© 2020 Arizent. All rights reserved.

Offering Robo Advice? Prepare for FINRA Scrutiny

Register now

ORLANDO -- A top FINRA official says the industry watchdog has started reaching out to broker-dealers who offer robo advice, asking how they determine client risk tolerance, among other factors.

Up until now, it had only put out an investor alert about robos jointly with the SEC. Meanwhile, the SEC has already stated it is pondering what a fiduciary duty means for a robo advisor.

“From a FINRA perspective, I’ve reached out to firms, asking them if they’ve been participating as robo advisors, about their controls,” said Dawn Calonge, FINRA surveillance director, at the FSI OneVoice conference on Tuesday.

Of particular interest: how firms record data, the suitability of robo advice and how customers are able to access and change their profiles, she told FSI OneVoice attendees in Orlando, Fla.

For a “surveillance director who is assessing your business, we’d be reaching out, asking you about your business, asking you about the controls you have in place,” Calonge said. “We will be speaking to our firms and understanding the controls you have.”

In terms of suitability, FINRA wants to know how firms assess customers’ risk tolerance. The “effective practice is to consider risk and the ability [of the customer] to take risks,” she said. “It may not be appropriate for a customer to be in a robo account” and it’s important that a firm is able to determine that, she added.

And what happens when customers change their profiles? Calonge said firms should ask, “Why is that happening?” And what are firm processes for handling contradictory and inconsistent answers when customers input their own information, Calonge asked hypothetically. “An effective practice has some way to reconcile this.” 

Central to any regulator examination will be to determine if a firm properly assessed client risk tolerance, says Ron A. Rhoades, attorney, fidcuiary advocate and chair of the financial planning program at Western Kentucky University.

“The major risk of a robo is how well they are assessing risk tolerance or more appropriately, the need for risk of clients,” Rhoades says.

“There is a lot of concern that risk tolerance questionnaires – even if they are 100 questions long – are mere snapshots in time of a clients’ emotional state. And while they may reflect risk tolerance, they really don’t reflect risk need.”


When asked whether FINRA was examining particular types of broker-dealers, Calogne said the prevalence of robo advice was more important than the type of firm.

“When a business is purely digital… there are a lot of questions, Calogne said. “We would be looking to assess how strong a firm’s controls are. How much human interface is there?  How much of a supervisory governance system is there?”

Going forward, she said, “We encourage you to speak to your surveillance staff. There are lots of things in draft form (that can help) give some guidance. Reach out to us. Let us know what you’re doing. We can give you some thoughts on policy and guidance on what you’re planning to do.”

Rhoades says that firms can find ways around these questions by ensuring that the risk tolerance and suitability process is not left to an automated system.

“I believe that human interaction with the client at this very important stage is required,” he said. “Software has not reached anywhere close to the sophistication to be able to judge the needs to take on risk.”

With reporting by Suleman Din.

Read more:

For reprint and licensing requests for this article, click here.