Electronic Investment Advice & Robo-Advisers

Electronic Investment Advice & Robo-Advisers


 You can download a full copy of the slides from this webinar. 




Full video transcript available below:

Hello and welcome to our webinar today hosted by me, Joe Boyhan, and my colleague, Shane McGonagall, from My Compliance Office and our co-hosts, Vicki Hogan and Colleen Montemarano of NorthPoint Compliance. Today, we're going to review the SEC's national exam program examination priorities for 2017. This presentation will also include tips for [inaudible 00:00:25] investment advisors regarding compliance policies and procedures and how to conduct reviews and tests to assist you in areas the SEC will be scrutinizing the most

Thank you, Joe. Thank you for joining us today. My name is Vicky Hogan. Just as the SEC has done in past years, OC has issued its examination priorities for 2017. The basis for these priorities vary, but Colleen did note that a number of the priorities were the same as those from last year and that many of the risk alerts that have been issued by OC in the past are also topics that has been listed as priorities in the OC's examination priorities for 2017.

The SEC includes these top priorities those related to matters of importance to retail investors and also risk specific to elderly and retiring investors which gives us some clue as to where the SEC is wanting to focus its resources. While the SEC listed many priorities in their examination priorities, today we're going to be focusing on the priorities that are most directly related to investment advisors, so it would be most relevant to your firm.

The first priority we will discuss is on the next slide and it has to do with electronic investment advice. Providing electronic investment advice through automated investment plaforms and robo-advisors is becoming more and more popular which is why I believe this is on the SEC's radar. There are some obvious benefits to this type of service. For the investment advisor there's a benefits because this type of product offering is scalable, and then for the potential clients, investor, there's typically lower fees associated with the robo-advisor or an automated investment platform. There's also lower account minimum. This means that the typical retail investor would have access to professional portfolio management that it might not otherwise have access to.

The SEC has already given us the heads up that they will be doing SEC examinations of these types of advisors, so if this was a service that your firm provides you could be ready and on the lookout for potential examination with this as a focus. It's my opinion that, and I've heard from the SEC as well, that they're really focusing on these types of robo-advisors and automated investment platforms because they see that there could be some potential risks in these areas. They're also conducting these examinations so they themselves can get a better understanding of such advisors to stay ahead of any kind of potential compliance issues that could come up with respect to this type of advice. I think this is good and that the SEC has given this as a priority so that those types of advisors can be ready for an examination.

First, let's discuss the SEC's focus which is on fiduciary duty and due diligence obligation. The SEC and other regulators too have called into question an advisor's ability to meet the fiduciary obligations and due diligence obligation when they're providing electronic investment advice either in part or in full. There're a number of troublesome questions. When you do remove the human element from providing investment advice, and I'm going to just give you some of the questions that popped to my head is, number one, how can an advisor formulate proper investment recommendations when it provides an automated investment advisory services? Another questions of mine was is the advisor fulfilling its duty to perform initial and ongoing due diligence with respect to a client's investment objectives and needs if the information is solely solicited through clients completing the same online questionnaire?

In speaking of online questionnaires, too, how is the advisor is able to independently determine the identity of the client, and also what if they're senior folks or folks that's limited investment knowledge who are having trouble completing those questionnaires do not complete them correctly and now are given an investment program that's not suitable for their needs? Two final questions I had would be how does the investment advisors then tailor and personalize and make sure the investment advice is suitable for a client if they've never had a face-to-face meeting with the client? You're completely taking the human element out of the providing advisory services where and advisor could maybe otherwise read someone's body language or provide other value added services like ask questions about when you're going to retire, just questions that might not come up on a typical due diligence questionnaire.

Then, I would want to know how extensive the advisor is relying on any kind of algorithms that suggest buy and sell opportunities and are they managing this algorithm over time. These are all questions that I have with respect to how a robo-advisor or an advisor that has an automated investment platform could still be in compliance with their fiduciary duty and due diligence obligations. I suspect that also is a concern that the SEC and other regulators have.

If you do provide electronic investment advice, all of these questions that I just posed you could be able to answer during and SEC examination. In addition to that, to being able to answer these types of questions that your firm might be scrutiny for, you should also be doing some other activities as best practices. You should be conducting thorough and documented due diligence with respect to the algorithms that you're using. You also should make sure you update your policies and procedures to reflect the full or partial use of an electronic investment platform and regularly review such policies as the nature of that service changes over time.

You should ensure that you have compliance practices with respect to the oversight of the algorithms that generate the recommendations and ensure that adequate protection exists with respect to the electronic dissemination of client and investment information because with the robo-advisor or having an electronic platform it's more likely that non-public personal information about a client is going to be transmitted during electronic means. You'd want to make sure there's even stronger controls in that area.

Finally, just want to discuss the marketing and conflicts of interest with respect to providing the provision of electronic investment advice which the SEC also indicated that it would review during the examinations of its investment advisors. This all fell into the section in the priorities that has to do with retail investors. As you know, marketing and disclosures of conflicts of interest are always more sensitive topics when it applies to retail investors, so take extra care with your disclosures. Disclosures could be difficult too given the level of sophistication of retail investors trying to explain to them exactly how the algorithm maybe not in complete detail but how an algorithm might work and how it can assist you in making investment decisions, although you can't rely strictly on the algorithm, per se. 

You want to make sure that your ADD has full disclosure about the advisory models, the fee structures, your brokerage and trading practices, the count reviews and any conflicts of interest all surrounding the service of providing electronic investment advice. There could be a number of conflicts of interest. Just two come to mind, if there's only a limited number of investment options under the robo-advisor or the electronic investment platform that you're providing that should be disclosed. Second, if there're any additional services provided by the advisor and other forms of compensation that the advisor is receiving this also needs to be disclosed. Finally before we move on, you should be including disclosures relating to the limitation of technologies and that key assumptions are used in any algorithm and that the output could not be suitable for a client's needs and goals.

Before we move on to the next priority, we'd like to learn more about you and your firm, so if you could please reply to the polling question on the next slide. I can read it aloud. It says, to what extent does your advisory firm offer an automated investment platform? I'm actually very interested in the response here. Your choices are, no advisory services are offered in this manner, all advisory services are offered in this manner, a portion of advisory services are offered in this manner, or I'm not sure. I encourage you to reply.

I'm curious to see the responses here too.

I'm guessing a portion of advisory services, but we'll see. I'd be interested to see how many are providing all. The results came in. Let me see, I can't really see them here. Can you see them on your screen, Colleen?

Yes, I can. It looks like the majority of advisors, 79%, said they do not advisory services this way. There are 2% of you listening, though, who provide all of your services through automated investment platforms which is interesting. Then, kind of as I think we suspected to see people is a portion. There is about 10% providing a portion of advisory services this way. I think in the future we'll kind of see an increase in the numbers advisors providing services both through an automated investment platform and through a traditional platform.

Yeah, I agree. While there are risks of the SEC's outlined, definitely it's I think there are risks. I think the risks are manageable, but I do think that it's great because investment advisors can offer more  scalable products and do so to retail clients who might not, like I said before, have otherwise had such experience of professional advisors to help them invest their money for retirement.

I agree. It's a great way for advisors to reach out to people that might not meet their account minimum otherwise.

Yup, yup. Audience, everybody, thank you for your responses. At this point, I'm going to turn it over to Colleen to discuss the next examination priority.


Read 5 ways to improve Hedge Fund Compliance


This webinar was cohosted with NorthpointCompliance

Find out how MCO can help

Request a demo today to learn how MyComplianceOffice puts you in command of your compliance program, synchronizing your business needs with regulation. 

Request a Demo



Download our four page Portfolio of Solutions to learn about;

  • Personal Trade Monitoring
  • Gifts & Entertainment
  • Political Contributions
  • Third Party vendor risk management
  • Trade surveillance
  • And more

Brochure Download