MAS Proposes Lower Requirements to Allow Introduction of Robo Advisers

This article was first published by Thomson Reuters Regulatory Intelligence

Jun 15 2017 Patricia Lee, Regulatory Intelligence

The provision of advice for investment products using automated, algorithm-based tools, which are provided online with limited or no human interaction with clients, has finally hit Singapore as part of the financial technology phenomenon. In its consultation paper released on June 7, MAS provided clarity to its existing framework to facilitate the provision of investment advice using digital advisory services.

"Digital advisers may operate with a fund management licence or a licence for dealing in securities under the Securities and Futures Act (SFA) or a financial adviser's licence under the Financial Advisers Act (FAA), depending on their business models and the specific activities that they undertake," MAS said in the consultation paper.

MAS' regulatory approach toward regulating digital advisers will provide a number of exemptions for fund managers, financial advisers and new entrants seeking to offer digital advisory services, said Nizam Ismail, head of regulatory practice at RHTLawWessing in Singapore. He gave a few examples.

Under the existing regime, persons offering digital advisory services and looking to obtain licences as financial advisers or fund managers are required to have five to 10 years' relevant track record before they are allowed to apply for a license, but this will no longer be required under the new framework. MAS has also relaxed the requirements for group assets under management.

Other requirements which MAS has relaxed include allowing fund managers regulated under the Securities and Futures Act without a track record, to offer digital advisory services to retail investors, provided that they have certain safeguards in place. These safeguards include offering portfolios of non-complex assets; having key management staff with relevant collective experience in fund management and technology; and undertaking an independent audit of the digital advisory business within one year of operations.

Financial advisers regulated under the Financial Advisers Act and operating as digital advisers will be allowed to assist their clients in executing their investment transactions, such as passing their trade orders to brokerage firms and re-balancing their clients' investment portfolios in collective investment schemes, without the need for an additional licence under the SFA. This licensing exemption will also apply to non-digital advisers.

While Singapore lags behind Hong Kong and Malaysia, both of which have already issued guidelines for digital advisers in their jurisdictions, questions have been raised about whether the Singapore market, particularly the retail investor segment, is ready for such services.

Underserved Investor Segment

The widespread use of mobile telephones and the internet has no doubt made possible the provision of investment advice using digital advisory services. There is also a large group of investors who are insufficiently served by the private banking and premium banking services offered by banks, said Varun Mittal, ASEAN fintech lead at EY in Singapore.

"They [financial institutions] realised there is an opportunity, that there is a huge segment that can be addressed and they can serve this group of investors via branches or online platforms. Everyone is going after this segment. Robo advisers are ready, the market is right and there is huge demand [for digital advisory services]. There is no doubt about the opportunity," he said.

Ensuring Balanced Growth

While recognising growth opportunities, a more important consideration is to ensure that the use of digital advisers offers balanced, rather than uncontrolled, growth, Mittal said.

"Which is why the consultation paper seeks to address a number of questions such as how do robo advisers work? How does auto-rebalancing work? How will the portfolio rebalance if, say, there is a Brexit event? What will happen to the platform when there are unforeseen circumstances? When a not-so-normal event becomes a new normal, how will the tool perform? And it is not just when the market crashes but also when the market grows," he said.

The advent of robo advisers in the capital markets should be seen as an evolution and a journey, Mittal said, adding the financial services sector as a whole should navigate the unknown to ensure investors are protected.

"Robo advisers can take the customers to where regulations allow it to go," he said.

Regulations and Governance

MAS has recognised digital advisory services are offered through the use of algorithms and online tools — the technology used to analyse client data and to recommend investment portfolios — and the potential technology risks that come with it. It has therefore proposed that digital advisers adopt some form of governance and management oversight, to include putting in place an effective structure governing the design, monitoring and testing of algorithms, as well as having board and senior management oversight, and compliance arrangements to monitor the quality of advice provided.

Like investing in any types of fund, making investments through digital advisers comes with risk, but the fact that digital advisers are licensed and regulated by MAS means that risks are mitigated, Nizam said.

Digital advisers, as licensed entities, will also be subject to regulations including the fit and proper requirements and the need to ensure there is proper segregation of client accounts, among other things, Nizam said. AML and risk management requirements and MAS' outsourcing guidelines must also be complied with.

Existing regulations under the SFA and the FAA will also apply to digital advisers. This will include conducting product suitability checks, and understanding the investment objectives and risk appetite of investors, all of which will provide another layer of safeguards to investors, Nizam said.

"MAS has also made it clear that the underlying products offered by digital advisers will be the more straightforward products like exchange-traded funds," he said.

Humans versus Machines

There are concerns about whether digital advisers will be able to adequately carry out some of the checks such as suitability analysis. Mittal said digital advisers will be able to ask questions traditionally asked by a financial adviser or a relationship manager. Innovative work carried out in some jurisdictions has allowed the digital advisers to identify an investor's risk appetite and conduct suitability checks.

"Whatever humans can do, machines can do also. It's the emotional aspect of it that cannot be done...­ There is value in understanding the personal needs, challenges and aspirations of investors, but investment doesn't necessarily need to cover those aspects. Regulations do not say that you need to understand the health and education of the investor's family members," Mittal said.

Portfolio rebalancing, a concept perhaps less familiar to retail investors compared to accredited investors, is a possible area of risk, Mittal said. Most retail investors have not been exposed to the concept of rebalancing, unlike sophisticated investors who have their relationship managers to carry out portfolio rebalancing for them.

"It's a question of, when it comes to retail investors, what happens when something happens? How can technology be harnessed in the best possible way to ensure that customers get the best value while ensuring their interests are protected and that they are not adversely harmed," he said.

Facilitating New Entrants

Many robo advisers have attempted to disrupt the market by offering cost-effective investment products or making such investment easily accessible through apps. MAS' proposals seek to facilitate such new entrants by providing a framework under which they will be regulated, while giving investors opportunities to access investment through alternative platforms, Nizam said.

Market trends have shown investing via apps appeals more to retail investors, whereas the investing patterns of sophisticated investors such as those in the high-net-worth and ultra-high-net-worth bracket tend to be more relationship based.

Patricia Lee is chief correspondent, banking and securities regulation, Asia