SEC’s Kardashian Case, Marketing Rule Aim to Reveal Paid Ads

In October of this year, the U.S. Securities and Exchange Commission (“SEC”) fined Kim Kardashian $1.26 million for touting a cryptocurrency on her Instagram account. (Clara Hudson, Bloomberg). Ms. Kardashian posted an advertisement for EthereumMax, a crypto asset security, and failed to disclose that she was paid $250,000 for the post. Id. The SEC also recently adopted significant changes to the Investment Advisers Act of 1940 (“Advisers Act”) to improve the regulation of financial securities advertising. (Ellen Kaye Fleishhacker et al., Arnold & Porter). The SEC replaced the outdated framework with the “Marketing Rule” to expand the definition of advertising, increase current disclosure requirements, and provide investment advisers with more flexibility. (Michael S. Caccese et al., K&L Gates). The Kim Kardashian case and the Marketing Rule highlight the SEC’s priority of public disclosure while acknowledging investment advisers’ need for flexibility and access to online marketing channels.

The Marketing Rule replaced the Advertising Rule and the Cash Solicitation Rule of the Advisers Act. (James E. Anderson et al., Willkie Farr & Gallagher). The Advertising Rule, adopted in 1961, was created to regulate financial advisers’ marketing communications. Id. The rule prohibited testimonials, endorsements, and misleading statements in financial securities advertisements. Id. The Cash Solicitation Rule, adopted in 1979, addressed the conflict of interest which results when someone is paid compensation for referring potential clients to an investment adviser. Id. Both rules focused on written communications, television, and radio advertising and were never updated. Id.

Over the last decade, there has been an explosion in the use of electronic communication and online advertising. (SEC). Due to these advancements, advertising and referral practices have evolved, and the expectations of investors have changed. (tclark, The Wagner Law Group). The goal of the Marketing Rule is to better “accommodate the continual evolution and interplay of technology and advice.” (SEC). The Marketing Rule removed the long-standing prohibition on the use of testimonials and endorsements in investment advertising. (tclark, The Wagner Law Group). Due to this expansion of permitted advertising methods, disclosure requirements have been heightened. Id. Investment advisers who choose to utilize testimonials or endorsements must clearly and prominently disclose whether the promoter is being compensated, and whether the promoter is a client. Id.

The case against Kim Kardashian exemplifies the application of the Marketing Rule by showcasing the importance of public disclosure of financial endorsements. On Instagram, Kim Kardashian posted an endorsement for EMAX tokens, the crypto asset securities offered by EthereumMax. (Clara Hudson, Bloomberg). Ms. Kardashian asked her followers, “Are you guys into crypto??? This is not financial advice but sharing what my friends just told me about the EthereumMax token!” (Barbara A. Jones et al., The National Law Review). Her post included a link to the EthereumMax website, which provided instructions on how to purchase EMAX tokens. (Clara Hudson, Bloomberg). Kim Kardashian failed to disclose that she was paid $250,000 for the advertisement. Id. Ms. Kardashian did not admit to or deny violating the anti-touting provision of the federal securities law. Id. However, she agreed to pay $1.26 million in penalties, disgorgement, and interest. Id. The SEC publicized this case to increase awareness about disclosures and to clarify that digital assets are not exempt from regulation. (SEC). Kim Kardashian has over 333 million Instagram followers and is one of the most well-known celebrities. (Kim Kardashian, Instagram). The publicity and exposure of a case involving Ms. Kardashian ensures the SEC's message reaches millions of people.

Celebrities are not financial advisers, and their endorsements of financial securities can easily mislead the public. (Ana Nicenko, Finance in Bold). Gary Gensler, chair of the SEC, warned the public against listening to endorsements about investment advice. (SEC). He stated, “celebrity endorsements don’t mean that a product is right for you or even, frankly, that it’s legitimate.” Id.

Proper disclosure is critical to investors’ ability to make sound decisions, and investment advisers and endorsers must be held accountable if they are going to advertise on social media. (Ana Nicenko, Finance in Bold). Investment advisers must now adhere to many new and detailed compliance requirements. This means they will need to implement more expansive record-keeping processes and carefully assess the prospective use of testimonials and endorsements to ensure they are not misleading.

The Marketing Rule recognizes the advancements in communication technology and the desire to expand advertising in the financial securities space. (SEC). The Marketing Rule will increase public awareness of investment opportunities by allowing their existence to be known to millions of people online. Investment advisers are now better equipped to attract new clients, while at the same time, prospective clients can trust that they are not being misled. I believe this will encourage more individuals to consider investing. The Marketing Rule improves the synergy between advertising and financial advice and reflects the modernization of the investment securities sector.