SEC Charges Investment Company, CEO and Board Member for Alleged Misleading Statements Regarding Use of Artificial Intelligence

Who may be interested: Registered Investment Companies; Boards of Directors; Compliance Staff; Registered Investment Advisers

Quick Take: The SEC recently settled charges against a registered investment adviser (Adviser) and its parent company (Company), the Company’s CEO, and a board member of the Company for, among other things, allegedly making false and misleading statements regarding the Adviser’s use of artificial intelligence (AI) to conduct automated trading.

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The SEC describes AI washing as the process of exaggerating or misrepresenting the use of AI in businesses to attract investors. The most recent SEC order follows prior charges relating to AI washing earlier in 2024 and the SEC’s proposal that would govern an adviser’s use of AI and offers insight into how the SEC is reviewing AI washing under current regulations.

According to the SEC’s order, the Company’s CEO and the board member collaborated to raise nearly $4 million from 45 investors to develop the Adviser, which was falsely described as having an AI-driven platform for automated trading of securities. Specifically, the SEC’s order stated that the CEO and board member made material misrepresentations through marketing materials and solicitation communications that repeatedly referenced the Adviser’s non-existent AI capabilities.

The SEC’s order detailed additional alleged fraudulent misrepresentations made by the entities, the CEO and board member regarding the Adviser’s assets under management and investment returns. Further, the SEC’s order alleged that the Adviser and CEO acquired advisory clients through the use of misleading statements, and that the CEO used company funds for personal expenditures.

Without admitting or denying the charges, the Company, the Adviser, the Company's CEO, and the board member each agreed to a cease-and-desist order and the Adviser agreed to be censured. In addition, the CEO agreed to pay disgorgement, prejudgment interest and a civil penalty amounting in total to over $460,000, and to be subject to a five-year ban from the securities industry. Lastly, the board member consented to pay a $60,000 civil penalty.

Given the enforcement trends relating to AI washing, registered advisers and investment companies should ensure their disclosures on the use of AI are accurate and they should carefully vet third-party AI vendors to fully understand the services they offer, prior to advertising these services.

The SEC’s order announcing the settled charges can be found here.