Automation in Financial Advice

The financial sector has been strongly shaped by technology, particularly in relation to automation. The use of artificial intelligence mechanisms has undeniable benefits, however there are some risks connected with its use.

Technology has altered the way many sectors operate and the financial sector is no exemption. The use of artificial intelligence (AI) systems and robo-advisors in particular has changed the financial landscape.

From an historical perspective, robo-advisors first appeared during the Fintech 3.0 era and became more popular after the global financial crisis, when tighter regulations on traditional banks were implemented and the advances of the AI technology increased .

Robo-advisors are currently present in three traditional sectors, with varying degrees of implementation: banking, securities, and insurance.

1.Banking: Although robo-advisors are not widely used, human tasks are increasingly supported by various digital  tools.

2.Securities: Robo-advisors are used for asking prospective investors for detailed information on their goals, risk profile, investment purposes and timing, and, depending on the answers given, recommending transactions in financial instruments that better suit the client’s profile.

3.Insurance: Automation tools are also used in the insurance and pensions sector, mostly as part of new business models that offer online independent financial advisory services for the selection of pension investments.

The benefits of automation in financial advice, both for institutions and clients are unquestionable:

reduction of costs due to reduction of number of employees and concomitantly due to a reduction of the commissions charged by the robo-advisors.

accessibility  of financial advice and managing investments at any time and from any location as long as the customers have an Internet connection.

-appealing to newer generation of investors

-consistency in advice, since a properly developed algorithm is more precise than the human brain, lowering the error percentages and making the advice more comparable for clients with common characteristics

up-to-date advice, since AI processes massive amounts of data, allowing it to be continuously analysed and evaluated

-reduction of behavioral biases, which are sometimes prevalent in financial advisory. Human advisors frequently favor products for which they receive commissions and have a limited ability to monitor assets concurrently.

Notwithstanding, there also some potential risks and disadvantages connected with the use of robo-advisors:

-the lack of personal relationships can be perceived as a negative factor, particularly due to the risk of misunderstanding of the client, which may result in future harmful consequences. According to an Italian study, only a small percentage of users would feel completely comfortable and willing to use automated financial advisory services on their own.

consumer disengagement, since it is possible that the client might not try to understand how the service operates, due to this being an automatic process.

-risks connected with data, as data within financial institutions is frequently fragmented across different systems, which can present a challenge when trying to form a single view of a customer. Besides that, data quality issues might occur, originated by human input errors, making the implementation of artificial intelligence products more costly, limiting the extent to which developers can experiment with these technologies and shifting their focus to other projects where there is a higher degree of confidence.

-there are potential drawbacks related to consumer protection. Since robo-advisors represent an emerging technology, some business models have not yet been tested over time and under financial stress, leaving consumers in the dark about the consequences of a system failure.

In parallel with the risks identified above, there is a series of legal concerns that arise from the use of robo-advisors. More specifically, there are questions about civil liability relating to AI system failures and allocation of such liability when more stakeholders are involved. This might occur, for instance, when the institution with which the client interacts is not the same as the institution responsible for managing the platform.

Although it is difficult to predict the future, it is certain that technology will continue to evolve in the upcoming years, allowing for automated financial mechanisms to be developed in accordance with the users´ necessities. Recent studies show that robo-advisors managed $460 billion in 2020 and it is predicted that this amount will turn to $1.2 trillion by 2024. These numbers show that automation regarding financial advice is not only extremely powerful, but also highly profitable.

The future of automated financial advice is also strongly linked with regulation. Even though it is true that law and technology walk at different paces, regulation of robo-advisors should be prioritized due to the risks that it presents for its users. There is a significant need for the development and implementation of legal norms that provide objective, transparent and suitable advice for clients who opt to use robo-advisors.

Moreover, since some people are skeptical about robo-advisors, companies should also focus on hybrid systems, specifically for the more complex and difficult cases, where a human advisor is beneficial. Consequently, robo-advisors should be seen as complements instead of substitutes to human advisors, especially considering that the solutions has not yet reached its full potential.

Finally, future research on the subject of automation in financial advice is necessary to acquire insights on the what type of investors use robo-advisors, in which economies are these tools available, and what type of advice do they offer (e.g. tailored suggestions or standard recommendations). These studies could be helpful and relevant in order to fully understand the potential and the future drawbacks connected with the use of artificial intelligence mechanisms in the financial sector. In sum, it is fundamental to note that robo-advisors represent an important and relevant emerging technology in today’s interconnected world. Even though automation in financial advice is a fairly new application of technology, it has already proved to be essential and useful. Furthermore, there is no doubt that these automated technologies will keep evolving, becoming more sophisticated over time. However, guidance and regulatory clarity is necessary to mitigate the risks that the technology in the financial sector.

The Insights published herein reproduce the work carried out for this purpose by the author and therefore maintain the original language in which they were written. The opinions expressed within the article are solely the author’s and do not reflect in any way the opinions and beliefs of WhatNext.Law or of its affiliates. See our Terms of Use for more information.

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