Having already taken a position that robo-advisors can’t be fiduciaries, the Bay State is requiring a series of disclosures about their use, and the decision to do so.
Earlier this year Massachusetts Securities Division said that robo-advisers’ failure to conduct due diligence, as well as their depersonalized structure, may render them unable to provide adequately personalized investment advice and make appropriate investment decisions – and as such, declared that fully automated robo-advisers, as currently structured, may be inherently unable to carry out the fiduciary obligations of a state-registered investment adviser.
While it says that until they have determined the proper regulatory framework for automated investment advice, robo-advisers seeking state registration in the Commonwealth of Massachusetts will be evaluated under the foregoing guidance on a case-by-case basis.
New Guidance
Now the Massachusetts Securities Division has issued new regulatory guidance to provide its state-registered investment advisers who establish concurrent or sub-advisory relationships with third-party robo-advisors with guidelines on how to best comply with the Massachusetts Uniform Securities Act and meet the fiduciary duties owed to their clients.
Under that guidance, to the extent that a state-registered investment adviser utilizes a third-party robo-adviser’s services to provide asset-allocation and trading functions to clients, the state-registered investment adviser must, at a minimum:
- Clearly identify any third-party robo-advisers with which it contracts, and use “phraseology that clearly indicates that the third party is a robo-adviser or otherwise utilizes algorithms or equivalent methods in the course of providing automated portfolio management services,” as well as detailing the services provided by each third-party robo-adviser.
- If applicable, inform clients that investment advisory services could be obtained directly from the third-party robo-adviser.
- Detail the ways in which it provides value to the client for its fees and the services that it cannot provide to the client, in light of the fiduciary duty it owes to the client.
- If applicable, clarify that the third-party robo-adviser may limit the investment products available to the client (such as exchange-traded funds, for example).
- Use unique, distinguishable and plain-English language to describe its and the third-party robo-adviser’s services, whether drafted by the state-registered investment adviser or by a compliance consultant.
Factors Considered
In addition to identifying the robo-advisor used, advisors are also directed to include the factors considered by the state-registered investment adviser in choosing to affiliate with the robo-adviser, including (but not limited to):
- an explanation as to why the state-registered investment adviser chose to affiliate with the specific robo-adviser as opposed to other third-party affiliations it may have considered;
- any conflicts that may result from the state-registered investment adviser’s affiliation with the robo-adviser;
- any additional fees that may be incurred by the client due to the state-registered investment adviser’s affiliation with the robo-adviser;
- the benefits the state-registered investment adviser believes its clients will receive from its partnership with the robo-adviser; and
- any disadvantages the state-registered investment adviser believes its clients may incur because of its partnership with the robo-adviser.
In addition to providing a detailed explanation as to the services provided by the third-party robo-adviser, they are expected to make the client fully aware of the existence of such affiliation. “In no situation should the client learn of the arrangement only after entering into an investment management agreement with the state-registered investment adviser,” according to the guidelines.
