Policy experts from CFA Institute discuss key regulatory and technology trends that will impact how investment advice is delivered.
“Rule No. 1. Never lose money. Rule no 2. Never forget Rule No.1” is a quote widely attributed to Warren Buffett, the investment guru. More often, investment advice is more nuanced and best left to professional financial advisors. Financial advisors are subject to regulations and rigorous professional standards. For example, according to Standard III© Suitability of CFA Institute Investment Industry Standards, investment advisors should make only recommendations that are consistent with the objectives and constraints of the portfolio.
The profession of investment advice faces headwinds, not only from regulations but also emerging trends in technology and social media. Understanding and adapting to these trends is vital for both investors seeking advice, professionals offering it, and regulators seeking to balance the benefits of these trends against investor protection issues. We describe some of the issues related to investment advice and offer our suggestions on how the various stakeholders should navigate them.
Advisor Regulations in APAC
Improving access to advice vs. maintaining professionalism is one of the ongoing balancing acts for regulators, and is not always easy to pull off. Consider India, which is currently ranked fifth worldwide in terms of market capitalization. Despite strong momentum in Indian capital markets, which is reflected in these data points, there are only about 800 individual Registered Investment Advisors (RIAs), and the number is declining.
The often-cited reason for the declining numbers is onerous regulatory and compliance requirements. Most markets have exams as entry criteria and require a certain number of learning hours every year towards ongoing professional development, but advisors in India need to pass the same, comprehensive exam every three years to meet both entry and ongoing requirements. There are other factors too, such as the need for high qualifications and professional requirements even for employees who assist advisors, which increase the overall cost of doing business.
In Australia, over the last six to seven years, changes have been introduced, such as the requirement to pass an exam and the need to hold a “relevant degree”. As the licensing requirements were tightened, it led to a decline in the overall number of RIAs and the number declined by 40% in five years. Comparatively, the entry point to the industry in Hong Kong is low, resulting in an abundant pool of RIAs and a larger variance in terms of quality and professionalism among practitioners.
Gamification / Finfluencers
In the context of investment advice, another emerging area is the use of gamification and behavioural nudges by firms. Gamification, with features such as Ux design and interface aesthetics, can be useful as it increases engagement with younger investors and supports financial inclusion by helping to explain difficult concepts in an easy-to-understand manner. However, issues arise when these features nudge investors towards salient products like thematic funds or cryptocurrencies, and away from suitable products.
Like gamification techniques, finfluencers can make investing fun and engaging to learn, especially for a younger audience. But they become a problem when they fill an advice gap we described earlier, frequently without possessing the credentials for offering investment advice.
In addition, conflict of interest issues arise when finfluencers are paid by entities offering investment products, without disclosing these arrangements. The finfluencer compensation arrangements have also become sophisticated over time. For example, some finfluencers in India have stakes in platforms that offer illiquid, high-yield bonds. This creates a strong skin-in-the-game incentive for finfluencers to promote products even to unsophisticated investors. Such incentives, coupled with a lack of transparency in fees and poor disclosure practices, can erode the public’s trust in the overall advice industry.
As we document in our upcoming study on finfluencers, regulators are grappling with these issues, and attempting to address them, including a) outreach and campaign targeting the finfluencer community to ensure they highlight disclaimers related to products and are transparent in disclosing conflicts of interest, if any, b) approaching social media platforms with proof where rules are violated and the removal of such content, and, c) investor awareness campaigns highlighting the pitfalls of making investment decisions solely based on the popularity of finfluencers and how engaging their content is.
The role of AI
Just like in many other areas, such as customer care and content production, the use of AI is rapidly increasing within the investment profession. The main use cases of AI tools include portfolio management, client service, and automated (or robo) investment advice. In theory, AI algorithms can help build client portfolios by customizing investments that reflect client return objectives and risk tolerances.
In one of his speeches in July 2023, SEC Chairman, Gary Gensler identified the core issue with the use of AI as the fact that AI models’ decisions and outcomes are often unexplainable. Thus, the insights that come out of such models by design are challenging to interpret in terms of accessibility to humans. Why does a model qualify one person for a loan while rejecting another? While there are micro-risks related to deception, rent extraction, and conflicts, there are also macro-risks such as privacy and intellectual property challenges associated with dominance of a small number of AI platforms.
In the case of AI advisory – such as recommender systems used in robo-advice – firms should test the algorithms periodically for alignment with the client mandate and to avoid potential style drift. Without rigorous testing and reasonable explanations, it would be difficult to believe in the investment methodology of such investment advice available in the market. Here, investors have a responsibility too. They should be educated to assess the outcomes of an AI-driven investment approach, and understand its benefits and potential pitfalls. We refer readers to the ethical decision framework developed by CFA Institute to guide professionals and investment teams when working with AI technologies.
Lastly, as generative AI models rapidly gain adoption, there’s a race for quality data on which they can be trained. For example, Fidelity was approached by technology firms as their AI system creators wanted its data, which includes client profiles in its wealth management business. This underlines the need for responsible use of client data for training algorithms.
The medium through which investment advice is delivered and the profile of advisors are undergoing rapid change, and this evolution will impact regulation too. Also, in an increasingly interconnected and digitized financial landscape, cyber threats and potential data loss pose material risks to investors. Nevertheless, what does not change is the need for human interaction, even in the age of AI. According to CFA Institute’s survey Enhancing Investors’ Trust (2022), three-quarters of retail investors still prefer a human adviser to a robo-adviser. Three-quarters of respondents also said it is at least somewhat important for their advisor to share their values, be they political or religious. This suggests that at a fundamental human level, the more things change, the more they remain the same.
By Siva Ramachandran, Director of Capital Markets Policy, India, CFA Institute, Pankaj Sharma, Senior Manager, Capital Markets Policy, India, CFA Institute and Phoebe Chan, Capital Markets Policy Specialist, CFA Institute.
CFA Institute launches its global Research and Policy Center this September, with new industry-leading research and more.
 CFA Institute worked with Association of Registered Investment Advisers and CFA Society India on a joint project on registered investment advisers (RIAs).
 Where are India’s missing investment advisers? https://www.livemint.com/money/personal-finance/sebi-regulations-force-registered-investment-advisers-to-give-up-licences-while-finfluencers-mislead-investors-11684262776684.html
 Even after 10 years India has just 1300 investment advisors, Of the total 1299 RIAs, 828 RIAs have individual license i.e. they are fee only advisors. https://cafemutual.com/news/industry/28940-even-after-10-years-india-has-just-1300-investment-advisors
 Adviser ‘reforms’ will undermine a royal commission recommendation https://theconversation.com/adviser-reforms-will-undermine-a-royal-commission-recommendation-192325 , The wealth adviser exodus has bottomed out (for now) https://www.afr.com/companies/financial-services/the-wealth-adviser-exodus-has-bottomed-out-for-now-20230414-p5d0fj
 Over 2,000 more advisers predicted to exit industry in 2022 https://www.ifa.com.au/news/31082-over-2-000-more-advisers-predicted-to-exit-industry-in-2022, A REVIEW OF THE AUSTRALIAN FINANCIAL PLANNING LANDSCAPE IN 2022 https://rogermontgomery.com/a-review-of-the-australian-financial-planning-landscape-in-2022/
 Fun and Games: Investment Gamification and Implications for Capital Markets https://www.cfainstitute.org/-/media/documents/protected/Logged-in-report/investment-gamification-implications.pdf , https://www.businesstoday.in/personal-finance/bonds/story/secured-corporate-bonds-offering-9-11-return-but-are-they-superior-to-fds-top-wealth-expert-explains-383262-2023-05-29, https://www.livemint.com/brand-stories/highinterest-corporate-bonds-are-getting-popular-amongst-savvy-investors-but-are-they-meant-for-you-11685003307890.html
 We advise readers to read “Sales Inducements in Asia Pacific: A review of the sales and distribution of mutual funds in select Asia Pacific markets” for more information.
 Full report available: “Ethics and Artificial Intelligence in Investment Management: A Framework for Professionals”.
 “Isaac Newton to AI” Remarks before the National Press Club https://www.sec.gov/news/speech/gensler-isaac-newton-ai-remarks-07-17-2023
 Levels of Trust in Financial Services Reaches All-Time High: Increased Use of Technology and Product Personalization Fuel Investor Trust, CFA Institute Investor Trust Study Reveals Levels of Trust in Financial Services Reaches All-Time High (cfainstitute.org)