Robo-advisors can satisfy fiduciary standards set out by the Securities and Exchange Commission’s “flexible” principles under the Investment Adviser Act of 1940, according to a newly released report by the law firm Morgan Lewis.
In their white paper, “The Evolution of Advice: Digital Investment Advisers as Fiduciaries,” Morgan Lewis attorneys argue that critics who have questioned robo-advisors’ ability to meet fiduciary standards “proceed from misconceptions about the application of fiduciary standards, the current regulatory framework for investment advisors, and the actual services provided by digital advisors.”
Fiduciary duties are imposed on investment advisors “by operation of law because of the nature of the relationship between the two parties,” the attorneys, Jennifer Klass and Eric Perelman, wrote.
This advisor/client relationship is enforceable by Section 206 of the Advisers Act, “which applies to all firms meeting the Advisers Act’s definition of investment advisor, whether registered with the Commission, a state securities authority, or not at all.”
Investment advisors, including digital ones, “have an affirmative duty to act with the utmost good faith, to make full and fair disclosure of all material facts, and to employ reasonable care to avoid misleading clients,” the paper states.
Indeed, as the attorneys point out, Sections 206(1) and (2) of the Advisers Act make it unlawful for an investment advisor “to employ any device, scheme, or artifice to defraud any client or prospective client” or to “engage in any transaction, practice, or course of business which operates as a fraud or deceit upon any client or prospective client.”
Digital advice, the two attorneys argue, has long been governed by the existing regulatory framework, and the products and services offered by digital advisors “are not unique, but instead are technologically enhanced versions of advisory programs and services” available under current regulation.
While digital advisors are a “disruptive and competitive alternative” to traditional ones, the advisory services they offer “build upon the traditional advisory framework and its regulatory structure, rather than depart from it,” the attorneys said.
“The range of advisory services offered by digital advisors—from online asset allocation recommendations to discretionary managed accounts comprised of diversified portfolios of ETFs—follow well-worn regulatory paths governing the use of electronic media, the use of interactive websites to deliver advice and the governance of separately managed account and wrap fee programs,” the two said.
The history of these services underscores “that the Advisers Act is a flexible and technologically neutral regulatory regime that has accommodated technological change, innovation in products and services, and evolving business models.”
Digital advice can help address the retirement crisis by providing advice that is accessible to individual investors who may not meet the income or asset threshold required for traditional advice, the paper says.
“For such investors, the choice is not between traditional advice and digital advice. The choice is between digital advice and no advice,” the attorneys wrote. “Digital advice that is offered in a responsible manner, consistent with applicable fiduciary standards and the existing regulatory requirements imposed by the Advisers Act, is the far better option.”
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