Are “Robo” Advisors Fiduciaries?
The Financial Industry Regulatory Authority’s (“FINRA”) report on Digital Investment Advice seems to bolster the argument made by many in the securities industry that “robo” advisors (online portfolio management services that provide advice without the use of human financial advisors or financial planners) do not provide fiduciary advice. FINRA’s report outlines how developments in modern technology are impacting the industry and provides key observations for firms and investors.
Melanie L. Fein, former senior counsel to the Board of Governors of the Federal Reserve, agreed that financial advice is best left in the hands of human advisors. “If a robo advisor cannot perform overall portfolio analysis, it cannot perform a critical function of an investment fiduciary.” FINRA acknowledges the increasingly important role digital investment advice tools will have in wealth management. The organization urges firms to establish and maintain an investor protection foundation that incorporates relevant customer information into the firm’s digital investment advice. FINRA’s report suggests three prongs to help develop this foundation: 1) assess the customer’s needs; 2) use tools with sound methodological groundings; and 3) understand the limitations of those tools.
Ms. Fein’s main argument is that if an advisor (digital or human) cannot view the client’s overall portfolio, then they should not be considered a fiduciary. Fein notes that “without portfolio analysis, the advisor cannot be confident that the investment advice is appropriate for an individual client.” The FINRA report reinforces that “a registered representative using a digital advice tool to help develop a recommendation must comply with requirements of the suitability rule and cannot rely on the tool as a substitute for the requisite knowledge about the securities or customer necessary to make a suitable recommendation.”
A recent report by Morgan Lewis rejected both Ms. Fein’s statements and the underlying FINRA report. In an article for Financial Planning, a partner for Morgan Lewis contends that there is no absolute standard as to what constitutes a fiduciary duty. According to the report, the SEC’s principle-based regime is flexible and “[focused] on an investment adviser’s fiduciary duty to ‘make full and fair disclosure’ of all material facts, including conflicts of interest between the adviser and its clients and ‘any other material information that could affect the advisory relationship.’” According to a KPMG report, critics are fighting against a rising tide. The trend toward digital advisory firms is gaining ground, with an estimated $60 billion in total assets at end of 2015. That amount is projected to grow as high as $2.2 trillion by 2020.
Investors should be aware that although new technology is helpful and provides keen insight, its utility must be measured against each investor’s investment objectives and risk tolerance. According to FINRA’s report, digital advice “adds nuances to the questions investors should ask and information investors should obtain and understand in opening and maintaining an investment account.” Regardless of the path chosen, investors must remain their own advocate and insist on active involvement with their investment portfolios.
About Faruqi & Faruqi LLP
Faruqi & Faruqi focuses on complex civil litigation, including securities, antitrust, wage and hour, and consumer class actions as well as shareholder derivative and merger and transactional litigation. The firm is headquartered in New York, and maintains offices in California, Delaware and Pennsylvania.
Since its founding in 1995, Faruqi & Faruqi has served as lead or co-lead counsel in numerous high-profile cases which ultimately provided significant recoveries to investors, consumers and employees.
About Christine Goodrich
Christine E. Goodrich is a Senior Associate with Faruqi & Faruqi, LLP’s New York City office. Ms. Goodrich’s practice is focused in securities arbitration, litigation and regulation.