Better Understanding the Robo-Advisor Phenomenon
by Emmanuelle Gril
Robo-advisors are becoming increasingly popular with consumers, who find them practical and appreciate their low management fees. The use of this technology is growing, with around $11.4 billion in assets being managed by the fifteen or so robo-advisors currently in existence in Canada. This number is expected to rise to $24 billion by 2024. However, several questions have been raised about robo-advisors, as to their legality, use, advantages and limitations.
Robots with limited intelligence
To start, Me Nicolas Vermeys, Associate Dean of Programs at Université de Montréal's Faculty of Law, cleared up the mistaken belief that robo-advisors use artificial intelligence or deep learning. In fact, they use less-advanced technology, based on a binary vision of programming, which is sufficient to carry out their tasks. “They don’t apply a portfolio strategy relying on sophisticated quantitative market forecasting models,” said Vermeys. “In truth, they offer little to no real advice, to reduce operating costs and to be able to charge low management fees.”
This is why robo-advisors are better suited to the needs of investors applying a passive strategy, people who cannot hire an advisor or portfolio manager due to modest financial means, or people who want to use the technology to access intermediation services that better meet their expectations.
As for the legal framework, several laws apply to robo-advisors, notably the Civil Code of Québec, the Act Respecting the Protection of Personal Information in the Private Sector, the Act to Establish a Legal Framework for Information Technology and the Federal Personal Information Protection and Electronic Documents Act. The relevance and security of the information collected are a key concern. The platforms must ensure that they are taking the necessary measures to protect the integrity, availability and confidentiality of the data they gather.
Robo-advisors are also subject to the same obligations as traditional advisors and fall under the jurisdiction of the Autorité des marchés financiers (AMF). In the opinion of Me Julie Biron, Associate Professor of Corporate Law at the Université de Montréal, it would be counterproductive to impose stricter regulations on robo-advisors, as they pose the same problems as traditional market intermediaries.
To better assess the reality, Me Biron said she filled out the questionnaires for eight different robo-advisors. With respect to the obligation to know one's client, as set out in section 13.3(1) of Regulation 31-103, she believes that the questionnaires as they currently stand have several flaws and do not always adequately assess the investor's risk tolerance or the moment when funds must be withdrawn. This is all the more worrying as the verification of the client's level of experience and knowledge is also inadequate.
As for the suitability obligation, which will come into force on December 31, Me Biron noted that robo-advisors generally propose exchange-traded funds (ETFs), in-house funds and standardized portfolios, raising a doubt as to their ability to comply with this obligation. "Robo-advisors don't mention how many portfolios they have access to and actually give very conservative advice," noted Me Biron.
With regard to the obligation to disclose conflicts of interest, she notes that there is a clear lack of information about this on the platforms, which hampers a client's ability to make an informed decision. "It is also not easy for novices to understand the information about the overall fees and those paid to third parties," she added. Robo-advisors' main selling point is their low fees. In reality, additional fees, which are not always clearly indicated, also apply, such as fees for managing ETFs or rebalancing the portfolio.
In conclusion, Me Biron stated that not all robo-advisors are made equal, nor are they suitable for all types of investors. "That said, they are here to stay and they clearly meet a need. Advisors could view them as an extra tool and add them to their service offer. This would help them become more efficient and they could invest the time they save into developing their relationship with their clients, "she added. In other words, humans and personalized advice still have their place.