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To Bot or Not To Bot: The SEC’s Proposed Conflict Rules May Stifle Use of Innovation

August 15, 2023
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On July 26, 2023, the Securities and Exchange Commission (SEC or Commission) proposed new conflict of interest rules (PDA Proposal) for investment advisers' and broker-dealers’ use of certain predictive data analytics (PDA) under the Securities Exchange Act of 1934 (Exchange Act), and the Investment Advisers Act of 1940 (Advisers Act).1 If the rules are adopted as proposed, investment advisers and broker-dealers (collectively firms) would be required to conduct onerous and, in some instances impractical screenings of their use of technology. In the Internet Advisers Proposal, the SEC also proposed to narrow the internet advisers’ exemption under the Advisers Act (Internet Advisers Proposal).2 This alert summarizes the PDA Proposal and Internet Advisers Proposal and highlights some key observations and issues for firms to consider.

Key observations

  • The PDA Proposal is based on the authority granted to the SEC under the Dodd-Frank Act, which, among other things, authorizes the SEC to “promulgate rules prohibiting or restricting certain sales practices, conflicts of interest and compensation schemes for brokers, dealers and investment advisers that the Commission deems contrary to the public interest and the protection of investors.” Thus, the PDA Proposal is not based on anti-fraud authority, and firms could be liable for violations regardless of full disclosure and in the absence of any materiality determination.3
  • The PDA Proposal does not include a compliance period. The SEC has indicated a plan to address the compliance period during the rule adoption process and has asked for comment on this topic.
  • The Internet Advisers Proposal would narrow the scope of the exemption by requiring relying advisers to maintain an “operational” interactive website and provide advice exclusively through that website.

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1 Conflicts of Interest Associated with Predictive Data Analytics by Broker-Dealers and Investment Advisors, Investment Company Act Release No. 34-98890, July 26, 2023 (available at https://www.sec.gov/files/rules/proposed/2023/34-97990.pdf). Comments on the PDA Proposal are due by Oct. 10, 2023.

2 Exemption for Certain Investment Advisers Operating Through the Internet, Investment Company Act Release No. IA-6354, July 26, 2023 (available at: https://www.sec.gov/files/rules/proposed/2023/ia-6354.pdf). Comments on the Internet Advisers Proposal are due by Oct. 2, 2023.

3 Commissioner Peirce expressed concern over the PDA Proposal’s suggestion that the risks to investors associated with conflicts of interest arising from increased use of PDA technology cannot be circumvented through disclosure. “In many ways, the discussion surrounding the inadequacy of disclosure is the most troubling aspect of the proposal. The long-term ramifications of the Commission’s rationale for dismissing the value of disclosure – namely, that disclosure is of no use to investors – cannot be exaggerated.” (Citations omitted.)

Information contained in this publication should not be construed as legal advice or opinion or as a substitute for the advice of counsel. The articles by these authors may have first appeared in other publications. The content provided is for educational and informational purposes for the use of clients and others who may be interested in the subject matter. We recommend that readers seek specific advice from counsel about particular matters of interest.

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