Investment algorithm sales pre-check essential: Quantitative investment and Capital Market Act.

Quantitative investing is a method of making investment decisions based on data and algorithms rather than subjective human judgment, and it is rapidly spreading in modern financial markets. In the US stock market, quantitative investing already accounts for about 70% of trading volume, and it is gradually becoming more popular domestically. However, it is essential to be aware that the process of selling or using algorithms may be subject to the requirements of the Capital Markets Act for investment advisory services.

What is Quantitative Investing?
Quantitative investing is an investment technique that makes quantitative judgments based on statistics and data analysis, excluding emotions and subjectivity when making investment decisions.

Advantages of Quantitative Investing

Quantitative investing has the advantage of reflecting real-time data, as it eliminates emotional judgment, which often leads to failures in human investing, and reflects the latest economic data and market conditions immediately to make investment decisions. In addition, because multiple investors using the same algorithm can make simultaneous buy or sell decisions, it saves time and resources and greatly increases investment efficiency.

Algorithm-Based Quantitative Investing and the Capital Markets Act

The expansion of quantitative investing has given rise to a new business model of algorithm sales. Investors who purchase a specific algorithm can link it to their accounts and automatically proceed with investment activities.

According to the Capital Markets Act, investment advisory services mean the act of providing advice on the value or investment judgment of financial investment products as a business. If algorithm sales are interpreted as providing such investment judgments, it may be considered investment advisory services. Investment advisory services require registration with the Financial Supervisory Service, and failure to comply can result in criminal penalties, so caution is needed.

Therefore, if all setting values that form the basis of investment judgment are included in the algorithm, it may be considered providing investment judgment, and if the algorithm user has no leeway to change variables and produces the same result under the same conditions, it is likely to be considered investment advisory services. However, if the purchaser can adjust or change the settings of the algorithm themselves, it may not be considered investment advisory services.

Similar Investment Advisory Services for Quantitative Investing

Investment advisory services mean providing customized investment judgments to specific individuals. This includes advice that takes into account the individual investor’s asset situation, investment purpose, and investment experience. For example, this includes recommending a portfolio configuration that matches the client’s financial situation and goals.

On the other hand, similar investment advisory services refer to the provision of general investment judgments to an indefinite number of people. This is defined as providing investment judgments without reflecting the characteristics of each investor and providing the same content to multiple people in a lump sum. A typical example is publicly announcing buy or sell opinions on specific stocks through the internet, broadcast, or SNS.

The Supreme Court clarified this difference through a case where algorithm sales were deemed to be similar investment advisory services (Supreme Court 2022.10.27. Ruling 2018do4413). In this case, the algorithm uniformly provided the same investment judgment based on variables set for an indefinite number of people, and it did not reflect the investment purpose or assets of individual investors. Therefore, it was deemed to be similar investment advisory services rather than investment advisory services as defined in the Capital Markets Act.

This ruling shows that the legal nature can vary depending on the method of providing investment judgments. In particular, if the algorithm seller includes customized advice that takes into account the characteristics of individual clients in the process of providing investment judgments, it is likely to be considered investment advisory services and must comply with the registration obligations for investment advisory services under the Capital Markets Act. Failure to overlook these legal requirements can result in criminal penalties for engaging in unregistered investment advisory services, so it is important to thoroughly review and comply with relevant laws and regulations.

Points to Consider When Selling Algorithms

- Transparent Contract Structure
The function and limitations of the algorithm should be clearly stated, and a structure should be designed that allows the purchaser to adjust settings.

- Review of Investment Advisory Service Registration
If the algorithm provides specific investment judgments, you should review whether to register for investment advisory services with the Financial Supervisory Service in advance.

- Compliance with Relevant Laws
It is essential to receive professional legal advice to ensure that algorithm sales or operation do not violate the Capital Markets Act.

Quantitative investing presents a new paradigm for the investment market, but it can only ensure sustainability by strictly complying with the regulations of the Capital Markets Act. In particular, legal issues related to algorithm sales are not simply technical issues but important issues that are directly related to the sustainability of the business, so it is important to seek expert assistance from an early stage to be aware of the risks and develop a plan to minimize them.

Law firm Veat boasts a unique position in the investment and Capital Markets Act related fields and provides customized legal services for startups and investment firms to operate businesses successfully even in complex regulatory environments. It has been ranked 5th in the Bloomberg M&A League Table (2024 Bloomberg M&A League Table) for the number of deals in the first quarter of 2024, and has established itself as a leading player in the domestic and international investment and M&A legal advisory fields.

Please contact Law firm Veat for investment advisory services, similar investment advisory services, and to minimize legal risks related to investment business operations.

You can also find examples of our work on the following Law firm Veat blog.

- Must-Check Before Selling Investment Algorithms: Quantitative Investing and the Capital Markets Act

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