The SEC accused two robo-advising firms with misleading clients.
The SEC accused two robo-advising firms with misleading clients.

America’s chief investment regulator, the Securities and Exchange Commission (SEC), is cracking down on robo advisers. In particular, the SEC is fining prominent robo advisers for misleading clients, improper advertising, and lack of compliance.

The SEC accuses Wealthfront of exaggerating the capabilities of its robo adviser, a press release states. For instance, Wealthfront allegedly claimed its robo adviser could monitor all of its client accounts to maintain a tax-loss harvesting strategy.

The SEC alleges the robo adviser did not monitor the accounts. Hence, the tax-loss harvesting strategy may not have been implemented as Wealthfront promised in advertising.

A tax-loss harvesting strategy can theoretically reduce clients’ tax liability by selling certain assets at specific times, as explained in their promotional video below. Thus, Wealthfront clients could have paid taxes they might have avoided.

In addition, Wealthfront tweeted unproven testimonials about its products and paid bloggers to promote its services, the SEC charges. Moreover, Wealthfront failed to maintain a compliance program required by US securities laws, the SEC charges.

Wealthfront will pay the SEC $250,000 (£197,631) to settle its case, Business Insider reports. In addition, Wealthfront will certify compliance and tell its clients about the order.

Robo adviser Hedgeable shuts down

The SEC alleges another robo adviser, Hedgeable, failed to comply with securities laws or properly document its transactions. Plus, Hedgeable is accused of making misleading statements about its robo adviser’s performance.

Hedgeable reportedly withdrew from the investment business in August 2017. However, Hedgeable’s app and website are still online. Additionally, the company paid an $80,000 penalty for offering misleading comparisons of its robo adviser’s performance to competitors.

In particular, Hedgeable offered performance comparisons that were not based on competitors’ actual-trading models, the SEC alleges. Moreover, Hedgeable’s robo-adviser platform did not include an effective regulatory compliance program, the SEC alleges.

Robinhood’s regulatory troubles

Another popular robo adviser platform Robinhood is accused of violating US banking regulations. Robinhood is a popular stock-picking robo adviser that suddenly dropped plans to offer “cash-management” accounts shortly before Christmas 2018.

Barron’s accuses Robinhood of offering savings and checking accounts not insured by the Federal Deposit Insurance Corporation (FDIC). To explain, the FDIC is a government agency that insures most bank accounts against loss in the USA.

Robinhood robo advisor app on Android store
Robinhood robo advisor app on Android store

However, Robinhood’s accounts were supposedly insured by a private trade association called the Securities Investor Protection Corporation (SIPC) not the FDIC, Barron’s alleges. Notably, Robinhood stopped offering the accounts 36 hours after the allegations.

In fact, SPIC CEO Stephen Harbeck told Barron’s his organization was not insuring the Robinhood accounts. Tellingly, Barron’s reports Harbeck threatened to file an SEC complaint about Robinhood’s activities.

Senators want robo-advisers crackdown

Robinhood’s activities even attracted the attention of the United States Senate.

Seven US Senators wrote a memo asking the SEC and the FDIC to investigate Robinhood’s bank accounts on 20 December 2018, CNN reports. The senators asked the agencies to determine if Robinhood was misleading customers.

Plus, the senators want to know how the FDIC and SEC monitor fintech startups. Not coincidently, the SEC’s announced its actions against Hedgeable and Wealthfront on 21 December 2018.

Therefore, political pressure for a crackdown on robo advisers and similar products like cryptocurrency exchanges is growing in the United States. Under those circumstances, more companies are likely to follow Hedgeable’s lead and pull out of the robo-adviser business.

Risks from robo advisers

The SEC actions and the Robinhood saga indicate there could be significant risks from robo advisers and other next-generation investments platforms.

Significantly, the Robinhood story indicates many of the platforms offered by such platforms are not insured. Thus, there is a risk the robo advisers could run out of money and require a government bailout.

Managed assets like hedge funds run by robo advisers can cause financial crises or make them worse. For instance, the infamous hedge fund Long-Term Capital Management (LTCM) nearly triggered a global financial crisis when it ran out of money in 1998.

Only a bailout organized by the US Federal Reserve prevented LTCM’s complete collapse. The fear is that funds controlled by robo advisers or artificial intelligence (AI) could collapse as LTCM did.

Thus risk managers need to examine the dangers created by new technologies like cryptocurrencies, decentralized exchanges, AI, and robo advisers. Moreover, there is a need for new insurance products to cover the risks created by robo advisers.


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