SEC Proposes Strict Regulations on Artificial Intelligence Usage for Wall Street Firms

This effort is a result of a broader review conducted by the agency following the meme-stock frenzy in 2021. The regulators became concerned about the tactics employed by investment platforms to make trading feel more like a game, using colorful graphics and behavioral prompts to encourage riskier trades that benefited the platforms but not the retail investors themselves.

While investment advisers are already required to prioritize their clients’ best interests, the proposed rule extends this ban on conflicts of interest to online platforms. It includes features that utilize individuals’ data to manipulate their behavior.

According to SEC Chair Gary Gensler, “Artificial intelligence has complexity. But you have a basic, high-level strategic question: Are you optimizing just for investors, or are you optimizing also for the robo-advisor brokerage app? That’s a straight-up conflict.”

Under the proposed rules, investment firms would be required to identify and eliminate any potential conflicts of interest arising from the use of AI. They would also need to establish written policies, procedures, and record-keeping measures to prevent violations.

Steve Quirk, Chief Brokerage Officer of Robinhood, expressed concerns that the SEC’s proposal would make it more difficult for individuals to invest in stocks.

Quirk stated, “The SEC’s proposal would turn back the clock, bringing U.S. financial markets to the old, manual days when retail investors were forced to interact with their broker or adviser by phone or at a branch office. This isn’t in anybody’s best interest, least of all the new generation of retail investors.”

The proposal also faced criticism from the agency’s two Republican commissioners. Mark Uyeda called it “breathtakingly broad” and “wholly unnecessary,” highlighting the potential negative impact on innovation in the financial industry if the proposal is approved.

The public will have a 60-day window to provide feedback before the five-member commission votes on the final version of the rules.

Recently, SEC Chair Gary Gensler has been warning about the potential risks that AI poses to financial stability. In a speech earlier this month, he stated that AI could introduce new systemic risks by promoting herding behavior among investors, leading to market destabilization.