SEC Targets “AI Washing” in Charges Against Two Investment Advisers

On March 18, 2024, the U.S. Securities and Exchange Commission (SEC) announced settlements with two registered investment advisers for making false and misleading statements about their use of artificial intelligence (AI) or machine learning. The two advisers, Delphia (USA) Inc. and Global Predictions, Inc., without admitting or denying the SEC’s findings, consented to the issuance of cease-and-desist orders and to pay civil penalties totaling US$400,000. These are the first enforcement actions concerning “AI washing,” a term that SEC Chair Gary Gensler has used to describe AI-related misstatements.

What is AI Washing?

Last December, Gensler used the term “AI washing” to refer to companies making false, misleading, or exaggerated statements about how they are using or developing artificial intelligence systems. The term derives from “greenwashing,” which is the practice of making false or exaggerated claims about the positive impact a company’s policies and practices have on the environment.

The Delphia and Global Predictions Cases

The SEC found that Delphia misrepresented its AI and machine learning capacities in its Form ADV brochures, in a press release, and on its website, stating that it used a “predictive algorithmic model,” “machine learning,” or “artificial intelligence” to analyze client data to shape its investment advice. According to the SEC, after Delphia admitted during a 2021 SEC examination that it did not have such an algorithm and made various corrective disclosures, Delphia subsequently made false and misleading statements about the use of algorithms in its investment process. The SEC’s order cited, for instance, a 2022 Delphia press release claiming its “proprietary algorithms combine the data invested by its members with commercially available data,” even though it had not developed such algorithms. The SEC also found that Delphia also did not adopt and implement policies for ensuring the accuracy of advertisements.

The SEC found that Global Predictions (i) misrepresented on its website, over social media, and in emails to current and potential clients that it was the “first regulated AI financial advisor” and (ii) misstated on its public website that its technology used “[e]xpert AI driven forecasts.” The SEC also concluded that Global Predictions violated other Advisers Act provisions, including putting improper language in its advisory contract and failing to disclose material conflicts of interest.

Although these two actions concern investment advisers, the SEC also is scrutinizing statements that public companies and broker-dealers make regarding their use of AI and machine learning. These cases underscore the need for accuracy and completeness when making public statements in any setting about the entities use of AI and machine learning technologies.

This memorandum is a summary for general information and discussion only and may be considered an advertisement for certain purposes. It is not a full analysis of the matters presented, may not be relied upon as legal advice, and does not purport to represent the views of our clients or the Firm. Sharon M. Bunzel, an O’Melveny partner licensed to practice law in California; Jorge deNeve, an O’Melveny partner licensed to practice law in California; Andrew J. Geist, an O’Melveny partner licensed to practice law in New York; Mia N. Gonzalez, an O’Melveny partner licensed to practice law in New York; Michele W. Layne, an O’Melveny of counsel licensed to practice law in California; Sid Mody, an O’Melveny partner licensed to practice law in Texas; William K. Pao, an O’Melveny partner licensed to practice law in California; Nexus U. Sea, an O’Melveny partner licensed to practice law in New Jersey and New York; Waqas A. Akmal, an O’Melveny counsel licensed to practice law in California; Bill Martin, an O’Melveny counsel licensed to practice law in New York; and Danny Hirsch, an O’Melveny associate licensed to practice law in California, contributed to the content of this newsletter. The views expressed in this newsletter are the views of the authors except as otherwise noted.

© 2024 O’Melveny & Myers LLP. All Rights Reserved. Portions of this communication may contain attorney advertising. Prior results do not guarantee a similar outcome. Please direct all inquiries regarding New York’s Rules of Professional Conduct to O’Melveny & Myers LLP, Times Square Tower, 7 Times Square, New York, NY, 10036, T: +1 212 326 2000.