Transparency for our Investors and at the Commission
Aug. 5, 2020
Good morning. This is an open meeting of the U.S. Securities and Exchange Commission, under the Government in the Sunshine Act. Today we have two items on the agenda, both examples of our continued work to enhance transparency for investors and at the Commission. Today’s agenda items illustrate that the Commission’s transformative work in the area of modernizing our disclosure framework and Commission transparency need not pause while the Commission is also monitoring, and responding to, the effects of COVID-19 on our markets, our registrants and our investors.
Tailored Shareholder Reports, Treatment of Annual Prospectus Updates for Existing Investors, and Improved Fee and Risk Disclosure for Mutual Funds and Exchange-Traded Funds; Fee Information in Investment Company Advertisements
I will now turn to the first item. Over the past few years, our staff—across Divisions and Offices—have worked tirelessly to modernize and improve our disclosure system. Today’s proposal would transform, for the benefit of investors, our disclosure framework for mutual funds and exchange-traded funds (“ETFs”), increasing accessibility, readability and transparency. As I discussed at our last Open Commission Meeting a few weeks ago, mutual funds and ETFs have become the primary way in which many Main Street investors access our capital markets. To put in perspective the importance of these investment products, and, as a result, the importance of clear, concise fund disclosure, we should look at the number of Americans this proposal would impact. Over 101 million individuals—representing almost 45 percent of U.S. households—own shares in registered investment companies, while almost 100 million individuals own shares in mutual funds in particular. If recent trends persist, these numbers will continue to increase in the coming years.
Today’s action comes in response to substantial feedback from investors and other market participants. In 2018, we asked for public comment from individual investors and other interested parties on enhancing disclosures by mutual funds, ETFs, and other types of investment funds with the aim of improving the investor experience and facilitating more informed investment decisions. We sought input from investors across a range of topics related to how investors use fund disclosures and how those disclosures could be improved—not only substantively but also through delivery and design. Investors and others responded enthusiastically to our request and provided thoughtful and practical suggestions on how we could help funds present information and in a manner that can be easily understood and utilized by our Main Street investors. Today’s proposal incorporates many of the comments we received and is a better product as a result of public feedback.
Today’s proposal would establish a new disclosure framework for mutual funds and ETFs that modernizes the shareholder reports provided to existing investors and the prospectuses provided to new investors, including by highlighting disclosures that investors find most important as they make their investment decisions.
A critical element of this new framework is its layered disclosure approach. Disclosure for existing investors would be centered on a concise and visually engaging shareholder report. The report would serve as the primary fund disclosure that these investors receive each year. In addition, investors would receive notices of certain material changes as they occur during the year. Additional information would be available online, reported on Form N-CSR, and delivered to investors upon request. The proposal would also apply layered disclosure concepts to the annual prospectus updates that investors currently receive.
To be clear—and let me emphasize this—under the proposal, the amounts and types of fund information available to investors would remain largely unchanged, but investors would receive, in a more useful way, the information that they have told us they most need. To help illustrate the proposed improvements, the Commission is publishing on our website a summary graphic showing the differences between the existing framework and the proposed improvements. This graphic presents clearly how the proposal’s layered disclosure approach would operate: a streamlined shareholder report highlighting particularly important fund information, with additional information being available online, delivered upon request and reported on Form N-CSR. The graphic shows as well where information required under the current framework would be found in the new disclosure framework.
Today’s proposal addresses other aspects of fund disclosures, including: (1) the presentation in prospectuses of fees, expenses, and principal risks; (2) new flexibilities for electronic shareholder reports to promote the use of interactive, user-friendly design features; and (3) amendments to the presentation of fee and expense information in investment company advertisements. In short, this is a very exciting proposal that significantly modernizes our fund disclosure framework with an investor-first perspective. I believe it will significantly enhance the investor experience for millions of Main Street investors.
Today’s proposal represents a Herculean effort by Commission staff, across Divisions and Offices, but particularly in the Division of Investment Management, and I congratulate them all on this achievement. In particular, I would like to acknowledge the following staff members for their contribution to this effort:
- From the Division of Investment Management: Dalia Blass, Sarah ten Siethoff, Alison Staloch, Brian Johnson, Amanda Wagner, Zeena Abdul-Rahman, Daniel Chang, Mykaila DeLesDernier, Pamela Ellis, Angela Mokodean, Keith Carpenter, Michael Kosoff, Daniel Rooney, Mike Spratt and Jennifer McHugh.
- From the Division of Economic and Risk Analysis: S.P. Kothari, Malou Huth, Hari Phatak, Alex Schiller, Cindy Alexander, Adam Large, PJ Hamidi, Wei Liu, Dan Bresler and Andy Kim.
- From the Office of the General Counsel: Bob Stebbins, Meridith Mitchell, Lori Price, Natalie Shioji, Cathy Ahn and Sean Bennett.
I will now turn it over to Dalia Blass, Director of the Division of Investment Management, for the staff’s presentation of their recommendation. S.P. Kothari, our Chief Economist and DERA Director, will then summarize his views on the potential economic effects of this proposal.
Publication on the Commission’s Website of Procedures for Nominating Candidates for Appointment to the Investor Advisory Committee
The second item on our agenda continues the theme of transparency, specifically, transparency at the Commission. The current Investor Advisory Committee (the “Committee”)—mandated by the Dodd-Frank Act and established in 2012—plays an important role at the Commission. The statutory purpose of the Committee is to advise and consult with the Commission on:
- Regulatory priorities of the Commission;
- Issues relating to the regulation of securities products, trading strategies, fee structures, and the effectiveness of disclosure;
- Initiatives to protect investor interests; and
- Initiatives to promote investor confidence and the integrity of the securities marketplace.
The members of the Committee provide the Commission and staff with important insight, sharing their experience and perspective across a wide array of topics so the Commission can craft policy that is well informed. As such, having a diverse membership that reflects the different types of investors in our markets is key to making sure that we, the Commissioners, have the information we need to make policy decisions.
Unfortunately, the historical process for the selection and appointment of members to the Committee has not been transparent to the public, nor has it in my view reflected best practices for good corporate governance. We are addressing those issues today. There are a number of vacancies currently on the Committee. I want to make sure that members of the public understand the process the SEC will use to identify and consider candidates for those vacancies – and, importantly, that they know how they can submit their own names if they have interest in serving.
Historically, I understand that the initial members of the Committee were selected by the then-sitting Commission, with each Commissioner being able to nominate a set number of members. As members left the Committee, new members were selected by the Commission based on a non-codified nominating process where the Commissioner (or her or his successor) who nominated the departing member nominated the new member. This process resulted in unsatisfactory outcomes, including that: (1) nominations were more likely to occur in isolation rather than as a comprehensive approach to provide for a broad diversity of background, expertise and perspective; (2) Commissioners could be in a position where they were nominating members late in their terms; and (3) the SEC staff had no formal input in the selection process. The process was inconsistent with generally accepted good governance practices for board selection, including, for example, those mandated by stock exchange rules.
The process we are considering adopting today would replace this system—where members of the Committee are nominated by individual Commissioners—with a nominating process that is led by the SEC staff and that takes into account the composition of the Committee as a whole. It is my view, based on experience with many of our other advisory committees, that such a staff-led nominating committee, itself reflecting the diverse array of experience and perspectives of the Commission’s career staff, will greatly assist the Commission in locating and selecting qualified candidates with diverse perspectives. The ultimate decision whether to appoint a member to the Committee will of course continue to rest with the Commission.
The process we are considering today would also provide more transparency to the public into how candidates are considered for appointment to the Committee. I am pleased that in June of this year, we opened up an email box to allow members of the public to express their interest in being considered for the Committee. The proposed new process would formalize and identify functional membership categories that the staff will use as a guide when considering candidates for vacancies. These functional membership categories are the result of the work of the staff-led nominating committee, with representatives from across SEC Divisions and Offices, that identified the types of expertise and perspectives that would create a diverse Committee that can broadly address the wide range of issues affecting investors. These categories were formulated with an eye toward promoting a diversity of background, expertise and perspective. Importantly, these categories were developed with the many different types of investors and investor services professionals that participate in our markets in mind—for example, there are categories for retail investors, angel investors, claimants’ counsel, large and small institutional investors, and investor education professionals, among many others.
As I noted, the use of a staff-led nominating committee and functional membership categories is a process that we began with the introduction of the Fixed Income Market Structure Advisory Committee (“FIMSAC”) in 2017 and has worked well for the Commission’s other advisory committees, the Asset Management Advisory Committee (“AMAC”) and the Small Business Capital Formation Advisory Committee (“SBCFAC”). For reference, as part of the procedures we are considering to publish today, we would also include the functional membership categories currently used by the staff for these other committees. These functional membership categories are flexible and should, of course, be expected to change as our markets are ever evolving. We expect this process will lead to a mix of perspectives on the Committee that effectively furthers the statutory mission of the Committee and adds efficiency and certainty to the nominating process. In addition to being transparent, the process is consistent with established and proven governance practices.
The process we are considering publishing today has been a long time coming, and is the result of many years of discussions among Commissioners, past and present, and staff throughout the Commission’s Divisions and Offices. Important to me is that this is a tested process that has proven to be effective and reflects the broad scope of the Committee’s mandate and past work—the work of the Committee has touched every policy Division and Office at the Commission. I will close by noting that five of the six Committee members we appointed this past May were identified by the staff-led nominating committee. The result was an accomplished and diverse group of new Committee members who I am certain will contribute significantly to the work of the Committee.
Before I turn it over to Laura Jarsulic, Associate General Counsel in our Office of the General Counsel for the recommendation, I would like to thank the staff-led nominating committee, which includes representatives of the following Divisions and Offices, for all their work so far:
- Division of Corporation Finance;
- Division of Economic and Risk Analysis;
- Division of Enforcement;
- Division of Investment Management;
- Division of Trading and Markets;
- Office of Inspections and Examinations;
- Office of the Investor Advocate;
- Office of Investor Education and Advocacy; and
- Office of Minority and Women Inclusion.
Robert Marchman, our Senior Policy Advisor for Diversity and Inclusion, will serve as the first Chair of the staff-led nominating committee. Thank you Robert for taking that role—I am confident that your leadership will help the nominating committee identify an accomplished array of new candidates. Finally, I would like to thank Bryant Morris, from the Office of the General Counsel, and Marc Sharma, from the Office of the Investor Advocate, for their work regarding the procedures for nominating candidates.
With that, Laura [Jarsulic], I turn it over to you.
 Increased transparency has been a focus of the Commission during my tenure. See, e.g., Chairman Jay Clayton, Governance and Transparency at the Commission and in Our Markets (Nov. 8, 2017), available at https://www.sec.gov/news/speech/speech-clayton-2017-11-08; Chairman Jay Clayton, Modernizing our Regulatory Framework (Nov. 14, 2019), available at https://www.sec.gov/news/speech/clayton-modernizing-our-regulatory-framework-111419.
 See, e.g., Press Release, SEC Adopts Rules and Interpretations to Enhance Protections and Preserve Choice for Retail Investors in Their Relationships With Financial Professionals (June 5, 2019), available at https://www.sec.gov/news/press-release/2019-89; Press Release, SEC Proposes to Modernize Disclosures of Business, Legal Proceedings, and Risk Factors Under Regulation S-K (Aug. 8, 2019), available at https://www.sec.gov/news/press-release/2019-148; Press Release, SEC Clarifies Investment Advisers’ Proxy Voting Responsibilities and Application of Proxy Rules to Voting Advice (Aug. 21, 2019), available at https://www.sec.gov/news/press-release/2019-158; Press Release, SEC Amends Rules to Improve Disclosure and Encourage Issuers to Conduct Debt Offerings on a Registered Basis (Mar. 2, 2020), available at https://www.sec.gov/news/press-release/2020-52; Press Release, SEC Adopts Amendments to Improve Financial Disclosures about Acquisitions and Dispositions of Businesses (Mar. 21, 2020), available at https://www.sec.gov/news/press-release/2020-118; Press Release, SEC Adopts Amendments to the CAT NMS Plan to Improve Transparency and Financial Accountability (May 15, 2020), available at https://www.sec.gov/news/press-release/2020-114; Press Release, SEC Adopts Amendments to Exemptive Applications Procedures (Jul. 6, 2020), available at https://www.sec.gov/news/press-release/2020-150; Press Release, SEC Adopts Rule Amendments to Provide Investors Using Proxy Voting Advice More Transparent, Accurate and Complete Information (Jul. 22, 2020), available at https://www.sec.gov/news/press-release/2020-161. See also, Chairman Jay Clayton, Governance and Transparency at the Commission and in Our Markets, Remarks at the PLI 49th Annual Institute on Securities Regulation (Nov. 8, 2017), available at https://www.sec.gov/news/speech/speech-clayton-2017-11-08; Chairman Jay Clayton, Statement on the SEC’s Coronavirus Response Efforts – Facilitating the Continued Orderly Operation of Our Capital Markets Consistent with Health and Safety Directives and Other Measures (Mar. 20, 2020), available at https://www.sec.gov/news/public-statement/clayton-covid-19-2020-03-20.
 See Letter from Council of Institutional Investors and Institutional Limited Partners Association (June 5, 2020) (“Given the importance of the IAC to providing investors a voice in SEC policy development, we urge the SEC to set forth a transparent process for seeking nominees, and making appointments, to the IAC. Our organizations believe a more transparent process would benefit the Commission as well as investors and markets generally.”), available at https://ilpa.org/wp-content/uploads/2020/06/2020.6.5-Joint-CII-ILPA-Letter-to-SEC-on-IA-Committee.pdf.
 I had no prior interactions with two of the three individuals nominated earlier in my tenure, both of whom were recommended by the staff. These three members of the Committee have terms that will end shortly after the end of my tenure.
 See Nasdaq, Seven Critical Elements of a Board Refreshment Plan (May 3, 2017), available at https://www.nasdaq.com/articles/seven-critical-elements-of-a-board-refreshment-plan-2017-05-03; NYSE: Corporate Governance Guide, available at https://www.nyse.com/publicdocs/nyse/listing/NYSE_Corporate_Governance_Guide.pdf. See also, NYSE Listed Company Manual Section 303A.04; Nasdaq Listing Rule 5605.
 Staff in the Division of Corporation Finance with expertise in corporate governance practices reviewed this process and indicated that the use of a nominating committee and board skills matrix, like the functional membership categories, to identify potential replacement candidates for the Committee are similar to a key aspect of best practices recommended by corporate governance experts.