Because robo-advisors are severely limited by the amount of client information they can gather, their recommendations lack the “reasonable basis” required by a fiduciary standard, he said.
Companies like New York-based Betterment, once a purely digital robo-advisor, are now offering access to credentialed financial planners to their clients, he noted. Rather than assigning an individual advisor to each client, inquiries are handled by phone banks staffed by a team of advisors—in Betterment’s case, CFP certification holders.
McGrew says it's possible that the call centers will have enough client information to meet the various fiduciary standards imposed upon advice providers, but firms like Betterment have a long way to go.
“The rule out there is to know your client and understand your client’s needs and goals, but when there’s a phone bank it’s not going to document issues like a change in health status or a change in employment status or an inheritance,” says McGrew. “These call banks are going to be faced with a heavy load to lift if they’re going meet the regulation.”
Even if robo-advisors are ultimately deemed fiduciaries, they may not qualify for safe harbors in another area of the Advisers Act that would require them to register as mutual funds.
The Advisers Act of 1940 is interpreted by Rule 3a-4, an SEC regulation which establishes guidelines distinguishing a mutual fund from an advisory account. The rule allows a pool of investments to be exempt from registering as a mutual fund if it meets certain requirements.
Robo-advisors fall short of the requirements in two areas, says MacKillop.
Rule 3a-4 requires that client accounts be managed on the basis of their individual financial situation and investment goals, and also that advisors make “some personnel” who are knowledgeable about a client’s account and its management “reasonably available” to the client upon request.
While robo-advisors typically make their investment philosophy available online, provide clients with tools and information about their accounts and have started call centers to meet the SEC’s requirements, MacKillop argues that many mutual fund companies do the same and they still have to register as mutual funds under the law.
“Under the Adviser’s Act, they’re either fiduciaries or they’re not, and they’re either mutual funds or they’re not,” MacKillop says. “These are not trivial distinctions. Somehow or another, regulators have to find a niche for them to operate in without violating existing laws.”