Target returns

Target returns are performance goals that hedge funds present to potential investors. These goals help investors understand what the fund aims to achieve and the level of risk involved. Target returns make it easier for investors to compare different investment opportunities.

However, financial regulators have strict rules about how these targets can be presented. FINRA, which oversees , requires firms to have a reasonable basis for any target returns they advertise under Rule 2210. This means funds cannot simply make up attractive numbers without solid justification.

Target returns are fundamentally different from projected returns, and this distinction is crucial for regulatory compliance. Projected returns represent what an investment manager specifically expects the fund will actually achieve. Target returns, in contrast, represent aspirational goals or objectives.

FINRA Rule 2210(d)(1)(D) explicitly prohibits the use of projected returns in any communication distributed by FINRA member firms. This means advisers cannot use language suggesting they anticipate, believe, expect, predict, or forecast that a fund will deliver specific returns.

However, this restriction does not prevent advisers from expressing forward-looking opinions about other matters. For example, they can still share their outlook on market conditions or discuss their positioning in different asset classes.

FINRA has not provided detailed written guidance about what exactly constitutes a reasonable basis for target returns. In general practice, firms must be able to document how they developed their target return estimates.

This documentation typically includes several key components. First, firms must explain their methodology in detail—how they calculated the target returns and what approach they used. Second, they must identify the specific securities or market sectors they analyzed. Third, they need to document the assumptions they made about market conditions, economic factors, and other variables that could affect performance. Finally, they should consider relevant industry trends and market conditions that support their projections.

Investment advisers must keep thorough records of their return calculations. This includes any mathematical models they used, historical performance data they relied on, and both quantitative and qualitative information that supports their target returns.

The Securities and Exchange Commission (SEC) does not explicitly ban target returns that lack reasonable support. However, firms should maintain detailed documentation for any target returns they present to investors. This documentation helps protect against potential violations of anti-fraud provisions under the .

When including target returns in marketing materials, investment managers should include clear disclaimers. These disclaimers should explain that the target return represents a goal, not a guarantee. They should state that the figures are provided for informational purposes to help investors understand the fund's risk and return expectations. Most importantly, they must clarify that target returns may not be achieved and do not constitute a promise of future results.

Target return presentations must clearly indicate whether the figures are shown on a gross or net basis. Gross returns are calculated before deducting management fees and expenses, while net returns are calculated after all anticipated costs have been subtracted.

Communications must emphasize that target returns serve an illustrative purpose. They help investors understand the fund's risk profile, return expectations, and overall investment strategy. However, they are not predictions or guarantees of actual performance.

FINRA has taken enforcement action against firms for improper target return presentations. In a notable 2004 case, NASD (FINRA's predecessor) found that a major broker-dealer had distributed over 95 pieces of sales literature for specific funds that cited target returns. The problem was that the firm failed to establish adequate support or documentation that would allow investors to assess whether the stated targets were reasonable.

This enforcement action demonstrated the regulator's commitment to ensuring investors receive well-supported performance expectations rather than unsupported optimistic projections.

The regulatory landscape for target returns has been evolving. In July 2024, the SEC approved proposed amendments to FINRA Rule 2210. These amendments would have created a limited exception to the prohibition on target returns, allowing their use in communications with institutional investors and under specific conditions, including the requirement for a documented reasonable basis.

However, the SEC stayed this approval just one week after it was issued, creating temporary uncertainty about potential rule changes. In June 2025, FINRA's Board of Governors reaffirmed its support for amending Rule 2210 and approved resubmitting the amendments to the SEC for reconsideration.

Until such amendments receive final approval, the current prohibition on target returns in retail communications remains in effect. Regulatory harmonization between broker-dealer and investment adviser standards continues to be under discussion.

Beyond regulatory compliance concerns, investment managers face potential litigation exposure when they include target returns in marketing materials but fail to achieve those stated returns. Investors who do not realize the anticipated performance may file lawsuits using the target return communications as evidence of unfulfilled promises.

This litigation risk exists regardless of any risk disclaimers or qualifying language included in the marketing materials. Therefore, firms must carefully consider both regulatory requirements and potential legal exposure when deciding whether and how to present target returns to investors.