To Bot or Not to Bot: Sec's Proposed Conflict Rules May Stifle Use of Innovation

• Jurisdiction: United States,Federal
• Citation: Vol. 7 No. 1
• Publication year: 2024

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Sara P. Crovitz, Lawrence P. Stadulis, Peter M. Hong, Aliza S. Dominey, and Alexa Tzarnas ^*

In this article, the authors summarize the Securities and Exchange Commission's proposed new conflict of interest rules for investment advisers' and broker-dealers' use of certain predictive data analytics under the Securities Exchange Act of 1934 and the Investment Advisers Act of 1940, and the Commission's proposal to narrow the internet advisers' exemption under the Advisers Act.

The Securities and Exchange Commission (SEC or Commission) has 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.

The SEC justifies the PDA Proposal in its concerns that firms might be using such technologies (either intentionally or unintentionally) in ways that place the firms' interests ahead of investors' interests. The SEC also expressed concerns that the scalability of these technologies and the potential for firms to reach a broad audience at rapid speed could magnify conflicts of interest.

In the Internet Advisers Proposal, the SEC also proposed to narrow the internet advisers' exemption under the Advisers Act (Internet Advisers Proposal). ²

This article summarizes the PDA Proposal and Internet Advisers Proposal and highlights some key observations and issues for firms to consider.

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The PDA Proposal

• The PDA Proposal would require firms to eliminate or neutralize the effect of conflicts of interest associated with a firm's use of "covered technologies" in "investor interactions" that puts a firm's interests above investors' interests. A firm would be required to evaluate any use or reasonably foreseeable potential use by the firm or its associated person of a "covered technology" to identify potential conflicts of interest. While the firm would be required to eliminate or neutralize only actual conflicts, it would be required to make and document evaluations of each use of a covered technology, test each covered technology prior to its implementation or material modification, and periodically thereafter determine whether the use of such covered technology is associated with a conflict of interest that places the firm's (or its associated person's) interest ahead of the interest of investors.
• The PDA Proposal also would require a firm that has any investor interaction using covered technologies to adopt

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