FINRA Examines Robo Advisors

We have blogged previously about the rise of automated investing advice as a service offering, and about the joint release that FINRA and the SEC put out regarding how to use these automated tools. Since then, nothing much of note has happened. SEC Commissioner Kara M. Stein, in a speaking event at Harvard Law School, pondered some of the questions raised by these new “robo advisors”, but did not offer any definitive guidance. In particular, she wondered,

"What does a fiduciary duty even look like or mean for a robo advisor? The idea of a robotic entity that automatically generates investment advice certainly bumps up against what we would traditionally think of as a fiduciary. As this innovation gains more market share (as it seems poised to do), we should be asking whether these new robo advisors can be neatly placed within our existing laws. Or, do we need certain tweaks and revisions?"

An excellent question, but it seems to be one that the SEC is still working on.

FINRA this week seems to be wading into the subject of robo advisors also, although on a less theoretical and more practical basis. At the FSI OneVoice conference on Tuesday, FINRA surveillance director Dawn Calonge said that she had "...reached out to firms, asking them if they’ve been participating as robo advisors, about their controls." Of particular interest to FINRA is the suitability of the customer even being in a robo account at all, and also how firms assess risk tolerance (in order to make recommendations) within those accounts. Related to controls, she was interested in what happens when a customer makes changes to their investment profile, or what happens when contradictory information is input by the client. The firm needs to have a process for handling these types of situations, and for making sure they understand why changes are being made (for example) in order to meet their obligations to the client. FINRA would also like to get a sense of how much human interaction there is with clients within these robo advisor programs, and also how much of a supervisory system is built around them. While there are many things in draft form that could be looked to for guidance, Calonge encouraged firms to reach out directly to FINRA stating, "Let us know what you’re doing. We can give you some thoughts on policy and guidance on what you’re planning to do.”

Many investors will be attracted to the low cost of using robo advisors without understanding the legal and regulatory protections that have been built up within the traditional brokerage area, protections that may not yet have a clear application to a robo advisor. FINRA is demonstrating its eagerness to ensure that investors are receiving appropriate and adequate advice, regardless of the type of program they invest with.