A series of examinations into digital investment advisory services found nearly every robo advisor, including software used by traditional advisors to automate investing, is falling short of compliance duties,
While robo advisors can provide convenient and inexpensive services for investors while enhancing efficiencies for wealth management firms, they can result in poor outcomes for investors when they fail to comply with regulatory compliance, the SEC said. The regulator issued deficiency letters to most digital advisors it examined, with the most common issues relating to inadequate compliance policies, misleading statements or inadequate disclosures in marketing materials, and portfolio management not meeting fiduciary obligations.
Specifically, most robo advisors don’t have written policies for assessing whether algorithms perform as intended or whether asset allocation and rebalancing services occur properly, according to the risk alert. Many robos are also not testing that the investment advice generated matched clients’ stated investment objectives.
“If, for example, a robo-advisor’s client survey process does not appropriately capture a client’s risk tolerance, it could result in advice to invest in securities that are not aligned with the client’s best interest,” the SEC said in its alert. “Similarly, if a robo-advisor is programmed to act on conflicts of interest that raise the costs or decrease the quality of the services provided, the client may be harmed as a result of the advisor’s putting its own interests ahead of its clients.”
The regulator also observed inaccurate or incomplete disclosures in many digital advisors’ filings related to conflicts of interest, advisory fees, investment practices or ownership structure. And more than half of the robos examined made misleading or prohibited statements on their websites and marketing materials.
The SEC did not respond to a request for additional comment.
While the risk alert is nothing unusual for the SEC, it is notable how much the regulator is focused on holding digital advice services to a fiduciary duty, said Jennifer Klass, a partner with law firm Baker McKenzie who specializes in investment advisor regulation.
“I think the SEC has long been concerned about technology companies that offer financial products like online advice because they come at it from a technology perspective and not necessarily a regulatory perspective,” Klass said.
It’s also not a surprise that the SEC emphasized performance advertising, especially in light of the
“I think they’re just trying to telegraph to the industry that it’s an important area for robo advisors to focus on,” Klass said. “Online advisors, particularly the purely digital [startups], don’t have a built-in customer base, necessarily, and are attracting investors solely through their online advertising.”
Though the risk alert did not name any firms or issue any penalties, it’s the latest example of the SEC putting action behind its words regarding digital investing tools. In July,
The SEC also
Charles Schwab declined to comment, as did Betterment. Wealthfront did not respond to a request for comment.
The risk alert recommended firms adopt written policies and procedures tailored to digital advisory services, periodic testing of the algorithms to ensure they operate as expected and a review of marketing materials.
