Q&As

Credit Law's Relationship with New Technology

Tuesday July 5, 2016

Corey McHattan, who will be presenting at the upcoming Credit Law Symposium, joined Ashleigh Tesluk of Legalwise Seminars to go discuss credit law's relationship with new technology and the associated risks.

Can you tell us a little bit about yourself Corey?

I am a Partner in the Regulatory Group (Ashurst), advising principally in the areas of financial services and markets regulation, equity capital markets and mergers & acquisitions. I regularly act for major investment banks and financial product issuers in relation to matters involving financial services regulation, ASX participation issues, the issue of retail and wholesale structured products, ASX Listing Rules and equity fundraising, general commercial matters and mergers and acquisitions in the financial services sector. With the increased use of technical platforms and distribution methods by financial services providers, my work is increasingly shifting towards digital delivery, and the challenges that presents. One such challenge is the regulatory compliance of innovative activity, when the law is geared towards the old paper based model.

What are some of the main challenges that you have seen affecting the credit and lending sector today?

Undoubtedly, the major challenge is technology. Technology has always been a consideration in financial institutions, however, the current pace of change is unprecedented. Being a global phenomenon, the change is perpetuating and morphing the credit and lending sector into a high tech creature that the regulators are struggling to adapt to.

What is robo-advice and how/why has it become mainstream?

Digital advice and execution models are sometimes referred to as 'robo' advisors. Simply, it involves replacing one or more processes of an advisory function with a technology solution. At one end of the spectrum, fully digital models provide an end-to-end digital advisory and execution solution through an online platform. At the other end of the spectrum, some models allow clients to submit their information through to human advisors using a digital collection process.

Digital advisors are not a new concept. ASIC issued a class order permitting complex calculators in 2005. These were primitive tools, and used a computer to assist the client understand their financial decisions. Today's digital advice models offer more complexity through algorithms, and client profiling.

Digital advice is also very popular in the US. Compared to traditional financial advice, digital advisors are cheap to use, accessible, and convenient. We expect to see increased adoption of digital advisors in the market for vanilla advice, but expect that human advisors will continue to be necessary for complex advice.

What is the key risks of robo-advice in Australia?

Automated advice carries potentially significant risks. The client relies on the system the provider has developed, including the assumptions and methodologies which underpin it. These include:

  • does the system ask the right questions; 
  • does the client understand the questions adequately to answer correctly; 
  • does the system identify whether the client is not a suitable advice candidate; 
  • do the algorithms operate as intended;
  • are the assumptions in the methodology relevant?

Furthermore, there would be an expectation that the provider is monitoring the system, and working with the client to resolve any issues.

If one of these elements breaks down, the client may suffer detriment. Being digital and repetitive, any problem is likely to be replicated in high volumes. If clients suffer detriment on a large scale, the advisory product, and / or the entire industry could experience reputational risk.

Are there global implications?

US banks are adopting automated advice rapidly. New products appeal to millennials, permit low cost investing, and open the financial products market to a new segment of retail clients who would usually not otherwise invest Offshore trends are increasingly impacting on Australia.

What are the ramifications of ASIC’s Consultation Paper 254 Regulating digital financial advice?

There are three key issues that need to be dealt with in ASIC' regulatory material:

  • The minimal organisational competence standard;
  • monitoring algorithms; and
  • The 'best interest' duty. 

Consultation Paper CP254 addresses the first two items, and the accompanying proposed regulatory guide deals with the best interest duty.

The CP proposes that in the case of a digital advisory offering, at least one responsible manager maintains organisational competence at the standard required of an advisor. It also proposes controlled software changes, and either self-certification, or an external certification to confirm that the system has been monitored and tested.

The best interest duty section of the proposed RG suggests a triage or filtering process, suggests a review of digital advice (although not execution), and suggests warnings and disclaimers to assist meet the best interest duty.

The CP and the RG contemplate a linear model of the advisor collecting information at the start, and then generating a plan. Neither document addresses the scenario of the advisor continuing to engage with the client in a non-linear way, how much information the advisor is taken to 'know' about the client if it interacts with the client is other ways, or how the SOA could be delivered over a digital device.

What are some of the other big trends and developments you see ahead for these areas?

Digital advice is highly popular in the US, and advisors are widely used and trusted. We see that popularity in the Australian market will gain ground, and some of the main US advisors may arrive on our shore.

You can hear directly from Corey at the upcoming Credit Law Symposium taking place on 8 & 9 September 2016 at the Swissotel, Sydney.

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