How Do You Tell a Robo-Adviser What It Needs to Know?: Meeting the Suitability Requirements, Digitally

By Majda Muhic & Qudsia Shafiq, Spring 2017 IAC Student Interns

As a fiduciary, a robo-adviser has a duty to act in the best interest of its customers and to provide suitable investment advice. In order to make suitable recommendations, an investment adviser must first get to know their customer’s financial situation and investment objectives. How can a robo-adviser ensure that it meets these obligations?

Most robo-advisers collect client information through online questionnaires. This information is then used to generate a recommendation.  Considering the limited interaction between the digital tool and its customer, both the content and the framing of the questions are key. Some robo-advisers request only basic data – such as a customer’s age, financial situation, and goals. Others seek more detailed information including risk tolerance and investment horizon. The questions a robo-adviser asks, and the way in which it asks them, shape the customer’s answers and the generated recommendation.  The questions may also be the culprit of unsuitable advice.

Within this context, the SEC advises, it is key that the questions posed to the customer are designed to elicit enough information to ensure that any generated recommendations are appropriate for the individual customer’s financial situation and goals. Robo-advisers should ensure that their questions are framed in a way to do so.   Are the questions clear enough for the customer to understand?  Unless a customer knows exactly what the tool is asking for and has a way to clarify any confusion, the risk of unsuitable recommendation is high.

The SEC further emphasizes the need to flag and resolve any inconsistent customer responses.  If there is an inconsistency, the system should be designed to alert both the customer and the robo-adviser, and find ways to resolve them. Finally, if more than one possible recommendation is generated, or the customer ultimately chooses a portfolio not recommended by a robo-adviser, the SEC recommends that the tool explain to the customer why some portfolios may better suit their stated needs. Because robo-advisers can’t talk, pop-up boxes and various design features become the language of automated investment advice.