology has permitted more funds to reach out to more investors faster, and more cost-efficiently, than ever before. The Commission has responded to the promise of technology by flexibly interpreting the federal securities laws to accommodate new ideas, provided that they are consistent with investor protection. The success of this vision of regulation is evident when examining the uses of technology by investment companies.

The investment management industry uses electronic media:

• to deliver both required disclosure materials, such as prospectuses, and additional sales literature, to potential investors more quickly, and in a more economical manner;

• to educate their investors about the myriad choices facing them in today's market, by providing on-line tools to assist investors in developing asset allocation models and retirement or college planning profiles tailored to their individual needs;

• to respond to shareholder inquiries, by using on-line communication and providing fast access to account information;

• to develop new types of fund services, expanding the choices available to investors; and

• to permit shareholders to purchase and exchange shares on-line.

Effective and on-going communication with shareholders has heightened importance for the mutual fund industry. Mutual funds have shown themselves to be attractive savings vehicles for investors of moderate means, often investing for college or retirement. The need to communicate with the millions of investment company shareholders, who frequently will purchase additional shares on an on-going basis (for instance, pursuant to investments in a retirement plan), drives much of the mutual fund industry's enormous investment in technology. Technology has made the explosive growth of the industry manageable.

While many funds have used electronic media to "reinvent" themselves to be more accessible to the average investor, many investors also have used electronic media to transform themselves into more sophisticated and well-educated consumers than ever before. Many third parties also have recognized the importance of investment companies in today's economy, and have developed information services that are tailored specifically for investment company investors. These third parties also have made extensive use of electronic media to reach investors, adding to the amount of information readily and inexpensively available.

The Commission has sought to facilitate innovation in the use of electronic media by the investment management industry, and will continue to be responsive to new ideas. Some of the recent growth in the industry may be attributable to the increasing use of electronic media by investment companies and investors. Not all investment companies and investors have embraced technology to the same extent, however. The market will ultimately prove the worth of technology -- whether the benefits to the industry and its investors of developing and using new services are greater than the associated costs. While many investment companies could realize significant cost savings by delivering all of their required disclosure documents electronically, many investors are not able or willing to receive them in this format. Thus, a system of pure electronic communication seems some distance away.

This chapter will discuss the regulatory framework relating to the use of electronic media by investment companies, the current trends in the use of electronic media by investment companies, and the Commission's regulatory approach to developments in electronic media as they relate to investment companies and their investors.

B. Regulation of Investment Company Offerings

1. Disclosure Documents

Like other issuers subject to the Securities Act of 1933, investment companies are subject to the disclosure requirements of the Securities Act and its philosophy that investors are best protected if they receive full and accurate disclosure of all material information about investment opportunities. Supplementing the disclosure requirements of the Securities Act are the substantive requirements of the Investment Company Act. These requirements are designed to address, among other things, conflicts of interest between a fund and its affiliates, and the day-to-day operations of investment companies, including pricing and redemption procedures.

For mutual fund disclosure to be effective, it must take into account the nature of the investor. More and more, individual investors are entrusting their life savings and retirement needs to mutual funds. ¹⁰² These investors need easily comprehensible information to guide them in making critical investment decisions. Mutual fund investors crave information, as shown by results of a survey of investors that indicated that 72% of the respondents were either somewhat or very interested in learning more about investing in mutual funds. ¹⁰³ Information about investing in mutual funds is very plentiful in today's society, but investors need knowledge to evaluate their investment options.

Electronic media hold the promise of making communications between funds and their investors easier and more efficient. The Commission's recent disclosure initiatives should build on that promise by making the information that is delivered to investors more helpful and useful. The two electronic delivery releases issued by the Commission provide important guidance to the fund industry regarding the application of the federal securities laws to specific issues relating to the industry. As discussed in more detail later in this chapter, many fund groups have sought to follow the guidance in the releases.

2. Private Offerings

Under the Investment Company Act, if funds do not offer their securities publicly, and limit their offerings to only certain types or a small number of persons, they will not be subject to Commission regulation as investment companies. Many of the funds relying on these exemptions refer to themselves as "hedge funds," a term not defined in the federal securities laws.

The Investment Company Act's exemptions provide various rules for private offerings, but today's vast communications networks leave few things truly "private." Because these funds and their managers typically rely on the private offering exemptions of the federal securities laws, their use of the Internet, which is accessible to anyone with a computer and a modem, has been problematic.

The Commission staff has attempted to resolve this tension, and has accommodated the desire of some private funds to use electronic media to distribute information about themselves to more potential investors. One company that proposed to establish a web site directory of information about private funds asked the Commission staff for guidance whether hedge funds (or their advisers) could provide performance data and other information to the directory, consistent with the private nature of their exemption, if access to the web site were limited to certain types of investors. The staff agreed that hedge funds could place information about themselves on the web site, thus allowing these funds to utilize Internet technology. ¹⁰⁴

3. Other Required Communications with Shareholders

Like other issuers, investment companies are required by the federal securities laws to provide their shareholders with certain information on an on-going basis. ¹⁰⁵ The tremendous growth in mutual fund investors, however, makes this task more difficult. The provision of this information to investors by means of electronic media can ease the task.

C. Trends in the Use of New Technology

The investment management industry and fund shareholders have quickly embraced and developed many uses for new technology. In 1996, an estimated 30 million households owned a personal computer (or about 25% of all households in the country). ¹⁰⁶ A 1995 survey showed that ownership of personal computers among mutual fund shareholders exceeded the national average. ¹⁰⁷ The growing use of personal computers and the Internet by the public has not been lost on the financial services community. ¹⁰⁸ A recent list of investment management firm web sites includes over 200 entries. ¹⁰⁹

Traditionally, technologies have enabled investment companies to offer new services to investors, enhance their internal operations and realize cost savings. Today, technologies affect investors as well as investment companies. Only in the past few years have investors turned to their computers to receive information about their current and potential investments, and to conduct securities transactions. This change has significant consequences. The wealth of information available to investors using new technologies may allow them to enhance their understanding of the securities markets, and provide them with useful information about specific investments. Investors also have financial information available to them at less cost and with less effort than before. These benefits are consistent with the Commission's goals of not only protecting investors, but also teaching investors to protect themselves. ¹¹⁰

1. Individual Investors

a. Changes in the Nature of Investment Company Investors

Twenty years ago, many individual investors did not actively manage their investments, either because they used brokers who provided this service, or because they placed money in savings accounts at banks or had defined benefit plans with their employers. ¹¹¹ An individual investor in today's society, however, is far more likely to consider actively his or her financial circumstances and possible investment options. ¹¹² The vast amount of information accessible to retail investors, and the various tools available to enable such investors to sort, search and save data quickly, have dramatically altered the profile of the "typical" mutual fund investor. Until recently, the only information that most investors received about mutual funds consisted of the fund's prospectus, and the advice given to them by brokers or other financial advisers. Today, an investor with a computer and a modem may instantly receive not only many funds' prospectuses, but also performance data, commentary about funds and reams of investment advice. ¹¹³ Technology has encouraged many individuals to research and track their portfolios using only a home computer.

As a result of this revolution in information availability, many investors believe they no longer need the assistance of a broker or other professional to do their financial planning for them. The Commission has recognized that millions of mutual fund investors are taking a more active approach to their investments, and has reexamined the information that it requires funds to provide to investors. Because many investors have complained that prospectuses and other required disclosure generally have not been very useful in making decisions to invest in mutual funds, the Commission has proposed amendments to its mutual fund disclosure program that are designed to provide investors with more useable information, whether provided through electronic media or on paper. As the Commission and the securities industry continue to accommodate the needs of this new retail investor, the power of electronic media likely will grow.

b. Effect of Retirement Investing

Changes in retirement investing have significantly affected the habits of individual investors. In the past, employers who offered retirement benefits most often provided defined benefit plans to their employees. Today, defined contribution plans are far more typical. An estimated 42% of the corporate work force is covered by a defined contribution plan, while only 24% is covered by a defined benefit plan. ¹¹⁴ By 2001, it is estimated that the amount of assets in defined contribution plans will increase to 53.7% of the total $4.1 trillion in private-trusteed pension plans, with 401(k) plans accounting for 37% of this percentage. ¹¹⁵

Defined contribution plans shift the investment risk associated with the investment of assets in a pension plan from the employer to the employee. In a defined contribution plan, although the employer makes contributions to the employee's account, the actual amount of retirement benefits that the employee ultimately receives will depend on how those assets are invested by the employee. This shift in investment decision-making responsibility has resulted in many employees taking a greater interest in the investment of their retirement assets. Many retirement plans offer employees a choice of investing in a variety of investment companies. ¹¹⁶ The percentage of 401(k) assets invested in mutual funds has increased from 9% in 1986 to an estimated 38% as of year-end 1996. ¹¹⁷

2. Communications with Shareholders and Others

Many mutual funds sell their shares directly to investors without the use of an unaffiliated broker-dealer. These direct-marketed mutual funds were among the first types of fund companies to use the Internet, as it provided them with another channel of distribution for their shares. ¹¹⁸ Competitive pressures may have driven many funds to consider using the Internet to promote the sale of their shares. Because of the many sources of information available about investment companies today, and the large number of competitors in the industry, funds must find the most effective method to reach potential investors. Funds also seek to retain existing shareholders and often compete by providing enhanced services. As a result, many funds have decided to establish a web site dedicated to a particular fund group, post information on a web site of a third party with information about multiple funds, or use a combination of sites.

a. On-Line Prospectuses

Investment companies are making their prospectuses available on-line to a much greater extent than other corporate issuers. Results of a recent survey of fund groups indicate that 76% of the respondents' web sites included prospectuses, and 32% permitted investors to download their prospectuses. ¹¹⁹ In contrast to other public companies, investment companies are using their web sites both to inform the public and to satisfy delivery requirements of the federal securities laws for shareholders that have chosen to receive documents electronically. Because investors may be able to obtain a fund's prospectus through its web site, thus receiving this document instantaneously, a well-written prospectus may serve as a helpful source of information for investors. As more investment companies place their offering materials on their web sites, comparisons of investment companies also could be simplified. Through its two releases, the Commission has provided significant guidance that has facilitated the ability of funds to provide prospectuses and other offering materials on their web sites.

b. Investment Company Web Sites

Investment companies are making extensive use of the Internet. The results of a survey of fund groups indicate that 51% currently have a web site. ¹²⁰ As for those surveyed fund groups that do not have a web site, 41% intend to establish a site by year-end 1997, and 21% intend to establish a site by year-end 1998. ¹²¹

The types of information made available on web sites by different fund groups vary due to the wide use of electronic media by the fund industry. Much of the information currently available on fund groups' web sites is specific information about the funds, advertisements and sales literature, ¹²² and more general educational information that also is available in print. (On-line information that is specific to individual shareholders is described in a later section of this chapter.)

A sophisticated web site can be expensive to create and maintain. ¹²³ As discussed below, mutual fund sales on the Internet are still in the early stages of development, and it may be some time before it is clear whether web sites result in an increase to funds' bottom lines. In order for a web site to be profitable, it must either prove itself to be a viable sales channel, or it must reduce sales and advertising expenses. Web site technology holds tremendous promise compared with the cost of a service center or the costs of printing, mandatory toll-free telephone numbers, staffing telephones, processing and mailing. ¹²⁴ There is virtually no incremental cost to deliver a fund prospectus to a prospective shareholder by the Internet.

Investment companies are not the only parties with fund-related web sites. Much information about investment companies is also available on other parties' web sites, including discount brokerages and providers of on-line directories of funds, discussed in more detail below.

i. Information About a Particular Fund. A prospective investor who browses a fund's web site may have ready access to large quantities of information about the fund. Examples of the types of information available on a fund's web site include: the category and investment strategy of the fund; the amount and classification of the fund's assets; the top holdings of the fund; the minimum investment required; performance information; risk information (such as a risk profile or volatility measures); information about portfolio managers; detailed information about a fund's fees; sales loads and expenses; distribution information and in some cases, information published by third parties, such as Lipper Analytical Services, Inc. or Morningstar, Inc. Many fund groups list their funds by category, so that an investor interested in, for example, bond funds, may see all of the bond funds offered by the fund group. Funds also are utilizing technology to permit shareholders to view more detailed information about the funds, such as recent portfolio purchase and sale transactions by the funds. ¹²⁵

The extensive use of the Internet and related technologies by funds and investors may not only facilitate better informed investing; it also may lead to lower overall costs. Because an investor can compare the fees and other features of one fund to another on-line, some speculate that extensive use of the Internet and related technologies by funds and investors will result in increased competition among funds, which may place downward pressure on mutual fund fees and fees for other financial services. ¹²⁶

ii. General Information. A fund group's web site may include a vast array of information tailored to many types of investors, including general information about the fund group, a glossary of investment terms, or sophisticated risk-management information. Fund web sites also may have information directed to retirement plan participants and administrators, in recognition of the large amount of retirement assets invested in funds.

Some funds try to differentiate themselves from their competitors by offering a variety of services on their web sites. A web site may have an interactive questionnaire that provides an individual with personalized information, such as a recommended asset allocation of the individual's assets among a variety of funds within the fund group's family of funds. Some fund groups offer a variety of "worksheets" or "calculators" to assist investors in choosing types of investments or determining asset allocation or savings strategies for retirement, college, or other purposes. Within seconds after answering several questions, an investor may receive a sample portfolio of types of mutual fund investments. Investors also can take quizzes to test their investing knowledge. ¹²⁷

Many fund web sites have hyperlinks to the sites of third parties that provide fund-related information to investors. A number of funds also have hyperlinks to the EDGAR portion of the Commission's web site, thereby providing direct access to their own prospectuses, periodic reports and other documents filed with the Commission.

c. Information Provided Through Third Parties

The Internet provides funds with another means to inform the public about the funds' products and services. Some funds forego establishing their own web sites and rely on the web sites of third parties. The web sites of third parties allow investors to receive large amounts of information about many funds in one location. Several on-line directories also list funds and have hyperlinks to fund web sites. Below are examples of some web sites of third parties that supply mutual fund information.

The NETworth web site provides information regarding thousands of mutual funds. ¹²⁸ Within NETworth's "Mutual Fund Market Manager," an investor may obtain a report containing general information about a fund, as well as information about the fund's risk, performance, and management and a graph showing the fund's net asset value. A link to the fund's home page also may be available. A user identification and password are required in order to obtain certain information, including a description of a fund published by a third party. An investor also may use NETworth to obtain rankings of funds meeting the investor's particular investment objective and risk tolerance, as well as to search for funds that meet particular investment criteria. Fund commentary and book reviews also are available on the NETworth site.

An important service offered by NETworth assists funds in ensuring that their prospectus delivery obligations are fulfilled. A fund, like any other company offering its securities to the public, must provide a prospective investor with a copy of the fund's prospectus before the fund may lawfully accept an investment in the fund by the investor. A NETworth user who wishes to obtain a fund prospectus must enter the user's name and password, available free of charge by registering on-line with NETworth. This registration system allows NETworth, on behalf of the fund, to obtain from the user a consent to receive the prospectus electronically. At the same time, the investor is provided with the opportunity to request that fund prospectuses be sent on paper. NETworth also can report to each mutual fund the names of consenting investors who viewed the prospectus on-line. This report may be used to evidence delivery of the fund's prospectus, so that the fund can then permit the investor to download an application and invest in the fund. ¹²⁹

Brill Editorial Services operates a web site entitled Mutual Funds Interactive that includes hyperlinks to many funds' web sites, as well as mutual fund news from Bloomberg L.P. and newsgroups. ¹³⁰ The Mutual Fund Education Alliance's web site contains general educational information about investing in mutual funds, and links to numerous funds' web sites. ¹³¹ The Mutual Fund Cafe web site provides articles and information about the fund industry, including monthly reviews of industry trends and weekly analysis and commentary. ¹³²

Certain discount brokers that serve retail investors have web sites that contain extensive information about funds. ¹³³ For example, on the web site of a major discount broker, an investor may view lists of "select" and "top performing funds." To customize the information on this web site, an investor may enter different search parameters and perform a variety of searches, such as comparing "top performing" funds available through the broker, comparing funds matching the investor's criteria, or viewing the discount broker's analysis of a specific fund. A report about a particular fund may include information derived from the fund's prospectus, such as the fund's investment objective, expenses and fees, as well as other information developed by third parties, such as statistical measures of the fund's volatility ( e.g., beta and standard deviation). A brokerage web site also may provide a hyperlink to the broker's Internet trading area.

An innovation by the brokerage industry has been the establishment of "fund supermarkets." The OneSource supermarket was the first fund supermarket, organized by Charles Schwab & Co. in 1992. This supermarket currently has approximately $110 billion in assets. ¹³⁴ One reason given for the growth of supermarkets has been the decrease in fees as a result of electronic trading. ¹³⁵ Through a fund supermarket, an investor may purchase shares of funds from hundreds of different fund groups.

Funds may provide information about themselves through commercial on-line services, such as America Online ("AOL") or Microsoft Network, among others. For example, AOL's Mutual Fund Center has educational and general information about funds. Live chat sessions also are available on the site. Investors having an account with these services may be able to purchase and redeem shares on-line, if they have accounts with participating brokerages.

d. Shareholder Communications

Investment companies have aggressively used new technologies to communicate with their shareholders, as well as to deliver prospectuses and other required information to shareholders. Investment companies also have used new technologies to provide their shareholders with the opportunity to communicate with them electronically. This correspondence may take the form of general questions, or applications to invest. A fund also may permit an investor to send an on-line consent to receive information electronically, rather than sending the consent through the mail.

According to a survey of fund groups, 76% of the respondents' web sites have e-mail availability, and 20% permit the local printing (at the investor's printer) of investor service forms, such as change of address forms. ¹³⁶ An official at a large mutual fund group recently reported that close to 15% of the group's interaction with investors is through the Internet, and predicted that the percentage would grow to about 60% in ten years. ¹³⁷

While a large number of fund groups provide prospectuses and general information on their web sites, fewer fund groups currently offer personalized information, such as account statements, and the ability to conduct on-line transactions. ¹³⁸ Results of a survey of fund groups show that only 24% of the respondents' web sites allow shareholders to view their current account and account history. ¹³⁹ This small percentage may be due to security concerns. ¹⁴⁰ A growing number of fund groups, however, are providing personal account information through their web sites. ¹⁴¹

Many funds are using their web sites to provide their shareholders with information that is required under the federal securities laws. As discussed previously in this chapter, numerous fund groups are providing prospectuses on their web sites. Certain fund groups also are making semi-annual and annual reports available on their web sites. According to a survey of fund groups, 13% of the respondents allow semi-annual and annual reports to be downloaded. ¹⁴² Providing reports in this manner reduces printing and mailing costs, and may allow investors the ability to search more efficiently within a document, and to hyperlink to other reports or third party publications. A fund group also may place additional information on its site, such as information about the funds' recent portfolio purchase and sale transactions.

e. On-Line Transactions

While many parties use electronic media to distribute general and specific information to investors, new technologies have the potential to allow more complicated functions, such as on-line transactions. Several fund groups have begun to offer investors the ability to purchase and exchange ¹⁴³ shares on-line. ¹⁴⁴ One discount broker reported that almost 10% of its customers' mutual fund trades are completed through the Internet, ¹⁴⁵ and 6% of those fund groups responding to a survey permit the purchase of fund shares on their web sites. ¹⁴⁶ Increased on-line trading may result in decreased costs to investors. ¹⁴⁷ The costs of printing and mailing paper prospectuses and other literature can be several dollars per account. In contrast, the cost of delivering that information over the Internet is far lower.

In order to conduct mutual fund transactions on-line, an investor usually must establish an account with the investment company or with the investor's broker, depending on how the investor purchases the fund shares. The investor also must obtain a password or personal identification number, and own hardware that meets certain technical specifications.

An important concern of funds that offer or plan to offer on-line transactions is security. Funds have adopted a number of measures to protect against breaches in security of their web sites. ¹⁴⁸ Security issues nevertheless dominate conferences and publications directed to mutual fund managers, as funds work to ensure that their systems are secure and capable of handling on-line transactions. ¹⁴⁹

Security also is a concern for mutual funds that redeem investors' shares on-line. Under the Investment Company Act, mutual funds must redeem shares based on the current net asset value of the shares that is next computed after receiving a redemption request. ¹⁵⁰ If a breach in security interrupts the payment of the redemption proceeds by the fund, the fund could be unable to meet this obligation.

f. Retirement Plans

Electronic media are beginning to affect the administration of retirement plans. Many employer/sponsors of defined contribution plans have sought to comply with rules under the federal pension laws ¹⁵¹ by providing their employees with information about the funds offered through the plans over the employers' intranets, or by working with the offered funds to make available to employees information already located on the funds' web sites. Fund web sites with retirement plan information may offer interactive savings worksheets, market and fund performance information and answers to questions on retirement planning. ¹⁵² Certain fund web sites also have information available to administrators of 401(k) plans.

There are many uses for new technologies in the administration of defined contribution plans. Plan sponsors are searching for uncomplicated ways for their employees to receive account balances, and interactive technology may facilitate this process. Some providers are creating terminals with retirement plan information that are similar to ATM machines. ¹⁵³

While advanced technology offers many opportunities, it comes with a price. A survey indicates that, although 44% of 401(k) plan participants would consider switching 401(k) plan providers if offered advanced technology, the same percentage would not switch providers. ¹⁵⁴ Only 10% of those surveyed indicated that they would pay 10% more for advanced technology. ¹⁵⁵

3. Development of New Products and Services

Many new products and services in the investment company industry would not be feasible without advances in computer technologies. Investment companies use computer programs and applications in the allocation of their assets, in their accounting and to meet their pricing requirements under the Investment Company Act. ¹⁵⁶ As the number and sophistication of investors in investment companies have increased, investors' desires for different types of funds and pricing structures have increased as well. Investment companies are increasingly using computer technologies to develop new products and services to satisfy those demands.

a. Creation of "Quant" Funds

Quantitative, or "quant," funds use computer models to screen stocks based on predetermined criteria such as earnings momentum, price/earnings ratios, and relative price. With these funds, the computer generates most, and in some instances all, of the investment decisions. While these funds have not yet achieved widespread popularity, some believe that the introduction of quant funds by Fidelity Investments and Schwab signals future growth. ¹⁵⁷ One fund's model consists of a three-step process that evaluates 1,300 stocks based on 40 different valuation factors, Wall Street analyst recommendations and insider selling patterns. Following this evaluation, the computer optimizes the fund's portfolio to obtain risk/reward potential and to produce industry diversification similar to that of the S&P 500. The final portfolio consists of 50 to 100 stocks. ¹⁵⁸

b. Master-Feeder Funds

Competition for investment assets has been intense, and has led to innovations in the structures used to aggregate assets under management in collective investment pools. Technology has enabled funds to develop and manage those new structures in a cost-efficient manner. One recently developed structure in the investment management industry is the master-feeder (or hub-and-spoke) arrangement.

In a master-feeder arrangement, one or more feeder funds (or spokes), each of which is tailored for and sold to a particular category of investors, invests its assets in a single master fund (or hub). Investment management takes place at the master fund level, while distribution and other services occur at the feeder level. A master-feeder structure allows a fund group to sell feeder funds through several distribution channels to different categories of investors, to spread fixed expenses among a greater amount of assets and provides the possibility of greater diversification due to the larger asset base.

The holdings and cash flows of feeder funds must be reconciled daily with those of the master fund, and computer technology facilitates these tasks. Fund accounting software and other data processing systems have been specifically designed for these types of funds. ¹⁵⁹

c. Mirror Funds

Technology has enabled foreign money managers to offer U.S. investors the opportunity to purchase shares in funds that are substantially similar to those sold outside the U.S., but that are registered under, and have the protection of, the federal securities laws. These funds are commonly referred to as "mirror funds." ¹⁶⁰ Due to legal limits (discussed below) placed on the ability of any non-U.S. fund (a fund formed under a jurisdiction other than the United States) to sell its shares publicly in the United States, the manager of a non-U.S. fund may seek to register in the United States as an investment adviser and establish a mirror fund registered in the United States that invests in the same securities as a fund in the adviser's home country. This U.S. "mirror fund" may then be offered to investors in this country. Computer software has been developed that is designed to facilitate the management and operation of different mirror portfolios by a single investment adviser. ¹⁶¹

d. Hourly Pricing

Technology has allowed mutual funds to provide enhanced services to fund investors that would not have been feasible before the advent of advanced computer systems. Most funds calculate their net asset values once daily, ¹⁶² and all purchases and redemptions each day are effected at those net asset values. Advanced computer and communications technologies have enabled at least one fund group to offer a series of funds that are priced and stand ready to sell or redeem their shares on an hourly (rather than daily) basis during regular business hours.

D. Commission's Response to Technological Challenges

1. Facilitating the Use of Technological Advances

The Commission has taken a number of actions to facilitate the use of electronic media by mutual funds and other members of the securities industry. Most important for mutual funds are the two interpretive releases that the Commission has issued on the use of electronic media to satisfy disclosure and delivery obligations under the federal securities laws. These two releases demonstrate how the Commission has used the flexibility inherent in the federal securities laws to facilitate the use of new technology, while at the same time ensuring the continued protection of investors.

The October 1995 Release, which was the Commission's first significant step toward eliminating the legal uncertainty that had previously surrounded the use of new technologies to satisfy delivery and disclosure obligations, provided important guidance for market participants that wished to use these technologies. As described in the previous chapter, the release established that issuers and others are free to choose to effect delivery electronically, provided that investors have notice of the availability of electronic disclosure, that investors receiving electronic disclosure documents be able to access them, and that those providing disclosure electronically obtain evidence showing that the recipient received the information.

In May 1996, the Commission issued a second release that extended the framework of the October 1995 Release to broker-dealers, transfer agents and investment advisers. The May 1996 Release discusses issues unique to the electronic provision of customer-specific information, such as confirmations and account statements, to individual investors. Although the May 1996 Release permits regulated entities to use new technologies to transmit such information, it reminds those who use new technologies of the need to take steps to ensure the integrity, confidentiality and security of customer-specific information just as they would in paper-based systems. The Release also states that regulated entities should obtain their customers' consent before providing personal financial information to them electronically.

In other areas, the Commission staff has provided interpretive advice to market participants that have developed innovative uses of technology. While the drafters of the federal securities laws never contemplated the type of innovation allowed by today's new technologies, the Commission and its staff have been able to facilitate technological innovation without sacrificing investor protection.

2. Fund Profiles

The Internet and related technologies are being used extensively by fund groups, other financial service providers and publishers to provide investors with a significant amount of information about investment companies. Much of this information is useful and serves to inform investors. The Commission has recognized that the disclosure it requires of investment companies also must be concise and clearly written in order for investors to benefit fully from the greater access to information offered by electronic media. ¹⁶³ The Commission's disclosure initiatives have been designed to provide investors with this type of information, so that they may they find it easier to use a fund's prospectus and other offering documents to learn about the fund or to make their investment decisions. ¹⁶⁴

Many investors have told the Commission that they prefer to compare funds by referring to a document that describes, in a standardized format, the key features of a fund. Partly in response to investors' preferences, the Commission has proposed a "fund profile" initiative. This initiative offers a new disclosure option that previously was not available to funds or their investors. The proposal would permit a fund to provide investors with a document that would summarize key information, including a risk/return summary, ¹⁶⁵ and other information about a fund's investment strategies, goals and fees, in a concise, standardized format. ¹⁶⁶ The profile also would include basic information about the fund's investment adviser and portfolio manager, purchase and redemption procedures, tax implications and shareholder services. ¹⁶⁷

Both the fund profile proposal and the proposal to amend the fund prospectus recognize the widespread use of mutual funds in defined contribution retirement plans. The proposals give funds the flexibility to tailor prospectuses and profiles intended for use in this market by permitting them to omit information, such as purchase and sale procedures, that is not relevant to plan participants. This flexibility may particularly serve parties that have web sites specifically for (or portions of their sites devoted to) investors in employee benefit plans.

3. Challenges Ahead

While technology has created opportunities and benefits for investment companies, their investors, and regulators, it also has created challenges. As technology continues to develop at a rapid pace, the regulatory framework of the federal securities laws must evolve as well. The Commission faces challenges to facilitate and respond to developments in technology. ¹⁶⁸ Some challenges are related to technology itself, such as the need for secure means of communicating private information or transmitting monies on-line, and ensuring the ability of an investor to redeem shares in a fund. Others arise from the nature of the Internet itself -- which provides unique opportunities for international communication. It will be a challenge to ensure that this generation of investors, with access to more information than their parents had in a lifetime, has disclosure documents that are helpful and that will guide them in making informed investment decisions.

a. Security of Information and Transactions

The fund industry must continue to seek out those security devices that protect the integrity of on-line transactions against the risk of theft of investors' payments and proceeds. Mutual funds also must ensure that their systems allow them to redeem an investor's shares within seven days upon the investor's request. ¹⁶⁹ The vast numbers of individuals and institutional investors buying, selling and exchanging fund shares make attention to security concerns imperative. Judging only by the number of articles, conferences and consultants devoted to the issue of the security of electronic transmissions, it appears that the industry recognizes this as one of the most significant operational business considerations facing the fund industry at this time. The Commission staff has engaged in discussions with industry representatives regarding security issues, and is monitoring funds' development of systems designed to ensure the integrity of electronic transactions.

b. Expanding Distribution Channels

Fund supermarkets have created a new and popular forum for mutual fund investors. Some commentators attribute the primary forces behind the growth of this new distribution channel to the millions of computer-savvy investors going on-line to use the resources of these rapidly expanding networks. ¹⁷⁰ As indicated earlier, fund supermarkets offer investors many advantages over investing directly with individual fund groups. They offer a larger selection of funds, consolidated account and tax statements, the ability to switch among funds without incurring transaction fees, distributions "swept" into a single money management account, on-line and software tools for planning, research and analysis, convenient trading on the Internet at a discount and financial planning advice. ¹⁷¹

As supermarkets have developed, the Commission staff has needed to provide interpretive guidance to one supermarket sponsor regarding the rules governing the timing of purchase or redemption requests. ¹⁷² This guidance should allow investors that use supermarkets to make purchase and redemption requests on an equal basis with those investors that engage in the same transactions directly with a fund.

c. International Offering Issues

The international nature of the Internet poses particular challenges under the Investment Company Act. ¹⁷³ Under the statute, few funds organized outside the United States are able as a practical matter to register their securities with the Commission.¹⁷⁴ Because of the Internet's ability to reach investors worldwide, mutual funds that make information about their securities available on the Internet may inadvertently become subject to U.S. law or the laws of multiple jurisdictions.

The Commission is undertaking several international initiatives in response to the specific challenges raised by the cross-border distribution of funds and investment management services through the Internet. Staff members have engaged in discussions with the industry in response to concerns regarding the appropriate jurisdictional reach of regulators over investment company web sites. The Commission also has played a key role in the International Organization of Securities Commissions ("IOSCO"), an organization composed of securities regulators around the world. IOSCO has surveyed its members on how the Internet is used for the cross-border distribution of mutual funds and investment management services, and how other members regulate mutual funds and investment management services provided through the Internet in each IOSCO member's jurisdiction. IOSCO also has created an Internet Task Force discussed in Chapter V to study these and other issues raised by the Internet and to coordinate IOSCO's recommendations.

To minimize any regulatory uncertainty that the uniquely global nature of the Internet may raise, the various Divisions within the Commission are working with the industry and within IOSCO. Any possible changes to maximize the benefits of new technology must take into account the primary mandate of the securities laws, the protection of investors.

E. Conclusion

While the full effect of recent technological developments remains to be seen, these developments have significantly changed the ways in which many investors obtain information about their investments and conduct financial transactions. These technologies have many advantages for investors. The Commission has worked actively to facilitate the use of new technologies by mutual funds so that they may communicate with investors more effectively and provide shareholders with innovative services, without sacrificing investor protection.

III. Investment Advisers

A. Overview

Information is central to the investment advisory industry. New computer and electronic communication systems have made an enormous amount of financial information more readily available both to investment advisers and investors. This chapter will address the use of new technologies by investment advisers, the regulation of that use, and the Commission's approach to the issues arising from the use of new technologies that affect investment advisers and their clients.

New technologies already allow advisers to gather, assimilate, and analyze information faster and less expensively than ever before. This same wealth of information, and the ease with which it may be obtained, also has allowed many individual investors to learn more about their investments, and about the types of questions that they should ask when dealing with investment advisers.

An investor using today's computer technology may inexpensively obtain information that just a few years ago was available only from limited sources. Some argue that today's technology levels the playing field between individual investors and more sophisticated professional investors. ¹⁷⁵ Many members of the securities industry now offer asset allocation software and similar features on their web sites. Many books and articles also have been published about web sites that provide assistance with asset allocation. ¹⁷⁶ Various entities also provide individual investors with extensive lists of mutual funds from a variety of different fund groups. All of these technological advances may cause investment advisers to rethink and reshape the way in which they conduct their businesses to keep and to attract computer-savvy investors.

The access to a large amount of information about investment opportunities has not necessarily caused investors to forego using the services of investment advisers. Instead, individual investors, like professional investors, can identify categories of information they need to obtain from their advisers in advance, and can prepare questions about particular investments for their advisers based on their computer research. Other investors may be more likely to seek professional investment advice because, as a result of new technologies, they may have difficulty determining which particular investments to choose or sources of information on which to rely. ¹⁷⁷

Mutual fund distributors anticipate that investment