SEC inquiry into online brokers could redefine recommendations

A Securities and Exchange Commission’s examination of how financial advisers use online platforms to attract clients could result in redefining an investment recommendation and expanding the reach of the broker advice standard.

Last week, the SEC released a request for comment about the “digital engagement practices” used by investment advisers and broker-dealers. The agency said it is looking into ways that advisers use tools that appeal to investors’ behavioral tendencies — such as game-like features known as gamification — to shape their activities on websites, portals and mobile apps.

“In the last few years we’ve seen a proliferation of trading apps, wealth management apps, and robo-advisers that use these practices to develop and provide investment advice to retail investors,” SEC Chairman Gary Gensler said in a statement accompanying the request for comment. “In many cases, these features may encourage investors to trade more often, invest in different products, or change their investment strategy.”

The agency is delving into potential conflicts of interest between platforms and investors.

“I’m particularly focused on policy questions about how we protect investors engaging with technologies that use DEPs,” Gensler said.

The comment deadline will be 30 days from the date of the publication of the request for comment in the Federal Register. The SEC could pursue new regulations after reviewing the comments.

One of the questions surrounding trading apps, such as the popular one offered by Robinhood Markets Inc., is whether the platforms are making investment recommendations when they encourage users to buy and sell stocks.

With the release of the comment request, the SEC may be on a path toward providing clarity, said Ben Marzouk, a partner at Eversheds Sutherland. If platforms are making recommendations, they would have to adhere to the broker investment advice standard, Regulation Best Interest.

“Where they may be heading is to expand the concept and meaning of a recommendation, which would potentially subject self-directed brokerages using gamification techniques to Reg BI,” Marzouk said.

Gensler seems to think that some platforms go beyond simply facilitating trading, said Kurt Wolfe, counsel at Quinn Emanuel Urquhart & Sullivan.

“The new starting position is: I assume some of you are making recommendations or giving investment advice,” Wolfe said. “It changes the game. Now, you have to comply with Reg BI, and that’s pretty difficult in a digital space.”

The SEC’s probe of advisers’ digital practices is the perfect opportunity to strengthen Reg BI, said Amy Lynch, president of FrontLine Compliance.

“They could take the information they collect from the [request for comment] and use it to enhance Regulation Best Interest, which may be their real goal,” Lynch said.

A trading platform could wade into investment-advice waters, for instance, if it detects that a customer likes the telecom sector and then starts highlighting telecom stocks.

“That might be starting to cross the line a little bit because it’s getting more specific to [the customer] and his individual investment objectives,” Lynch said.  


It won’t be clear for months or perhaps more than a year whether the SEC will propose new rules for digital practices. Right now, it’s on a fact-finding mission and seeking help from investors, market participants, investor advocates and others.

“Chairman Gensler knows that in the fintech space innovation has outpaced regulation,” Wolfe said. “They’re trying both to understand current practices and figure out if there’s anything they need to do from a regulatory standpoint.”

One hot-button area is the practice of brokers routing trades through certain market makers in order to receive a fee from them, a process known as payment for order flow. Proponents say that it enables commission-free trading. Opponents contend that it prevents investors from getting best execution for their trades.

Gensler told Barron’s on Monday that banning payment for order flow is “on the table” for the SEC, which caused a decline in the stock price of Robinhood, which uses the process.

But Marzouk anticipates the agency may instead focus on increasing disclosures. “Any treatment of payment for order flow is going to be around the edges,” Marzouk said. “I see the market solving for this.”

The post SEC inquiry into online brokers could redefine recommendations appeared first on InvestmentNews.

Andrew is half-human, half-gamer. He’s also a science fiction author writing for BleeBot.

Andrew Vincent
Andrew is half-human, half-gamer. He's also a science fiction author writing for BleeBot.
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