North Carolina Law Review

University of North Carolina School of Law

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Robo-Advisers Jumping on the Bandwagon: Yet Another Cry for a Uniform Standard

March 25, 2019

97 N.C. L. Rev. 673 (2019)

 

Robo-advisers have become an increasingly prominent source of investment advice in the financial services industry. These robo-advisers, synonymous with terms such as “digital advisers” and “digital advice,” represent a relatively small market share in comparison with more traditional investment advisers. However, the recent proliferation of robo-advisers has caught the attention of regulatory agencies such as the Securities and Exchange Commission (“SEC”) and the Financial Industry Regulatory Authority (“FINRA”). The continuing growth of this technology leads the world of legal academia to question the regulatory regime currently in place by scrutinizing current law and calling for newly renovated methodology. The conversation in legal academia surrounding robo-advisers currently pertains to the legal obligations that robo-advisers owe their clients6: whether robo-advisers can or cannot fulfill their duties as fiduciaries under the Investment Advisers Act of 1940 (“Advisers Act”). As it currently stands, pursuant to SEC guidance, robo-advisers are regulated as investment advisers under the Advisers Act, thus sparking debate over whether robots can adequately perform the fiduciary duties owed to their clients. 

 

Notwithstanding the question of whether robots can be fiduciaries, there is another discussion of equal importance worth considering: the debate as to whether the legal standards governing investment advice should be harmonized. In fact, now is an excellent time to have that discussion. The SEC has renewed its interest in the differing standards of conduct that govern investment advisers and broker-dealers. 

 

The difference between being regulated as an investment adviser or as a broker-dealer is important because the two are held to different legal standards in connection with the investment advice given. However, the actual differences in their functions are negligible. The difference is that investment advisers are held to a fiduciary standard, whereas broker-dealers are held to a lower standard of advice deemed suitable to the client in the specific circumstances. Furthermore, investment advisers have continuing obligations pertaining to being a fiduciary, while broker-dealers are able to insulate themselves from liability by pointing to the suitability of the singular trade at that given point in time.

 

The logic for promoting what many have termed a “harmonized” or “uniform” standard is straightforward: investment advisers and broker-dealers generally perform the same functions and thus should be held to the same standards under the law. On the other side of the coin is the argument that a uniform standard should not be implemented. A prominent line of reasoning against the need for a uniform standard is that holding broker-dealers to a lesser standard provides more affordable investment services for those who cannot afford a registered investment adviser. This argument certainly has teeth, as it takes into account the economic reality that the availability of a lesser degree of personalized investment advice by broker-dealers may allow a larger number of market participants to receive advice. However, because robo-advisers have filled the gap for cost-effective advice—and the SEC has confirmed they are held to the higher fiduciary standard—there is no longer a persuasive need for the lower standard given to broker-dealers. Regardless, the discussion of whether to have a uniform standard has pervaded the industry for well over a decade, resulting in two congressionally mandated studies and calls for public comment by the SEC. 

 

The wide variety of business models in which robo-advisers and their human teammates interact with their clients further exacerbates the need for discussion on the matter. This portion of the equation has not garnered any attention up to this point; however, it should be at the forefront. While the SEC has proclaimed robo-advisers as investment advisers under the Advisers Act’s regime, the gray area when factoring in different business models is striking. Hybrid models of robo-advisers are increasingly becoming the norm. If the differing legal standards between investment advisers and broker-dealers remain, the SEC will likely encounter the enormous obstacle of defining certain business models calling for various degrees of interaction between robo-adviser and human teammates as either investment advisers or broker-dealers. This Comment argues that a uniform fiduciary standard is warranted because the accelerated proliferation of robo-advisers—specifically, the myriad of potential hybrid business models involving these robo-advisers—will provide even greater uncertainty to the current regulatory regime. This uncertainty will not only frustrate market participants but also generate even greater issues for the SEC down the road.

 

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