Names Rule

A registered open-end fund markets itself as the Brackenridge Municipal Income Fund. A client asks IAR Sylvana Petrov what the name itself legally commits the fund to do. What is the MOST accurate answer?

1. A.The name is purely a marketing label and creates no investment obligation, since only the prospectus is legally binding.Incorrect. The names rule makes the name itself the source of a binding 80% investment policy.
2. B.The name obliges the fund to hold only investment grade municipal securities and to avoid leverage.Incorrect. The rule governs the TYPE of investment implied by the name. It says nothing about credit quality, duration or leverage.
3. C.The fund must adopt a policy of investing at least 80% of its assets in the municipal investments the name suggests, and that policy is either fundamental or subject to prior shareholder notice before it may be changed.Correct. That is the substance of the SEC names rule, and it also implies a commitment about the tax character of distributions.
4. D.The fund must invest 100% of its assets in municipal securities at all times, with no permitted deviation.Incorrect. The threshold is 80% of assets, which leaves the balance available for other holdings and for liquidity management.

Why: Under the SEC names rule, a registered fund whose name suggests a focus on a particular type of investment, industry, country or geographic region must adopt a policy to invest at least 80% of the value of its assets in the investments suggested by that name. The rule exists because a fund name is the single most prominent piece of marketing an investor sees, and investors reasonably read it as a description of the strategy. The 80% policy must be either fundamental, meaning it can be changed only by a shareholder vote, or subject to a commitment to give shareholders prior notice of any change, so the investor either votes on a change or has the chance to redeem before it takes effect. A tax-exempt income name such as this one also implies a commitment about the tax character of the income the fund distributes. What the name does not do is constrain the remaining portion of the portfolio, or make any promise at all about credit quality, duration, leverage or yield, all of which must be found in the prospectus.

A sponsor proposes to launch the Ashgate Municipal Income Fund. Under the SEC rule governing fund names that suggest a particular type of investment, the fund must:

1. A.Avoid using the word municipal in its name unless every security it holds is a municipal obligation.The rule sets an 80 percent policy, not a requirement that the portfolio be entirely of one type.
2. B.Obtain SEC approval of the name before the registration statement becomes effective.The SEC does not approve fund names; the rule imposes an investment policy obligation on the fund.
3. C.Disclose in every advertisement that the name does not describe the fund's actual holdings.No such disclaimer exists. The rule requires the portfolio to match the name rather than a disclaimer that it does not.
4. D.Adopt a policy of investing at least 80 percent of the value of its assets in the investments suggested by its name, changeable only by shareholder vote or after advance notice.Correct. The rule requires an 80 percent investment policy that is either fundamental or subject to advance shareholder notice before change.

Why: Where a fund's name suggests that it focuses on a particular type of investment, industry, or geographic region, the fund must adopt a policy to invest at least 80 percent of the value of its assets in the investments the name suggests. The policy must be either fundamental, meaning it can be changed only by shareholder vote, or subject to advance notice to shareholders before any change.