SEC's evolving approach to AI regulation challenges investment advisers to adapt

The rapid advancements in artificial intelligence (AI) have introduced a complex regulatory quandary for investment advisers operating under the auspices of the U.S. Securities and Exchange Commission (SEC). This evolving landscape is marked by a significant gap between accelerating technology adoption and the relatively static, often antiquated, regulatory framework originally conceived long before AI emerged as a mainstream tool. Chris Stanley, a legal and compliance expert specializing in investment advisory matters, explores these challenges and their implications for advisers tasked with both harnessing AI’s capabilities and maintaining strict regulatory compliance.

The SEC’s current regulatory framework stems largely from laws and rules crafted decades ago, such as the Investment Advisers Act of 1940 and its accompanying Rules, including the now humorously outdated Rule 204-2 on recordkeeping, which still references storage media like microfilm and microfiche. Such relics highlight the discrepancy between law and technological innovation, especially as AI tools increasingly permeate advisory functions, from research to client communication, and portfolio management.

In 2023, under former Chair Gary Gensler, the SEC proposed comprehensive rules targeting the use of predictive data analytics and AI-driven technologies by investment advisers and broker-dealers. Known as the Predictive Data Analytics (PDA) Proposal, this initiative aimed to curtail conflicts of interest arising from AI’s influence on investment behaviours. However, the proposal met widespread criticism for its impractical scope and potential to stifle innovation. It was subsequently withdrawn in mid-2025 by the current SEC Chair Paul Atkins, signalling a retreat from overtly restrictive AI regulation.

Nonetheless, the SEC remains vigilant about how advisers represent their use of AI. Enforcement actions against firms accused of “AI washing”, or exaggerating their AI capabilities to market services, underscore the continued application of existing fraud and marketing rules. These actions reinforce that advisers must avoid misleading statements under the Advisers Act’s anti-fraud provisions and its Marketing Rule. Simply put, they cannot claim AI use where none exists or inflate the technology’s effectiveness.

The SEC’s 2025 examination priorities include scrutiny of AI’s integration in advisory activities, with a focus on compliance policies, procedures, and investor disclosures related to AI usage. This reflects the Commission’s intent to oversee AI adoption without yet imposing AI-specific rules, relying instead on the existing fiduciary duties of care and loyalty. These duties mandate that advisers maintain a thorough understanding of AI tools, ensure outputs serve clients’ best interests, and exercise human oversight where AI-generated advice or recommendations are involved.

In March 2025, the SEC convened a roundtable on AI, revealing key concerns: AI models often operate as opaque ‘black boxes’, complicating advisers’ ability to explain investment recommendations; cybersecurity risks exacerbated by AI necessitate updated protections; and governance practices must be enhanced to address AI’s unique challenges. Recommendations from this forum emphasise establishing cross-functional AI governance committees, performing rigorous vendor due diligence, embedding human-in-the-loop review mechanisms, updating recordkeeping to document AI-driven advice, and training staff on AI’s capabilities and limitations.

Consent and privacy also represent critical compliance areas, particularly when AI-powered tools record, transcribe, or summarise client meetings. Advisers must navigate varying state and federal laws on consent for recordings, secure sensitive client information in accordance with Regulation S-P, and manage AI tool data usage policies conscientiously. For example, transmitting AI-generated transcripts containing confidential client details via unsecured channels could violate cybersecurity obligations and invite regulatory reprisal.

AI’s application in portfolio management and financial planning, though less prevalent currently, is anticipated to grow. Here, human oversight becomes paramount to prevent biases favouring proprietary products, avoid unnecessary transaction costs or adverse tax consequences, and ensure that recommendations are tailored to individual client circumstances. Transparency through clear disclosure in client agreements and Form ADV brochures about AI’s role and limitations in the advisory process is strongly advised.

Given the regulatory ambiguity, Stanley suggests several proactive measures for advisers: conducting firm-wide surveys to inventory AI tool usage, delineating approved AI uses, performing thorough due diligence on AI vendors, adopting bespoke AI compliance policies and procedures, training staff regularly, and incorporating AI oversight into compliance testing routines. Monitoring evolving SEC guidance and enforcement trends remains essential, as future rulemaking directly addressing AI use may yet emerge.

Interestingly, the regulatory stance has shifted noticeably with new leadership. Chair Atkins has established an internal AI Task Force aimed at responsibly integrating AI within the SEC itself to enhance operational efficiency. This contrasts with prior Chair Gensler’s warnings about AI potentially introducing “systemic risk” to financial markets. The pivot reflects a broader national interest in maintaining American leadership in AI innovation while balancing regulatory oversight.

For investment advisers, the maxim holds true: “With great algorithmic power comes great regulatory responsibility.” Navigating AI compliance requires adhering to fiduciary principles within a patchwork legal system, exercising rigorous human oversight, and maintaining transparency with clients. While the SEC’s regulatory architecture lags behind technological progress, advisers who embed compliance-conscious AI governance into their operations will be positioned to leverage innovation beneficially, safeguarding both client interests and their own regulatory standing.