The SEC proposes rules to tackle conflicts in AI-driven investing, emphasizing investor protection and technology regulation.
- SEC proposes new rules to address conflicts in AI-based investing.
- Firms must identify and neutralize conflicts of interest from predictive data analytics.
- The rules also require firms to maintain records of compliance with the regulations.
- SEC aims to strike a balance between innovation and investor protection.
The U.S. Securities and Exchange Commission (SEC) has put forth a set of new rules aimed at tackling potential conflicts of interest that may arise when investment advisers and broker-dealers utilize predictive data analytics and artificial intelligence (AI). The proposal, presented on July 26, 2023, seeks to prioritize investors’ interests and prevent businesses from putting their own gains ahead.
Corresponding with the SEC’s rule proposal yesterday on Predictive Data Analytics, we are seeing sweep
exams that align with the rule proposal. The focus of exams is on AI, algorithmic models, and trading signals. pic.twitter.com/2YNFo9jJxH
— Max Schatzow (@AdviserCounsel) July 27, 2023
Identifying and Neutralizing Conflicts of Interest
Under the proposed rules, firms using predictive data analytics for investor interactions would be required to thoroughly analyze and identify any conflicts of interest that may emerge. Should conflicts favor the firm over investors, it becomes incumbent upon the firm to eliminate or neutralize these effects. Additionally, firms employing this technology in investor interactions would need to maintain comprehensive records regarding their compliance with these requirements.
The proposal comes as a response to the increasing capabilities of predictive data analytics in making personalized predictions about investors. While this enables efficient communication and decision-making, it also raises concerns about possible conflicts of interest if advisers or brokers prioritize their interests over their investors’.
SEC Chairman Gary Gensler acknowledged the transformative potential of predictive data analytics and AI across multiple sectors, including finance, healthcare, and science. However, he emphasized the need to address potential risks, stating that conflicts of interest may arise if a firm’s optimization function considers the firm’s interests along with the investor’s.
New Rules on Hacking Incidents
The SEC has also taken steps to strengthen the financial system against data theft, system failures, and cyber intrusions. Publicly traded companies will now be required to disclose hacking incidents within four days of determining their materiality to investors. The rule, initially proposed in March 2022, aims to enhance transparency and investor protection.
While the proposal has garnered support, Republican commissioners have expressed dissent, arguing that existing disclosure requirements are sufficient and that the new proposal might hinder the use of innovative technologies. However, the SEC contends that the complexities and opacity of these technologies necessitate special rules.
The SEC underscores the need for a distinct regulatory approach to manage the use of highly scalable, intricate, and non-transparent technologies in the financial sector. The forthcoming publication of the proposed rules in the Federal Register will initiate a 60-day period for public commentary, highlighting the importance of finding a balance between innovation and investor protection.