Release No. 33-6753

Release No. IC-16245

February 2, 1988

Advertising by Investment Companies

ACTION: Adoption of rules, and amendments to rules, forms, and guidelines.

SUMMARY: The Commission is adopting new rules and amendments to several rules and forms under the Securities Act of 1933 and Investment Company Act of 1940 affecting the advertising of mutual funds and insurance company separate accounts offering variable annuity contracts. The rules and amendments (1) standardize the computation of mutual fund performance data in advertisements and sales literature; (2) require certain risk and other disclosures in sales material; (3) eliminate the requirement to file sales material with the Commission if it is filed with the National Association of Securities Dealers; and (4) clarify that investment companies must maintain sales material for inspection by Commission staff. The new rules and amendments will enhance investors ability to compare and evaluate investment company performance claims while reducing investment company filing obligations.

EFFECTIVE DATE: May 1, 1988.

FOR FURTHER INFORMATION CONTACT: Thomas S. Harman, Chief of Office, or Robert E. Plaze, Special Counsel, (202) 272-2107, Office of Disclosure and Adviser Regulation, Division of Investment Management, Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549.

SUPPLEMENTARY INFORMATION: The Securities and Exchange Commission ("Commission") today is adopting:

(1) Amendments to rule 482 17 CFR 230.482 under the Securities Act of 1933 15 U.S.C. 77a et seq. ("1933 Act") and Forms N-1A, N-3, and N-4 17 CFR 274.11A, 274.11b, and 274.11c under the 1933 Act and Investment Company Act of 1940 15 U.S.C. 80a-1 et seq. ("1940 Act") to standardize the computation of certain performance data advertised by investment companies. ¹ The amendments permit fund advertisements to quote a uniformly calculated yield, tax equivalent yield, total return, and to quote performance by non-standardized total return quotations provided that any yield or non-standardized total return quotation is accompanied by uniformly calculated one year, five year, and ten year average total return quotations. These total return quotations are based on "rolling" twelve month periods that must be updated quarterly.

(2) Amendments to rule 420 under the 1933 Act 17 CFR 230.420 to permit the text of rule 482 advertisements to be as small as (but no smaller than) 8-point type.

(3) Amendments to rule 482 to (i) require fund advertisements containing performance data to explain the historical nature of the data and emphasize the risks of principal and income fluctuations, and (ii) preclude funds from including purchase applications in rule 482 advertisements. The addition and amendment of notes to the rule will remind issuers, underwriters, and dealers sponsoring ads of their responsibilities in connection with rule 482 advertisements under the federal securities laws.

(4) Amendments to Forms N-1A, N-3, and N-4 to revise the format of prospectus disclosure of performance data. The amendments require a fund to include in its prospectus a brief description of how performance information used in advertising is calculated and to provide an example and a more detailed explanation in the Statement of Additional Information ("SAI"). An exhibit requirement will be added to the registration statement to allow the Commission staff to review performance calculations. ²

(5) New rule 24b-3 under the 1940 Act and amendments to rules 424 and 497 under the 1933 Act 17 CFR 230.424 and 230.497 to relieve investment companies of their obligation to file sales material with the Commission if it is filed with the National Association of Securities Dealers ("NASD"); amendments to rule 499 under the 1933 Act 17 CFR 230.499 to exempt investment companies filing electronically from the prospectus filing requirements under certain circumstances; and an amendment to rule 31a-2 under the 1940 Act 17 CFR 270.31a-2 to clarify that investment companies must maintain sales material for inspection by the Commission.

(6) New rule 34b-1 under the 1940 Act to make the uniform performance calculations and disclosure requirements of rule 482 applicable to fund sales literature.

The Commission also is publishing related amendments to staff guidelines for the preparation of registration statements on Forms N-1A, N-3, and N-4. Finally, the release sets forth interpretive positions on several issues relating to fund advertising to provide guidance or address problems concerning appropriate disclosure. ³

Table of Contents

I. BACKGROUND

On September 17, 1986, the Commission proposed new rules and amendments to rules and forms that would, among other things, standardize the computation of fund performance data used in advertisements (the "Proposals"). ⁴ The Proposals were prompted by a tremendous growth in non-money market funds ⁵ and a concomitant growth in fund advertisements quoting performance data. The Commission was concerned that investors could not compare performance claims because no prescribed methods of calculating fund performance existed (except for money market funds), and because funds were being advertised on the basis of different types of performance data. In addition, the Commission expressed concern that some of the methods being used distorted performance. The Proposals were designed to prevent misleading performance claims by funds and to permit investors to make meaningful comparisons among fund performance claims in advertisements.

The Proposals were preceded by a proposal submitted to the staff by the Investment Company Institute ("ICI"), a mutual fund industry trade group, to standardize yield and distribution rate quotations of income funds ("ICI proposal"). The ICI proposal would have the Commission prescribe a mandatory, compounded, annualized, thirty-day yield formula and a twelve month distribution rate formula for funds whose primary investment objective is the production of current income through investment in debt obligations. A significant feature of the ICI proposal was that it would prescribe accounting rules for measuring fund income, which would avoid the variations that now result from reliance on generally accepted accounting principles, but would require funds to use accounting rules in computing performance that may differ from those used for other purposes.

The Proposals would have limited the performance data advertised by income funds to a uniformly computed yield quotation (based largely on the formula suggested by the ICI) and would have required that it be accompanied by uniformly total return quotations covering the five most recently completed calendar years and any subsequent interim period. The Proposals would have limited the advertisement of performance data of all other funds (except money market funds) to uniformly calculated total return quotations covering the same periods. In addition, the Proposals addressed a number of other advertising-related issues. Specifically, the Proposals would: (1) amend rule 482 to require that advertisements relying on that rule emphasize the risk of principal and income fluctuations; (2) preclude rule 482 advertisements from including purchase applications; (3) add a note to rule 482 to clarify the Commissions view that for purposes of the securities laws, a fund advertisement stands alone, i.e., in considering whether an advertisement is misleading, the Commission will look only to the advertisement; (4) amend rule 482 to require that (i) advertisements that quote several performance figures give equal prominence to each, and (ii) advertised performance data be current, and in no case more than thirty days old; (5) propose new rule 24b-3 to relieve investment companies from their obligation to file sales literature with the Commission if it is filed with the NASD; (6) amend rule 31a-2 to clarify that investment companies must maintain sales material for inspections; (7) add a new rule 34b-1 to make the uniform performance calculations applicable to fund sales literature; and (8) reallocate and streamline performance data disclosure in the three parts of the registration statement.

The Commission received forty-six comment letters on the Proposals which, together with a summary of the letters prepared by Commission staff, are included in File No. S7-23-86. The comment letters reflect a wide variety of views on almost every topic discussed by the Proposals.

II. STANDARDIZED PERFORMANCE DATA

1. Definition of an Income Fund

As noted above, the Proposals would limit income funds to advertising a uniformly computed yield accompanied by total return information covering each of the five preceding calendar years. Under the Proposals, only income funds could quote a yield. As amended, the rules permit all funds to advertise yield.

The Proposals defined an income fund as a fund that (1) has as its principal investment objective the production of current income primarily through investment in debt obligations, and (2) has a dollar-weighted average of at least 95 percent of its net assets invested in debt obligations during the measuring period. This definition, and in particular the 95 percent test, would have essentially limited yield advertising to bond funds. The 95 percent test was included in the definition to prevent the distortion of yield that could occur because of the "clustering" of equity security dividend distributions during certain times of the year. ⁶

Many commenters criticized this definition as too restrictive. The 95 percent test particularly concerned commenters because of its application to "corporate cash management funds," which invest in dividend-paying preferred stocks to permit their corporate investors to take advantage of the inter-corporate dividend deduction of federal tax law. Commenters argued that investors in those funds are primarily concerned with yield because of the tax benefits of their dividends. Other commenters claimed that yield advertising is also important for utility, equity income, and balanced funds. Some commenters suggested that the "clustering problem" be resolved by permitting a fund to recognize as income, on a daily basis, a pro rata portion of an equity securitys stated dividend each day of the base period that the security is held in the funds portfolio, thus "normalizing" the recognition of dividend income from equity securities. In addition, commenters suggested that the limitation of yield quotations to funds having as a principal investment objective the production of current income was unnecessary because funds not having a substantial amount of income would not normally wish to quote a yield.

The Commission is persuaded that, using the normalization technique suggested by commenters to resolve the "clustering problem," it is not necessary to limit use of a yield quotation to income funds holding mostly debt obligations. Therefore, as amended, rule 482 permits all funds to advertise yield. ⁷

2. Calculation of Yield

The proposed yield formula, which is being adopted largely as proposed, was based on a formula proposed by the ICI. It computes yield by dividing a funds net investment income per share during the base period by the maximum offering price on the last day of the base period. Most commenters agreed with the basic formula, although elements of the formula were the subject of extensive comment and disagreement among commenters.

(a) Base Period

The Commission requested comment in the proposing release on whether permitting a choice between a thirty-day or one month period could materially affect yield and whether it might be preferable to select one or the other period. Commenters acknowledged that the selection of one or the other period can affect yield but urged the Commission to permit use of either because many funds would find yield difficult to calculate for thirty-day periods that do not coincide with months, while the thirty-day period option would permit more timely yield quotations since it allows for rolling thirty-day periods. The Commission has decided to retain the thirty-day or one month choice, but has modified the formula to assume that each month has thirty days. Therefore, in all cases yields will be quoted for thirty-day periods, although advertisements may refer to the yield of a particular month.

(b) Shares Outstanding

To determine the net investment income per share, the proposed yield calculation would divide the net investment income obtained from the funds portfolio by the average daily number of shares outstanding during the base period, less those shares for which payment was not made by the last day of the period. Three commenters stated that this calculation would be difficult for most funds, which have accounting systems that are not set up to look back to determine the number of shares for which the purchase transactions have not been settled. Instead, they recommended use of the average daily number of shares outstanding during the period that were eligible to receive dividends. Two commenters supported the Commissions proposed method, arguing that the alternative disadvantaged those funds that pay income dividends less frequently than daily because they have more shares eligible to receive dividends. The Commission has modified the formula so that it uses the average number of shares entitled to receive dividends.

(c) Compounding

The proposed yield formula provided for a simple annualization of the base period yield, i.e., it provided for no compounding of income. Five commenters urged the Commission to adopt a formula using a "bond-equivalent" annualization method that assumes that net investment income is earned and reinvested at a constant rate and annualized at the end of a six-month period. They argued that such a method would be consistent with the method used to calculate the yield of bonds held by most funds advertising a yield. The Commission has decided to modify the yield formula to provide for semiannual compounding using the method suggested by the commenters and originally proposed by the ICI.

(d) Amortization of Discount and Premium

For the purpose of determining the amount of net investment income earned from each security during the base period, the Proposal would require a fund that purchases a debt obligation at a premium or discount to adjust the income accrued from the obligation using the cost of the obligation at purchase ("cost method") rather than the current market value of the obligation ("market value method") as the basis for amortization. ⁸ The proposing release noted that the cost method may result in two funds with the same portfolio quoting different yields depending upon the price at which the securities were purchased and was generally a less accurate method of calculating yield. Nevertheless, the Proposals, following the ICI proposal, used the cost method because of the perceived complexities and costliness of using the market value method. Comment was specifically invited on which of the two methods would be more appropriate, the effect on debt trading markets of using either method, and the relative administrative burdens on funds of using either method.

Most commenters urged the Commission to adopt the market value method of amortization. These commenters agreed with the Commissions assessment that the market value method provides a more accurate yield. In addition, they asserted that this method produced a yield figure more consistent with the goal of comparability. These commenters believed that the benefits of using the market value method outweigh the cost of any additional administrative burdens. One commenter pointed out that required use of the cost method may distort fund decision-making and create market inefficiencies. To quote a higher yield, a fund might hold discount bonds (although they otherwise might be sold) to accrete the most discount, and trade away premium bonds (although it might otherwise hold them) to avoid amortizing premium. Use of the market value method would avoid injecting considerations related to boosting yield into the decision of whether to hold or sell bonds. Two commenters believed that the Commission should adopt the cost method, arguing that it would be burden-some for a large fund complex to continually recompute amortization schedules for each security and that the cost method is based upon the traditional accounting method of determining income on the basis of historical cost.

The Commission has decided to adopt a yield formula using a modified market value method of amortization. The method adopted, suggested by three commenters as the least burdensome method, requires the recomputation of amortization schedules at the beginning of each month, and is a compromise between the original cost method and an unmodified market value method that would involve adjusting amortization schedules on a daily basis. ⁹ The Commission is persuaded that use of the cost method would be inconsistent with the goal of comparability and may distort fund decision-making and bond trading markets. Using the method suggested by commenters appears to alleviate any burden associated with the use of an unmodified market value method. ¹⁰ Moreover, given the extensive use of computers by funds and the ready availability of the data necessary to recompute amortization schedules, the Commission believes that the burdens will be minimal and clearly out-weighed by the benefits.

3. Requirement that Yield be Accompanied by Total Return

As proposed, income funds that advertise yield would have to include uniformly computed total return information covering the prescribed periods in their advertisements. A number of commenters criticized this aspect of the Proposals. Some commenters argued that income fund investors are marketed on the basis of yield and not total return; others argued that income fund investors are more interested in yield than total return. Several commenters asserted that investors interested in income funds may be deterred from investing in them when the income potential for the funds is the greatest, i.e., when total return is low; and, in contrast, high total return (due to falling interest rates) would create unreasonable investor expectations about future returns. Still other commenters complained about the number of performance figures that would be required in income fund advertisements.

The Commission has decided to retain the requirement that funds quoting yield in advertisements also include total return information. The Commission believes that use of a yield quotation alone in an advertisement may omit material information necessary to make the advertisement not misleading. As one commenter stated, "shareholders of an income fund cannot obtain the yield of a fund without concurrently enjoying the advantages of any capital appreciation and suffering the disadvantages of any capital losses that may have been incurred..." Absent the requirement to disclose total return data, income funds would be permitted to advertise relatively high yield while losing shareholder value without adequately disclosing this fact. ¹¹

The Commission is concerned that the single yield figure today used in many income fund advertisements suggests to investors a promised return such as a yield of a bank certificate of deposit, or suggests stability of principal such as that of a money market fund, notwithstanding statements in advertisements to the contrary. ¹² Inclusion of total return information, which will vary for the different time periods and from fund to fund, along with the yield quotation, will effectively convey to investors that the return and the value of their investment will vary. ¹³

The Commission is also concerned that investors are being misled if yield is the only measure of performance provided in an advertisement because such an advertisement suggests that high yield means better performance. While higher yielding income funds may in fact have superior performance under certain market conditions, high yields are generally more indicative of greater risk and volatility of share value. While the term "high yield bond" is a well-known term in the bond market, the term becomes obscured when applied to funds. For investors who are choosing between income funds and bonds, several commenters argument that bond funds ought to be quoted in advertisements only on the same basis as their underlying instruments has some force. However, many, if not most, income fund investors are not in the position to purchase bonds and are comparing the "performance" of income funds with the yields advertised by money market funds and by banks for their certificates of deposits, or are comparing income funds with differing risk of principal loss. For money market funds and bank certificates of deposit, "yield" represents the total return on the instrument since principal does not change-a characteristic which generally results in lower yields on bank instruments and money market fund shares than on income fund shares. An income fund yield will usually not equal its total return. Indeed, a fund that invests in high yielding but risky securities must expect, over time, to suffer some loss of principal. Thus, such a fund will realize, over time, a total return that is lower than its yield.

In addition, the Commission is requiring the inclusion of total return information in income fund advertisements to enhance the ability of investors to compare performance claims among income funds. Two funds may advertise the same yield but have very different total return records, and the different total return records may materially affect an investors selection between the two funds. ¹⁴

4. Use of the Term "Yield"

The proposing release requested comment on whether funds should be permitted to use the term "yield" or whether some other term such as "current income rate" should be used. The release expressed the Commissions concern that investors may confuse "yields" advertised by funds with "yields" advertised by issuers of bonds and certificates of deposit. Four commenters agreed that use of a term other than "yield" would help prevent investor confusion; others saw no such confusion and argued that the Commission should not attempt to change a term in common use. The Commission has decided not to mandate the use of a different term because it is unsure that prohibiting the term in rule 482 advertisements would eliminate investor confusion caused by the terms use in other communications. The Commission anticipates that the total return disclosures and the new narrative risk disclosure will contribute to improved investor understanding of the nature of fund yields.

5. Distribution Rates

The ICI proposal called for the standardization of a "distribution rate" that would demonstrate the amount of distributions per share made by a fund over a twelve-month period divided by the share price. This distribution rate would differ from the funds yield (which the ICI proposal would require to accompany the distribution rate) because it would include capital items such as option premiums and other short-term capital gains. The Commission Proposals did not permit use of a distribution rate in rule 482 advertisements, but would have permitted such a rate in sales literature if accompanied by the standardized yield and total return data.

A number of commenters argued vigorously that a distribution rate should be allowed in a rule 482 advertisement. Some asserted that investors are interested in the amount of distributions; others claimed that a distribution rate is a "fact" and that the Proposals would have prohibited non-fraudulent information; and still others argued that a distribution rate, because it relates to actual amounts received by investors, is a more meaningful and less confusing figure to understand than a yield. Several commenters mentioned the importance of a distribution rate to option income funds, which do not produce much yield (because option income is not considered investment income under generally accepted accounting principles), but still market themselves based on their ability to produce current income and not total return.

One fund commenter urged the Commission, in equally vigorous terms, to prohibit use of a distribution rate in all cases-in rule 482 advertisements, sales literature, and even in oral communications-because a distribution rate is an "inherently flawed concept, which use can result in investors being misled as to the income to be derived from their fund investment." This commenter discussed four ways by which an income fund may boost a distribution rate relative to a current yield: (1) utilizing the accounting technique of "income equalization"; ¹⁵ (2) including the gains from the sale of options; (3) purchasing debt obligations at a premium and failing to amortize the premium against income; and (4) selling securities to realize short-term gains. The commenter pointed out that, in each case, potential investors most likely will not understand that the use of any one of these techniques to produce a distribution rate may negatively affect the value of their investment. Two other fund commenters similarly argued that a distribution rate permits the manipulation of advertised returns to produce a rate higher than the actual yield. They argued that, because investors naturally tend to focus on the larger number, the use of a distribution rate-even accompanied by a standardized yield figure-would defeat the purpose of the uniformly calculated yield. Five commenters implied that considerable additional disclosure in a rule 482 advertisement could prevent a distribution rate from being misleading. ¹⁶

The Commission has decided to prohibit use of a distribution rate in rule 482 advertisements. Funds may quote a distribution rate in their prospectuses, and sales literature (as long as such a rate is accompanied by the uniformly computed yield and total return information), but not in rule 482 advertisements. The Commission believes that prospectuses and sales literature provide an opportunity for a full discussion of distribution rates, including their shortcomings described below. ¹⁷

A distribution rate, although promoted as an indicator of fund performance, is actually only an aggregation of certain components of performance-dividends, realized short-term capital gains and, in some cases, realized long-term capital gains. A distribution rate does not reflect unrealized losses and thus its use in an advertisement can be misleading unless full disclosure is made regarding losses. ¹⁸ In addition, a distribution rate is highly susceptible to "management" inasmuch as it can be controlled by entering into transactions such as those referred to above. The use of this rate and the opportunities it affords to "manage" performance places fund advisers, who are usually compensated based on the size of a fund, in a potentially serious conflict of interest. ¹⁹ As with many omissions and conflicts of interest, effective disclosure may cure these problems, but the Commission does not believe that a rule 482 advertisement is the appropriate vehicle for the extensive disclosure necessary to permit an adequate comprehension of a distribution rate. Moreover, the use of a distribution rate would undo the considerable efforts of many in crafting a yield formula that will disclose the income production of a fund, because it would permit the disregard of accounting rules designed to measure net investment income. ²⁰

6. Tax Equivalent Yield

A tax equivalent yield demonstrates the taxable yield necessary to produce an after-tax yield equivalent to that of a fund which invests in exempt obligations. The Proposals would permit a fund investing in tax-exempt debt obligations to advertise a tax equivalent yield if the advertisement contains uniformly computed current yield and total return quotations. To assure that the tax equivalent yield is derived from a tax-exempt yield, the Proposals would have limited its use to a fund having an average of 95 percent of its net assets invested in tax-exempt debt obligations during the measuring period. In response to commenters suggestions, the Commission is eliminating the 95 percent test and modifying the formula for calculating the tax equivalent yield so that the tax equivalent yield is calculated by applying the stated income tax rate to only the net investment income exempt from taxation. ²¹

7. Separate Accounts

Under the Proposals, the yield formula would also be available for separate accounts issuing variable annuity contracts. These separate accounts are organized as management companies ("management accounts") or unit investment trusts that are funded by one or more management companies ("trust accounts"). The yield provisions apply to management accounts in an almost identical fashion as mutual funds. However, the proposed yield provisions were modified for trust accounts that hold shares of management companies rather than debt obligations.

In a trust account arrangement, dividends are earned on the portfolios of underlying management companies and are passed up through the trust account to variable annuity contract owners in the form of enhanced value of their variable annuity contracts. The yield calculation is made at the trust account level to reflect charges deducted from trust account assets (as well as those deducted from underlying management fund assets). To prevent the management company (which is often affiliated with the trust account) from timing the income payments to the trust account to increase advertised yield, the Proposals would require the portfolio company to declare dividends daily. Three commenters acknowledged the need to prevent the manipulation of dividend income into yield, but believed that the concern could be addressed in a less burden-some manner. Instead of requiring daily distributions, these commenters suggested that the trust account be required to accrue dividends as if they were declared daily. The Commission has modified the yield formula in Form N-4, the trust account registration form, to reflect this suggestion. ²²

Consistent with the calculation of net investment income by the yield and total return formulas for mutual funds, the separate account formulas require the amount of investment income be reduced by all recurring expenses. In the case of variable annuity separate accounts, these expenses include charges for mortality and expense guarantees and insurance-related administrative charges. One commenter argued that insurance-related charges should be excluded from the calculation of separate account performance so that an investor may compare solely the investment element of a variable annuity. Another commenter argued that these expenses should not reduce yield but did not object to their reflection in total return.

The Commission has decided to retain the requirement that all recurring expenses (including insurance-related charges) be reflected in separate account yield and total return. Any attempt to distinguish those expenses that are properly categorized as "investment-related" from those that are not would require the Commission to continually engage in line-drawing exercises as different types of services and charges develop. Moreover, investors are likely to care more about the magnitude of the charges, as opposed to their classification as investment- or insurance-related.

The proposing release noted that because a trust account arrangement involves the computation of performance on two levels (the trust account level and the underlying fund level), an account is technically eligible to advertise performance at either level. ²³ The performance of each level would not be identical because performance at the underlying fund level would not reflect charges deducted at the trust account level. The proposing release stated the Commissions view that advertisement of the underlying fund performance would, in most circumstances, be misleading because prospective contract owners could not obtain the benefit of underlying fund performance without the charges incurred at the trust level. However, commenters suggested, and the Commission agrees, that it would not be misleading to disclose performance of the underlying fund if performance of the trust account is also disclosed.

8. Equity Funds

Although the ICI proposal would only have affected income fund advertising, the Commission Proposals extended standardization to non-income funds ("equity funds") to permit investors to compare the performance claims of these funds. The Proposals would have limited equity funds to uniformly calculated total return quotations covering each of the five most recently completed calendar years and a current (interim) stub period.

Under the Proposals, and the rules adopted today, no equity fund (or any other fund) will be required to advertise performance, but those that do will be required to include uniformly computed, comparable quotations of total return. Virtually all non-income funds that advertise performance already use some kind of a total return. ²⁴ Of equal importance, total return is the performance information most relevant to an equity fund, and this was acknowledged by a number of commenters. The rules adopted today, which are explained in more detail below, merely set "ground rules" by requiring equity funds advertising performance to include certain uniformly-computed total return figures calculated over similar periods in their ads. Unlike the Proposals, the rules adopted today will not restrict equity funds advertising performance to only the standardized total return figures. Instead, the rules permit equity funds to advertise any other total return, aggregate or average, over any period they choose, in addition to advertising the standardized yield figure. While the rules adopted today reflect the Commissions belief, articulated earlier in the proposing release, that total return quotations are necessary to ensure that fund performance ads are not misleading and to permit investors to compare fund performance, the Commission nonetheless does not wish to restrict the use of other performance data that is not misleading.

The Commissions exercise of its rulemaking authority under section 10(b) of the 1933 Act 15 U.S.C. 77(10)(b) to facilitate investor comparison of performance claims, although questioned by several commenters, has precedent. The Commission adopted a uniform method for computing money market fund yield in 1980 based on the explicitly articulated goal of comparability. ²⁵ This approach has enhanced investor information and promoted competition among money market funds.

The commenters did not dispute the appropriateness of total return as a measure of equity fund performance or that this measure is the one most frequently used by equity funds that advertise performance. Instead, a number of commenters opposed any rules standardizing the computation of equity fund performance, although some generally approved of such standardization. Some of these commenters raised the previously-discussed issue of comparability and argued that the Commission should not require comparability of performance information in rule 482 advertisements (although many supported a yield formula to provide income fund comparability). They claimed that an omitting prospectus advertisement (a rule 482 advertisement) is merely an "invitation to solicit a prospectus," and that efforts to assure comparability will lead investors to erroneously believe that the advertisement serves the same purpose as the statutory prospectus.

These commenters assessments cannot be reconciled with many rule 482 advertisements currently published, but rather with "tombstone" advertisements under rule 134 17 CFR 230.134 that generally serve as mere announcements of offerings. Many rule 482 advertisements, in addition to highlighting fund performance, include market information, comparative market indices, discussions of tax laws, and other information designed to attract and inform prospective investors. The extent of this information reveals that funds themselves do not view rule 482 advertisements as mere "solicitations of prospectuses," but rather as opportunities to provide substantial information to prospective investors.

That rule 482 advertisements are used to provide substantial information to prospective investors is understandable because of the large number of funds today registered with the Commission. It is unrealistic to expect that an investor would request the prospectuses of the hundreds of funds that may be available in an attempt to compare them. Rule 482 advertisements have developed to serve as an important means of informing investors about fund investment opportunities and to permit investors to narrow their search. The Commission has concluded that rule 482 advertisements facilitate a preliminary comparison among funds and play an important step in the selection process.

The prominence of performance information in many fund advertisements and the apparent interest of investors in performance information indicates that it is an important factor affecting an investors investment decision. When funds include performance information in a rule 482 advertisement they invite comparison with other funds. While most equity funds advertise performance by means of fund total return, total return is often computed differently and/or presented over different time periods. This lack of comparability may confuse and mislead investors. The Commission has therefore determined to prescribe a standardized, non-exclusive means to portray total return in rule 482 advertisements.

9. Method of Standardizing the Presentation and Calculation of Total Return

The primary questions raised by the Proposals and discussed by commenters were (1) whether total return should be required to be included in income fund advertisements to accompany quotations of yield, and (2) whether uniformly computed total return figures should be required in equity fund advertisements containing performance information. In addition, the Commission requested comment on how total return should be presented in fund advertisements if it were to adopt uniform requirements.

Under the Proposals, funds advertising performance would be limited (in addition to an income fund yield) to total return figures covering each of the last five calendar years and any subsequent interim period. ²⁶ The five year period was a compromise between the desirability of providing investors with information on fund performance during different market conditions and the practicalities of limited space available in many rule 482 advertisements. ²⁷ Several commenters criticized this aspect of the Proposals because it would (1) require too many numbers in a rule 482 advertisement, (2) not capture a meaningful portion of a business cycle, and (3) preclude advertisement of useful and non-misleading performance information such as average and aggregate total returns. In addition, some commenters argued that the year-by-year format resulted in an inconsistent and potentially confusing treatment of sales load. ²⁸

The Commission has modified the method of presenting and calculating total return in response to these comments. Under rule 482, as amended, a fund advertising performance must include in the advertisement the funds one year, five year, and ten year average annual compounded total return calculated in a uniform manner prescribed by the Commission. ²⁹ A fund may also, as discussed above, quote the funds yield or tax-equivalent yield, and may include any other performance information as long as that information contains "all elements of return." This method of presenting total return, while achieving the goal of comparability articulated in the proposing release, will (1) require only three total return figures in any fund advertisement containing performance information (rather than the six figures that would have been required by the Proposal), (2) permit evaluation of a funds performance over different periods of time, and (3) permit funds to include (standardized and non-standardized) average and aggregate total return information covering any additional period selected if such additional performance data is neither calculated nor presented in a misleading manner. Because each of the three total return figures will cover different periods of time, they should permit some evaluation of the level of volatility characteristic of the return on the funds portfolio. ³⁰

(a) The Required Total Return Data

As previously stated, all rule 482 advertisements containing performance information ³¹ must also contain the funds last one, five, and ten year average total returns. The one, five, and ten year periods are "rolling" periods that end on the last day of the calendar quarter preceding the date on which the advertisement is submitted for publication. ³²

If the funds registration statement under the 1933 Act has been effective for less than the five or ten year periods, ³³ rule 482 requires that the period of effectiveness be substituted for the five and/or ten year period. ³⁴ Under the Proposals, performance would have been presented for one year periods covering each of the last five calendar years during which the fund was "in business." "In business" referred to the period during which the fund met the forty percent asset test of section 3(a)(3) of the 1940 Act 15 U.S.C. 80a-3(a)(3), ³⁵ and therefore the performance data could have extended back before the fund had an effective registration statement under the 1933 Act. Two commenters argued that the rule should follow Item 3 of Form N-1A, which limits financial information in a prospectus to periods subsequent to effectiveness of the funds registration statement under the 1933 Act, because funds are likely to be managed different before they are offered to the public. The Commission has modified the rule to conform to this Form N-1A assumption.

(b) Non-standardized Performance

In addition to the uniformly computed performance information, amended rule 482 permits the inclusion of any other performance data as long as that data contains, "all elements to return." ³⁶ This limitation, designed to preclude use of distribution rates and non-standardized yields, will permit a fund to demonstrate the funds total return over different periods of time by means of aggregate, average, year-by-year, or other types of total return figures.

10. Subsidization

The proposing release stated that where an advertisers subsidization of expenses affects a funds performance, the fund must disclose both the fact of subsidization and the return the fund would have obtained had the performance not benefited from subsidization. ³⁷ Commenters argued that this statement should be withdrawn because subsidization benefits shareholders, and that it is usually done to help new funds with high expenses to compete with others. As commenters asserted, subsidization is done to boost performance vis--vis unsubsidized fund performance. For the very reasons these commenters stated, the Commission continues to believe that failure to disclose subsidization, where the subsidization affects performance in a material manner, would cause the advertisement to omit to state a material fact. Moreover, it would impair the ability of investors to compare fund performance claims.

III. SALES LITERATURE

The Commission is adopting a new rule under the 1940 Act that would extend the standardization requirements to fund sales literature containing performance data. Rule 34b-1 deems any sales literature containing performance data to be misleading unless it also includes the appropriate uniformly computed performance data and the legend disclosure required in rule 482 advertisements. ³⁸ The rule has been modified to reflect the new approach to the required uniform performance disclosures of rule 482 and has been narrowed somewhat to exempt shareholder reports containing performance data required by section 30(d) of the 1940 Act 15 U.S.C. 80a-29(d) if the performance data that would otherwise trigger the uniform performance disclosure requirement relates only to the period of time covered by the shareholder report. ³⁹ One commenter urged that the rule should apply to shareholder reports; others argued that they should not be covered. The rule, as adopted, is intended to eliminate from its coverage shareholder reports that might otherwise constitute sales literature under the rule but merely serve to inform shareholders of recent developments relating to their investment. ⁴⁰

IV. PRESENTATION OF PERFORMANCE DATA IN THE PROSPECTUS

The Commission is amending Forms N-1A, N-3, and N-4, as proposed, to reallocate the information about performance information in the prospectus and Statement of Additional Information and require an exhibit in Part C of the registration statement setting out the funds calculation of its performance data. ⁴¹ Some commenters urged that, instead of establishing an exhibit requirement, the Commission require that worksheets used to calculate performance be required to be kept by the fund for review during Commission inspections. They argued that such a requirement is more appropriately part of the Commission inspection program than the registration process. Because of the need to assure that new funds properly follow the formula, the Commission has decided to adopt the amendment to Part C as proposed. ⁴²

Some funds may include the uniformly computed performance data in their prospectus (and not just the description of the data used in an advertisement). In such cases, total return is required to be current to the end of the funds last fiscal year. ⁴³ Therefore, although the uniformly computed total return quotations in rule 482 advertisements and other forms of sales material are required to be updated quarterly, total return in prospectuses need only be updated annually.

V. ADDITIONAL AMENDMENTS TO RULE 482

The Commission is also adopting several amendments to rule 482 to ensure that fund advertisements are not misleading. ⁴⁴

1. Required Disclosure

The Proposals would amend rule 482 to require that all advertisements containing performance data include a legend disclosing that the performance data quoted represents past performance and that the investment return and principal value of an investment will fluctuate so that an investors shares, when redeemed, may be worth more or less than their original cost. ⁴⁵ In addition, if a sales load or similar nonrecurring fee, or a fee pursuant to a plan adopted under Rule 12b-1 under the 1940 Act 17 CFR 270.12b-1 is deducted, the Proposals would require that the advertisement disclose the maximum amount of the fee and whether the performance data reflects the deduction. Some commenters argued that the existence of a fee ought to be required to be disclosed only if not reflected in the performance data advertised and suggested that investors may be misled into believing that the performance data did not reflect the charge disclosed. The Commission has decided that recurring fees, such as typical 12b-1 fees, since they are fully reflected in performance data, need not be disclosed in an advertisement. Therefore, amended rule 482 requires disclosure only of sales loads and similar nonrecurring expenses.

The Commission did not propose any specific language for the additional risk and fee disclosure, although the proposing release asked comment on whether the rule should require the use of specific language. Most commenters opposed the use of mandatory language, arguing that investors would be less likely to read a mandatory uniform legend than one that varies. The Commission has decided not to adopt a specific format for this disclosure.

The proposing release expressed the Commissions concern with fund advertisements promoting the investment in a portfolio of "U.S. Government guaranteed" securities that imply that an investor cannot experience a loss and that the yield advertised is guaranteed. ⁴⁶ The Commission is restating these concerns and emphasizes that it considers such advertisements to be misleading unless such an implication is effectively rebutted by disclosure that (1) the value of "guaranteed" securities fluctuates due to changing interest rates (or other market conditions), and (2) the investor may experience a loss or may, due to prepayment of obligations held by the fund, receive back part of his investment before redemption. ⁴⁷

2. Type Size

The Proposals would add a note to rule 482 reminding funds that printed rule 482 advertisements are required by rule 420 under the 1933 Act to be in roman type at least as large as 10-point modern type. ⁴⁸ Commenters acknowledged that most fund advertisements currently violate this rule but argued that increasing the size of print to 10-point type would be excessively costly. A number of commenters urged the Commission to permit type as small as 8-point roman type, the size of type generally used in most newspapers. The Commission agrees that the purposes of rule 420 may still be met if the minimum type size in rule 482 advertisements is reduced to 8-point type and is adopting such an amendment. The Commission believes that it is important that rule 482 advertisements, and in particular the footnotes of these advertisements that serve to qualify or complete information in the body of the advertisements, are legible to all investors.

3. Prominence of Performance Quotations

The Proposals would amend rule 482 to require all performance data be given equal prominence in fund advertisements. This requirement was intended to prevent a fund from prominently presenting favorable performance data while "burying" less favorable performance data. Several commenters opposed this requirement because of the amount of space it would require in a printed advertisement. The Commission has addressed this concern by reducing the number of performance figures required to be in an advertisement. In addition, the Commission is modifying the proposed rule 482 amendments to require only the required total return data to be given equal prominence. ⁴⁹ Yield and non-standardized total return figures may be given lesser (but not greater) prominence. ⁵⁰ This should provide the flexibility some commenters sought.

4. Stale Performance Data

The Proposals would also amend rule 482 to require that performance data in advertisements be as of the most recent practicable date considering the type of fund and the medium in which the data appears. As proposed, however, no performance data could be more than thirty days old. A number of commenters objected to the thirty-day limit as being impractical and claimed that it would prevent performance advertising in number of periodicals having lead times that exceed thirty days. Several of these commenters suggested longer periods, or suggested that advertisements containing performance information more than thirty days old be required to include a toll-free phone number by which prospective investors could obtain current information. In addition, some commenters believed that any currentness requirement should not apply to total return information because such information is not time sensitive.

The Commission has decided not to adopt a specific requirement for the currentness of performance data in advertisements. Under paragraph (f) of amended rule 482, performance data contained in an advertisement need only be as of the "most recent practicable date." As discussed above, the uniformly computed total return data required to be included in all fund advertisements must be current to the most recent calendar quarter prior to submission for publication. Therefore, paragraph (f) deems advertisements containing total return information (including any non-standardized optional total return data) to have met this requirement if the total return is current to the most recent calendar quarter prior to submission of the advertisement for publication.

5. Miscellaneous Amendments to Rule 482

As proposed, the Commission is amending rule 482 to add a note stating its view that, for purposes of the antifraud provisions of the federal securities laws, a fund advertisement stands alone and disclosure in a section 10(a) prospectus will not cure a false or misleading advertisement. ⁵¹ Finally, the Commission is adopting, as proposed, a new paragraph (a)(5) of rule 482 prohibiting a rule 482 advertisement from including a purchase application.

VI. FILING SALES MATERIALS AND PROSPECTUSES

The Commission is adopting new rule 24b-3 under Section 24(b) of the 1940 Act ⁵² and amendments to rules 424 and 497 under the 1933 Act, ⁵³ as proposed, to relieve investment companies of the obligation to file advertisements and other sales material with the Commission if that material is filed with the NASD. Persons and firms subject to section 24(b) of the 1940 Act that are not NASD members, or NASD members who are not required and do not file sales material with the NASD, would still be required to file sales material with the Commission. ⁵⁴ In addition to marking the advertisements to indicate the paragraph of rule 497 under which they are filed, rule 482 advertisements must be marked with the caption "Rule 482 ad" to assist Commission staff in selecting material for review. ⁵⁵

As proposed, the Commission is amending rule 424 to make rule 497 the exclusive rule under which investment companies must file prospectuses. Since the publication of the proposing release, the Commission has amended rule 424-but not rule 497-to eliminate filing of a prospectus where the prospectus contains no substantive differences from a previously filed prospectus. ⁵⁶ The Commission did not extend the filing relief to investment companies filing under rule 497 because of the need for the Commission to maintain a usable file of current investment company prospectuses to fulfill its regulatory functions, e.g., planning and conducting inspections of investment companies and their advisers, responding to investor complaints and public inquiries, and conducting various internal studies. Most investment companies, unlike most other registrants, maintain a continuously effective registration statement under the 1933 Act for their securities, and the staff requires ready access to their current prospectuses on an ongoing basis. Although registration statements and amendments contain prospectuses, a prospectus file made of those documents would be far too bulky to provide efficient, or even reasonable, access to prospectuses as needed by the staff to carry out its regulatory functions described above. On the other hand, there is no need to require investment companies filing electronically to file a prospectus where it contains no substantive differences from a previously filed prospectus because, since it is filed and stored electronically, a prospectus will be as easily accessible to the staff whether it is filed only as part of a registration statement or amendment or as a separate filing under rule 497. Therefore, the Commission is adopting an amendment to rule 499 under the 1933 Act, the temporary EDGAR rule, providing investment companies filing electronically with the same prospectus filing relief as provided for in rule 424. ⁵⁷

VII. REGULATORY FLEXIBILITY ANALYSIS

A summary of the Initial Regulatory Flexibility Analysis regarding the proposed rules, rule amendments and form amendments was published in the proposing release. No comments were received on that analysis. The Commission has prepared a Final Regulatory Flexibility Analysis in accordance with 5 U.S.C. 603, a copy of which may be obtained by contacting Robert E. Plaze, Mail Stop 5-2, Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549.

VIII. TEXT OF NEW RULES, RULE AMENDMENTS, AND FORM AMENDMENTS

List of subjects in Parts 230 and 239

Reporting and recordkeeping Requirements and Securities.

List of subjects in Parts 270 and 274

Investment Companies, Reporting and recordkeeping Requirements and Securities.

Text of Rule, Rule Amendments and Form Amendments

Chapter II, Title 17 of the Code of Federal Regulations is amended as follows:

PART 230-GENERAL RULES AND REGULATIONS, SECURITIES ACT OF 1933

1. The authority citation for Regulation C of Part 230 continues to read as follows:

AUTHORITY: Sections 230.400 to 230.499 issued under sections 6, 8, 10, 19, 48 Stat. 78, 79, 81, as amended, 85, as amended; 15 U.S.C. 77f, 77h, 77j, 77s, unless otherwise noted.

2. By revising §230.420 to read as follows:

§230.420 Legibility of prospectus.

The body of all printed prospectuses and all notes to financial statements and other tabular data included therein shall be in roman type at least as large and as legible as 10-point modern type. However, (1) to the extent necessary for convenient presentation, financial statements and other tabular data, including tabular data in notes, and (2) prospectuses deemed to be omitting prospectuses under rule 482 17 CFR 230.482 may be in roman type at least as large and as legible as 8-point modern type. All such type shall be leaded at least 2-points.

3. By revising paragraph (a) and adding a paragraph (f) to §230.424 to read as follows:

§230.424 Filing of prospectuses-number of copies.

(a) Except as provided in paragraph (f) of this section, five copies of every form of prospectus sent or given to any person prior to the effective date of the registration statement which varies from the form or forms of prospectus included in the registration statement as filed pursuant to §230.402(a) of this chapter shall be filed as a part of the registration statement not later than the date such form of prospectus is first sent or given to any person: Provided, however, That only a form of prospectus that contains substantive changes from or additions to a prospectus previously filed with the Commission as part of a registration statement need be filed pursuant to this paragraph (a).

* * * * *

(f) This rule shall not apply with respect to prospectuses of an investment company registered under the Investment Company Act of 1940 or a business development company.

4. By amending §230.482 by revising paragraphs (a), introductory text, (a)(1), the Note after (c), (d), and adding the note after (a)(3), paragraphs (a)(5), (a)(6), the Note after (a)(6), and (e) through (f) as follows:

(a) An advertisement, other than one excepted from the definition of prospectus by section 2(10) of the Act and rule 134 thereunder, shall be deemed to be a prospectus under section 10(b) of the Act for the purpose of section 5(b)(1) of the Act if

(1) It is with respect to an investment company registered under the Investment Company Act of 1940 ("1940 Act"), or a business development company which is selling or proposing to sell its securities pursuant to a registration statement which has been filed under the Act,

* * * * *

(3) * * *

NOTE-The fact that the statements included in the advertisement are included in the section 10(a) prospectus does not relieve the issuer, underwriter or dealer of the obligation to ensure that the advertisement is not false or misleading.

* * * * *

(5) It does not contain and is not accompanied by any application by which a prospective investor may invest in the investment company; provided, however, that a prospectus meeting the requirements of section 10(a) of the Act by which a unit investment trust offers periodic payment plan certificates may contain a contract application although the prospectus includes another prospectus that, pursuant to this rule, omits certain information required by section 10(a) of the Act regarding investment companies in which the unit investment trust invests.

(6) In the case of an advertisement containing performance data of an open-end management investment company or a separate account registered under the 1940 Act as a unit investment trust offering variable annuity contracts ("trust account"), it includes a legend disclosing that the performance data quoted represents past performance and that the investment return and principal value of an investment will fluctuate so that an investors shares, when redeemed, may be worth more or less than their original cost; Provided, however, That an advertisement may omit legend disclosure pertaining to the fluctuation of the principal value of an investment in a money market fund. In addition, if a sales load or any other nonrecurring fee is charged, the advertisement must disclose the maximum amount of the load or fee; if the sales load or fee is not reflected, the advertisement must also disclose that the performance data does not reflect its deduction, and that, if reflected, the load or fees would reduce the performance quoted.

NOTE-All advertisements made pursuant to this rule are subject to Rule 420 17 CFR 230.420 that requires all of the printed text of omitting prospectus advertisements to be in at least 8-point type.

* * * * *

(c) * * *

NOTE-These advertisements, unless filed with the NASD, are required to be filed in accordance with the requirements of Rule 497 17 CFR 230.497.

(d) In the case of an investment company that holds itself out to be a "money market" fund or has an investment policy calling for investment of at least 80 percent of its assets in debt securities maturing in 13 months or less, any quotation of the companys yield contained in an advertisement shall be: (1) a quotation of current yield based on the method of computation prescribed in Form N-1A (set forth in §§239.15A and 274.11A of this chapter), Form N-3 (set forth in §§239.17a and 274.11b of this chapter), or Form N-4 (set forth in §239.17b and 274.11c of this chapter) and identifying the length of and the date of the last day in the base period used in computing that quotation, or (2) a quotation of current yield described in clause (1) above and a corresponding quotation of effective yield based on the method of computation prescribed in Forms N-1A, N-3, or N-4; provided, however, that when both a quotation of current yield and effective yield are used in the same advertisement, each quotation shall relate to an identical base period and shall be given equal prominence.

(e) In the case of an open-end management investment company or a trust account (other than a money market fund referred to in paragraph (d) of this rule), any quotation of the companys performance contained in an advertisement shall be limited to quotations of:

(1) a current yield that-

(i) is based on the methods of computation prescribed in Form N-1A, N-3, or N-4;

(ii) is accompanied by quotations of total return as provided for in paragraph (e)(3) of this section;

(iii) is set out in no greater prominence than the required quotations of total return; and

(iv) identifies the length of and the date of the last day in the base period used in computing the quotation.

(2) a tax equivalent yield that-

(i) is based on the methods of computation prescribed in Form N-1A, N-3, or N-4;

(ii) is accompanied by quotations of yield as provided for in paragraph (e)(1) of this section and total return as provided for in paragraph (e)(3) of this section;

(iii) is set out in no greater prominence than the required quotations of yield and total return;

(iv) relates to the same base period as the required quotation of yield; and

(v) identifies the length of and the date of the last day in the base period used in computing the quotation.

(3) average annual total return for one, five, and ten year periods; provided, that if the companys registration statement under the Securities Act of 1933 15 U.S.C. 77A et seq. has been in effect for less than one, five, or ten years, the time period during which the registration statement was in effect is substituted for the period(s) otherwise prescribed; and provided further, that such quotations____________________

(i) are based on the methods of computation prescribed in Form N-1A, N-3, or N-4;

(ii) are current to the most recent calendar quarter ended prior to the submission of the advertisement for publication;

(iii) are set out with equal prominence; and

(iv) identify the length of and the last day of the one, five, and ten year periods; and

(4) any other historical measure of company performance (not subject to any prescribed method of computation) if such measurement____________________

(i) reflects all elements of return;

(ii) is accompanied by quotations of total return as provided for in paragraph (e)(3) of this section;

(iii) is set out in no greater prominence than the required quotations of total return; and

(iv) identifies the length of and the last day of the period for which performance is measured.

(f) All performance data contained in any advertisement must be as of the most recent practicable date considering the type of investment company and the media through which the data will be conveyed; Provided, however, That any advertisement containing total return quotations shall be considered to have complied with this provision if the total return quotations are current to the most recent calendar quarter ended prior to the submission of the advertisement for publication.

4. By amending the section heading of §230.497, by revising paragraphs (a) and (g), and by adding new paragraph (i) to read as follows:

§230.497 Filing of investment company prospectuses____________________number of copies

(a) Five copies of every form of prospectus sent or given to any person prior to the effective date of the registration statement which varies from the form or forms of prospectus included in the registration statement as filed pursuant to §230.402(a) of this chapter shall be filed as a part of the registration statement not later than the date such form of prospectus is first sent or given to any person: Provided, however, That an investment company advertisement which is deemed to be a Section 10(b) prospectus pursuant to §230.482 of this chapter and which is required to be filed pursuant to this paragraph shall not be filed as part of the registration statement.

* * * * *

(g) Each copy of a prospectus under this rule shall contain in the upper right hand corner of the cover page the paragraph of this rule under which the filing is made and the file number of the registration statement to which the prospectus relates. In addition, each investment company advertisement deemed to be a Section 10(b) prospectus pursuant to §230.482 of this chapter shall contain in the upper right hand corner of the cover page the legend "Rule 482 ad." The information required by this paragraph may be set forth in longhand, provided it is legible.

* * * * *

(i) An investment company advertisement deemed to be a Section 10(b) prospectus pursuant to §230.482 of this chapter shall be considered to be filed with the Commission upon filing with a national securities association registered under Section 15A of the Securities Exchange Act of 1934 15 U.S.C. 78o that has adopted rules providing standards for the investment company advertising practices of its members and has established and implemented procedures to review that advertising.

5. By revising paragraph (c)(7) of §230.499 to read as follows:

§230.499 EDGAR temporary rule.

* * * * *

(c) * *

(7) Rules 424 and 497 of Regulation C, "Filing of prospectus____________________number of copies" and "Filing of investment company prospectus____________________number of copies." The copies required to be filed by paragraphs (a) and (b) of Rules 424 and 497 under the Securities Act (§§230.424 and 230.497 of this chapter) shall consist of a copy of the document in an electronic format with an explanation before the cover page that narratively describes in detail the variations from such document of any form of prospectus (or Statement of Additional Information) sent or given to any person prior to the effective date of the registration statement or used after the effective date. The explanation shall be a part of the filed document. Copies required to be filed by paragraphs (a) and (b) of Rule 497 may be omitted unless the prospectus (or Statement of Additional Information) contains substantive changes from or additions to a prospectus (or Statement of Additional Information) previously filed with the Commission in an electronic format.

PART 270-RULES AND REGULATIONS, INVESTMENT COMPANY ACT OF 1940

6. The authority citation for Part 270 continues to read in part as follows:

AUTHORITY: The Investment Company Act of 1940, 15 U.S.C. 80a-1, et seq. * * *

7. By adding §270.24b-3 to read as follows:

§270.24b-3 Sales literature deemed filed.

Any advertisement, pamphlet, circular, form letter or other sales literature addressed to or intended for distribution to prospective investors shall be deemed filed with the Commission for purposes of Section 24(b) of the Act 15 U.S.C. 80a-24(b) upon filing with a national securities association registered under Section 15A of the Securities Exchange Act of 1934 15 U.S.C. 78o that has adopted rules providing standards for the investment company advertising practices of its members and has established and implemented procedures to review that advertising.

8. By amending paragraph (a) of §270.31a-2 by substituting a semicolon for the period at the end of paragraph (a)(2) and adding a new paragraph (a)(3) to read as follows:

§270.31a-2 Records to be preserved by registered investment companies, certain majority owned subsidiaries thereof, and other persons having transactions with registered investment companies.

(a) * * *

(3) Preserve for a period not less than 6 years from the end of the fiscal year last used, the first 2 years in an easily accessible place, any advertisement, pamphlet, circular, form letter or other sales literature addressed to or intended for distribution to prospective investors.

* * * * *

9. By adding §270.34b-1 to read as follows:

§270.34b-1 Sales literature deemed to be misleading.

Any advertisement, pamphlet, circular, form letter, or other sales literature addressed to or intended for distribution to prospective investors that is required to be filed with the Commission by Section 24(b) of the Act 15 U.S.C. 80a-24(b) and that contains any investment company performance data (other than a report to shareholders under Section 30(d) of the Act 15 U.S.C. 80a-29(d) containing only performance data for the period of the report) ("sales literature") shall have omitted to state a fact necessary in order to make the statements made therein not materially misleading unless the sales literature also contains performance data specified in paragraphs (a), (b), and (c) of this section, and the disclosure required by paragraph (a)(6) of rule 482 under the Securities Act of 1933 17 CFR 230.482(a)(6).

(a) Sales literature containing any investment company performance data (except that of a money market fund) shall also contain the total return information required by paragraph (e)(3) of rule 482 17 CFR 230.482(e)(3).

(b) Sales literature containing a quotation of yield or other similar quotation purporting to demonstrate the income earned or distributions made by the company shall contain a quotation of current yield specified by paragraph (e)(1) of rule 482 17 CFR 230.482(e)(1), or, in the case of a money market fund, paragraph (d)(1) of rule 482 17 CFR 230.482(d)(1).

(c) Sales literature containing a quotation of tax equivalent yield or other similar quotation purporting to demonstrate the tax equivalent of income earned or distributions made by the company shall contain a quotation of tax equivalent yield specified by paragraph (e)(2) and current yield specified by paragraph (e)(1) of rule 482, or, in the case of a money market fund, paragraph (d)(1) of rule 482 17 CFR 230.482(d)(1).

NOTE: Sales literature containing a quotation of yield or tax equivalent yield must also contain the total return information. The currentness and prominence requirements of those provisions of rule 482 cited in paragraphs (a), (b), and (c) above also apply to sales literature.

PART 239-Amended

PART 274-FORMS PRESCRIBED UNDER THE INVESTMENT COMPANY ACT OF 1940

10. The authority citation for Part 274 continues to read as follows:

AUTHORITY: The Investment Company Act of 1940, 15 U.S.C. 80a-1 et seq.

11. By amending the General Instructions by adding D.2., revising paragraph 1(b) of the General Instructions for Parts A and B, revising Items 3(c) and 22, and adding (b)(16) and revising Instructions to Item 24 of Form N-1A as follows:

§274.11A Form N-1A, registration statement of open-end management investment companies.

* * * * *

GENERAL INSTRUCTIONS

* * * * *

D. Amendments

* * * * *

2. The revision of an omitting prospectus advertisement for the purpose of updating performance data does not require the filing of an amendment to the prospectus if the performance data is calculated in the manner described in the prospectus and the Statement of Additional Information.

* * * * *

General Instructions for Parts A and B

1. * * * * *

* * * * *

(b) Item 3 of Part A, "Condensed Financial Information" (except paragraph (c)), should not be further back in the prospectus than the fifth page thereof and should not be preceded by any other chart or table (except for the table of contents required by Rule 481(c) under the 1933 Act 17 CFR 230.481(c)).

* * * * *

PART A. INFORMATION REQUIRED IN A PROSPECTUS

* * * * *

Item 3. Condensed Financial Information

* * * * *

(c) If the Registrant advertises any performance data, include a brief explanation of how performance is calculated, whether the data reflects sales load or other nonrecurring charges, and the effect on performance of excluding such charges. If the Registrant advertises its performance calculated in more than one manner, briefly explain the material differences between the calculations.

* * * * *

PART B. INFORMATION REQUIRED IN A STATEMENT OF ADDITIONAL INFORMATION

* * * * *

Item 22. Calculation of Performance Data

(a) Money Market Funds. If the Registrant holds itself out to be a "money market" fund or has an investment policy calling for investment of at least 80% of its assets in debt securities maturing in thirteen months or less, and if it advertises a yield quotation or an effective yield quotation, furnish:

(i) a yield quotation based on the seven days ended on the date of the most recent balance sheet included in the registration statement, computed by determining the net change, exclusive of capital changes, in the value of a hypothetical pre-existing account having a balance of one share at the beginning of the period, subtracting a hypothetical charge reflecting deductions from shareholder accounts, and dividing the difference by the value of the account at the beginning of the base period to obtain the base period return, and then multiplying the base period return by (365/7) with the resulting yield figure carried to at least the nearest hundredth of one percent;

(ii) an effective yield quotation based on the seven days ended on the date of the most recent balance sheet included in the registration statement, carried to at least the nearest hundredth of one percent, computed by determining the net change, exclusive of capital changes, in the value of a hypothetical preexisting account having a balance of one share at the beginning of the period, subtracting a hypothetical charge reflecting deductions from shareholder accounts, and dividing the difference by the value of the account at the beginning of the base period to obtain the base period return, and then compounding the base period return by adding 1, raising the sum to a power equal to 365 divided by 7, and subtracting 1 from the result, according to the following formula:

EFFECTIVE YIELD = (BASE PERIOD RETURN + 1) exponent 365/7 minus 1;

(iii) the length of and the last day in the base period used in computing the quotation(s); and

(iv) a description of the method(s) by which the yield quotation(s) is computed.

Instructions:

1. When calculating the yield or effective yield quotations, the calculation of net change in account value must include:

(a) the value of additional shares purchased with dividends from the original share and dividends declared on both the original share and any such additional shares;

(b) all fees, other than nonrecurring account or sales charges, that are charged to all shareholder accounts in proportion to the length of the base period.

For any account fees that vary with the size of the account, assume an account size equal to the Registrants mean (or median) account size.

2. Exclude realized gains and losses from the sale of securities and unrealized appreciation and depreciation from the calculation of yield and effective yield.

3. Disclose the amount or specific rate of any nonrecurring account or sales charges not included in the calculation of the yield.

4. If the Registrant does not advertise an effective yield quotation, it need not disclose or discuss the computation of an effective yield quotation.

(b) Other Registrants

(i) Total Return. If the Registrant (other than a registrant described in paragraph (a)) advertises any performance data, furnish-

(A) average annual total return quotations for the 1, 5, and 10 year periods ended on the date of the most recent balance sheet included in the registration statement, computed by finding the average annual compounded rates of return over the 1, 5, and 10 year periods that would equate the initial amount invested to the ending redeemable value, according to the following formula:

P (1 + T) exponent n = ERV

Where: P = a hypothetical initial payment of $1,000

T = average annual total return

n = number of years

ERV = ending redeemable value of a hypothetical $1,000 payment made at the beginning of the 1, 5, or 10 year periods at the end of the 1, 5, or 10 year periods (or fractional portion thereof);

(B) the length of and the last day in the period used in computing the quotation(s); and

(C) a description of the method by which average total return is computed.

Instructions:

1. Assume the maximum sales load (or other charges deducted from payments) is deducted from the initial $1,000 payment.

2. Assume all dividends and distributions by the fund are reinvested at the price stated in the prospectus on the reinvestment dates during the period, i.e., total return must reflect any sales load charged upon reinvestment of dividends.

3. Include all recurring fees that are charged to all shareholder accounts. For any account fees that vary with the size of the account, assume an account size equal to the Registrants mean (or median) account size. If recurring fees charged to shareholder accounts are paid other than by redemption of fund shares, they should be appropriately reflected.

4. Determine the ending redeemable value by assuming a complete redemption at the end of the 1, 5, or 10 year periods and the deduction of all nonrecurring charges deducted at the end of each period.

5. If the Registrants registration statement has been in effect less than one, five, or ten years, the time period during which the registration statement has been in effect should be substituted for the periods stated.

6. Carry the total return quotation to the nearest hundredth of one percent.

7. If the Registrant includes the total return information in its prospectus, it need only be current to the end of the Registrants most recent fiscal year.

(ii) Yield. If the Registrant (other than a registrant described in paragraph (a)) advertises its yield, furnish-

(A) a yield quotation based on a 30-day (or one month) period ended on the date of the most recent balance sheet included in the registration statement, computed by dividing the net investment income per share earned during the period by the maximum offering price per share on the last day of the period, according to the following formula:

YIELD = 2 (a - b divided by cd + 1) exponent 6 - 1

Where: a = dividends and interest earned during the period.

b = expenses accrued for the period (net of reimbursements).

c = the average daily number of accumulation units outstanding during the period.

d = the maximum offering price per accumulation unit on the last day of the period

(B) the length of and the last day in the base period used in computing the quotation; and

(C) a description of the method by which yield is computed.

Instructions:

1. To calculate interest earned (for the purpose of "a" above) on debt obligations:

(a) Compute the yield to maturity of each obligation held by the Registrant based on the market value of the obligation (including actual accrued interest) at the close of business on the last business day of each month, or, with respect to obligations purchased during the month, the purchase price (plus actual accrued interest).

(b) Divide the yield to maturity by 360 and multiply the quotient by the market value of the obligation (including actual accrued interest) (as referred to in Instruction 1(a) above) to determined the interest income on the obligation for each day of the subsequent month that the obligation is in the portfolio. Assume that each month has thirty days.

(c) Total the interest earned on all debt obligation and all dividends accrued on all equity securities during the thirty-day or one month period.

NOTE: Although the period for computing interest earned referred to above is based on calendar months, a thirty-day yield may be calculated by aggregating the daily interest on the portfolio from portions of two months. Nothing in these instructions prohibits a Registrant from recalculating daily interest income on the portfolio more than once a month.

(d) For purpose of Instruction 1(a), the maturity of an obligation with a call provision(s) is the next call date on which the obligation reasonably may be expected to be called or, if none, the maturity date.

(e) In the case of a tax-exempt obligation issued without original issue discount and having a current market discount, use the coupon rate of interest in lieu of the yield to maturity. Where, in the case of a tax-exempt obligation with original issue discount, the discount based on the current market value exceeds the then-remaining portion of original issue discount (market discount), the yield to maturity is the imputed rate based on the original issue discount calculation. Where, in the case of a tax-exempt obligation with original issue discount, the discount based on the current market value is less than the then-remaining portion of original issue discount (market premium), the yield to maturity should be based on the market value.

2. With respect to the treatment of discount and premium on mortgage or other receivables-backed obligations which are expected to be subject to monthly payments of principal and interest ("paydowns"):

(a) Account for gain or loss attributable to actual monthly paydowns as an increase or decrease to interest income during the period.

(b) The Registrant may elect (i) to amortize the discount and premium on the remaining security, based on the cost of the security, to the weighted average maturity date, if such information is available, or to the remaining term of the security, if the weighted average maturity date is not available, or (ii) not to amortize discount or premium on the remaining security.

3. Solely for the purpose of computing yield, recognize dividend income by accruing 1/360 of the stated dividend rate of the security each day that the security is in the portfolio.

4. Do not use equalization accounting in the calculation of yield.

5. Include expenses accrued pursuant to a plan adopted under rule 12b-1 under the 1940 Act 17 CFR 270.12b-1 among the expenses accrued for the period. Reimbursement accrued pursuant to a plan may reduce the accrued expenses, but only to the extent the reimbursement does not exceed expenses accrued for the period.

6. Include among the expenses accrued for the period all recurring fees that are charged to all shareholder accounts in proportion to the length of the base period. For any account fees that vary with the size of the account, assume an account size equal to the Registrants mean (or median) account size.

7. Undeclared earned income, computed in accordance with generally accepted accounting principles, may be subtracted from the maximum offering price. Undeclared earned income is the net investment income which, at the end of the base period, has not been declared as a dividend, but is reasonably expected to be and is declared as a dividend shortly thereafter.

8. Disclose the amount or specific rate of any nonrecurring account or sales charges.

(iii) Tax Equivalent Yield. If the Registrant (including a registrant described in paragraph (a)) advertises a tax equivalent yield, furnish.

(A) a tax equivalent yield based on a 30-day (or one month) period ended on the date of the most recent balance sheet included in the registration statement, computed by dividing that portion of the yield of the Registrant (as computed pursuant to Item 22(b)(ii)) which is tax-exempt by one minus a stated income tax rate and adding the product to that portion, if any, of the yield of the Registrant that is not tax-exempt;

(B) the length of and the last day in the base period used in computing the quotation; and

(C) a description of the method by which the quotation is computed.

(iv) Non-Standardized Performance. If the Registrant (other than a registrant described in paragraph (a)) advertises any non-standardized performance data, furnish-

(A) a quotation of performance, computed by the non-standardized method;

(B) the length of and the last day in the period used in computing the quotation; and

(C) a description of the method by which the performance data is computed.

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PART C. OTHER INFORMATION

Item 24. Financial Statements and Exhibits

* * * * *

(b) Exhibits:

* * * * *

(16) schedule for computation of each performance quotation provided in the Registration Statement in response to Item 22 (which need not be audited).

* * * * *

Instructions:

Subject to the Rules regarding incorporation by reference, the foregoing exhibits shall be filed as part of the Registration Statement. Exhibits numbered 10-12 and 16 above are required to be filed only as part of a 1933 Act Registration Statement. Exhibits shall be appropriately lettered or numbered for convenient reference. Exhibits incorporated by reference may bear the designation given in a previous filing. Where exhibits are incorporated by reference, the reference shall be made in the list of exhibits required above.

12. Guideline 32, of Guidelines for Form N-1A, is revised to read as follows:

Guide 32. Performance Data

Item 3(c) requires a brief explanation of how the registrant calculates its historical performance for purposes of advertising this data. Algebraic equations and detailed, intricate explanations should be avoided in favor of a more general, concise description of the essential features of the data and how it is computed. For example, a no-load money market fund advertising both its yield and effective yield might describe these two yields in the following manner:

From time to time the Fund advertises its "yield" and "effective yield." Both yield figures are based on historical earnings and are not intended to indicate future performance. The "yield" of the Fund refers to the income generated by an investment in the Fund over a seven-day period (which period will be stated in the advertisement). This income is then "annualized." That is, the amount of income generated by the investment during that week is assumed to be generated each week over a 52-week period and is shown as a percentage of the investment. The "effective yield" is calculated similarly but, when annualized, the income earned by an investment in the Fund is assumed to be reinvested. The "effective yield" will be slightly higher than the "yield" because of the compounding effect of this assumed reinvestment.

For guidance in responding to Item 22, the registrant should refer to Investment Company Act Release No. 13049 (February 28, 1983) 48 FR 10297 (March 11, 1983); Investment Company Act Release No. 11028 (January 28, 1980) 45 FR 7578 (February 4, 1980); and Investment Company Act Release No. 11379 (September 30, 1980) 45 FR 67079 (October 9, 1980).

13. By amending the General Instructions by revising Instruction F, paragraph 1(b) of the General Instructions for Parts A and B, Item 4(c), Item 25, Item 28(b)(16), and Instructions to Item 28 of Form N-3 as follows:

§274.11b Form N-3, registration statement of separate accounts organized as management investment companies.

* * * * *

GENERAL INSTRUCTIONS

* * * * *

F. Amendments

1. Attention is specifically directed to Rule 8b-16 under the 1940 Act 17 CFR 270.8b-16 which requires the annual amendment of Registration Statements filed pursuant to Section 8(b) of the 1940 Act. Where Form N-3 has been used to file a registration statement under both the 1933 and 1940 Acts, any amendment of that registration statement shall be deemed to be filed under both Acts unless otherwise indicated on the facing sheet.

2. The revision of an omitting prospectus advertisement for the purpose of updating performance data does not require the filing of an amendment to the prospectus if the performance data is calculated in the manner described in the prospectus and the Statement of Additional Information.

* * * * *

General Instructions for Parts A and B

1. * * * * *

* * * * *

(b) Item 4, "Condensed Financial Information" (except paragraph (c)), should not be preceded by any other chart or table (except for the table of contents required by Rule 481 under the 1933 Act 17 CFR 230.481).

* * * * *

PART A. INFORMATION REQUIRED IN A PROSPECTUS

* * * * *

Item 4. Condensed Financial Information

* * * * *

(c) If the Registrant advertises any performance data, include a brief explanation of how performance is calculated, whether the data reflects sales load or other nonrecurring charges, and the effect on performance of excluding such charges. If the Registrant advertises its performance calculated in more than one manner, briefly explain the material differences between the calculations.

* * * * *

PART B. INFORMATION REQUIRED IN A STATEMENT OF ADDITIONAL INFORMATION

* * * * *

Item 25. Calculation of Performance Data

(a) Money Market Accounts. For each account or sub-account that is held out to be a "money market" account or sub-account or has an investment policy calling for investment of at least 80% of its assets in debt securities maturing in thirteen months or less, and that advertises a yield quotation or an effective yield quotation, furnish:

(i) a yield quotation based on the seven days ended on the date of the most recent balance sheet of the Registrant included in the registration statement, computed by determining the net change, exclusive of capital changes, in the value of a hypothetical pre-existing account having a balance of one accumulation unit of the account or sub-account at the beginning of the period, subtracting a hypothetical charge reflecting deductions from contract owner accounts, and dividing the difference by the value of the account at the beginning of the base period to obtain the base period return, and then multiplying the base period return by (365/7) with the resulting yield figure carried to at least the nearest hundredth of one percent;

(ii) an effective yield quotation based on the seven days ended on the date of the most recent balance sheet of the Registrant included in the registration statement, carried to at least the nearest hundredth of one percent, computed by determining the net change, exclusive of capital changes, in the value of a hypothetical pre-existing account having a balance of one accumulation unit of the account or sub-account at the beginning of the period, subtracting a hypothetical charge reflecting deductions from contract owner accounts, and dividing the difference by the value of the account at the beginning of the base period to obtain the base period return, and then compounding the base period return by adding 1, raising the sum to a power equal to 365 divided by 7, and subtracting 1 from the result, according to the following formula:

EFFECTIVE YIELD = (BASE PERIOD RETURN + 1) exponent 365/7 minus 1;

(iii) the length of and the last day in the base period used in computing the quotation(s); and

(iv) a description of the method(s) by which the yield quotation(s) is computed.

Instructions:

1. When calculating the yield or effective yield quotations, the calculation of net change in account value must include all deductions that are charged to all contract owner accounts in proportion to the length of the base period. For any account fees that vary with the size of the account, assume an account size equal to the sub-accounts mean (or median) account size.

2. Deductions from purchase payments and sales loads assessed at the time of redemption or annuitization should not be reflected in the computation of yield or effective yield. However, the amount or specific rate of the deduction must be disclosed.

3. Exclude realized gains and losses from the sale of securities and unrealized appreciation and depreciation from the calculation of yield and effective yield.

4. The Registrant may furnish separate yield quotations for individual and group contracts.

5. If the Registrant does not advertise an effective yield quotation, it need not disclose or discuss the computation of an effective yield quotation.

(b) Other Accounts

(i) Total Return. If the Registrant (other than a registrant described in paragraph (a)) advertises any performance data, furnish-

(A) average annual total return quotations for the 1, 5, and 10 year periods ended on the date of the most recent balance sheet of the Registrant included in the registration statement, computed by finding the average annual compounded rates of return over the 1, 5, and 10 year periods that would equate the initial amount invested to the ending redeemable value, according to the following formula:

P (1 + T) exponent n = ERV

Where: P = a hypothetical initial payment of $1,000

T = average annual total return

n = number of years

ERV = ending redeemable value of a hypothetical $1,000 payment made at the beginning of the 1, 5, or 10 year periods at the end of the 1, 5, or 10 year periods (or fractional portion thereof);

(B) the length of and the last day in the period used in computing the quotation(s); and

(C) a description of the method by which average total return is computed.

Instructions:

1. Assume the maximum sales load (or other charges deducted from payments) is deducted from the initial $1,000 payment.

2. Include all recurring fees that are charged to all contract owner accounts. For any account fees that vary with the size of the account, assume an account size equal to the accounts mean (or median) account size. If recurring fees charged to contract owner accounts are paid other than by redemption of accumulation units, they should be appropriately reflected.

3. Determine the ending redeemable value by assuming a complete redemption at the end of the 1, 5, or 10 year periods and the deduction of all nonrecurring charges deducted at the end of each period.

4. If the Registrants registration statement has been in effect less than one, five, or ten years, the time period during which the registration statement has been in effect should be substituted for the period stated.

5. Carry the total return quotation to the nearest hundredth of one percent.

6. If the Registrant includes the total return information in its prospectus, it need only be current to the end of the Registrants most recent fiscal year.

(ii) Yield. If the Registrant (other than a registrant described in paragraph (a)) advertises its yield, furnish-

(A) a yield quotation based on a 30-day (or one month) period ended on the date of the most recent balance sheet of the Registrant included in the registration statement, computed by dividing the net investment income per accumulation unit earned during the period by the maximum offering price per unit on the last day of the period, according to the following formula:

YIELD = 2 (a - b divided by cd + 1) exponent 6 - 1

Where: a = dividends and interest earned during the period.

b = expenses accrued for the period (net of reimbursements).

c = the average daily number of accumulation units outstanding during the period.

d = the maximum offering price per accumulation unit on the last day of the period

(B) the length of and the last day in the base period used in computing the quotation; and

(C) a description of the method by which yield is computed.

Instructions:

1. To calculate interest earned (for the purpose of "a" above) on debt obligations:

(a) Compute the yield to maturity of each obligation held by the Registrant based on the market value of the obligation (including actual accrued interest) at the close of business on the last business day of each month, or, with respect to obligation purchased during the month, the purchase price (plus actual accrued interest).

(b) Divide the yield to maturity by 360 and multiply the quotient by the market value of the obligation (including actual accrued interest) (as referred to in Instruction 1(a) above) to determined the interest income on the obligation for each day of the subsequent month that the obligation is in the portfolio. Assume that each month has thirty days.

(c) Total the interest earned on all debt obligation and all dividends accrued on all equity securities during the thirty-day or one month period.

NOTE: Although the period for computing interest earned referred to above is based on calendar months, a thirty-day yield may be calculated by aggregating the daily interest on the portfolio from portions of two months. Nothing in these instructions prohibits a Registrant from recalculating daily interest income on the portfolio more than once a month.

(d) For purpose of Instruction 1(a), the maturity of an obligation with a call provision(s) is the next call date on which the obligation reasonably may be expected to be called or, if none, the maturity date.

2. With respect to the treatment of discount and premium on mortgage or other receivables-backed obligations which are expected to be subject to monthly payments of principal and interest ("paydowns"):

(a) Account for gain or loss attributable to actual monthly paydowns as an increase or decrease to interest income during the period.

(b) The Registrant may elect (i) to amortize the discount and premium on the remaining security, based on the cost of the security, to the weighted average maturity date, if such information is available, or to the remaining term of the security, if the weighted average maturity date is not available, or (ii) not to amortize discount or premium on the remaining security.

3. Solely for the purpose of computing yield, recognize dividend income by accruing 1/360 of the stated dividend rate of the security each day that the security is in the portfolio.

4. Do not use equalization accounting in the calculation of yield.

5. Include expenses accrued pursuant to a plan adopted under rule 12b-1 under the 1940 Act 17 CFR 270.12b-1 among the expenses accrued for the period. Reimbursement accrued pursuant to a plan may reduce the accrued expenses, but only to the extent the reimbursement does not exceed expenses accrued for the period.

6. Include among the expenses accrued for the period all recurring fees that are charged to all contract owner accounts in proportion to the length of the base period.