The SEC’s rule on gamification of trading will have the opposite effect

Technological progress has opened up the US markets to a greater number and a wider range of retail investors. But the SEC proposal’s indiscriminate hostility to technology will raise barriers to investors who have benefited from recent technological advances, many of whom are younger, less wealthy and more racially diverse than those who have traditionally benefited from our markets.

The SEC’s proposed “predictive data analytics” rule covers the use of technology by brokers and advisors related to retail investors. While it’s supposed to target the game-like features of apps that the SEC identified as deserving of further review after the GameStop trade, the SEC also says its rule focuses on the use of artificial intelligence by brokers and advisers.

The way the rule works to regulate these technologies is a workaround. Specifically, the rule will require that when the technology places the interest of a broker or adviser ahead of that of an investor, such conflicts of interest must be “eliminated” or “neutralized.” While eliminating conflicts may sound like an admirable regulatory goal, this rule is an unwelcome departure from the typical remedy for conflicts of interest: disclosure. As SEC Commissioner Hester Peirce explained, this proposal reflects a “loss of faith” in the “power of disclosure” and “a corresponding belief that informed investors are able to think for themselves.”

In addition, the heavy framework of the conflict assessment rule will affect the willingness of firms to use technology regardless of that whether a conflict will actually be detected. In addition, the definition of technology covered by the rule is comprehensive, possibly covering the use of calculators – and perhaps even abacus – by brokers and consultants. This is hardly “technology neutral” as the SEC claims.

By discouraging broker-dealers and advisers from using and providing technology, undertaking technological development, or adopting increasingly new technologies, the SEC risks undoing the gains from investor participation in our markets.

A study by the FINRA Investor Education Foundation and NORC at the University of Chicago confirms that a wider range of investors opened investment accounts for the first time in 2020. These effects appear to be lasting, as 79% of these investors were still in the market through 2022

Importantly, investors increasingly rely on digital accessibility. Investors mostly access their accounts digitally, either through an app or on a website, and the use of mobile apps has increased significantly, with 44% of investors now using trading apps, compared to just 30% in 2018. New and more -young investors too as those with lower portfolio values ​​are more likely to trade with mobile apps.

Yet it is this accessibility that drives the SEC to the brink. The SEC is concerned that digital features that enable a personalized user experience or design elements that make trading look more fun will lead investors to make decisions that are in the firm’s best interest, but not the investor’s. . But, as University of Pennsylvania professor Jill E. Fish said, “it’s not clear why investing shouldn’t be fun.”

The SEC’s concern is overblown. Not only can gamification help improve financial decision-making, but investors are hardly powerless against allegedly insidious gamification techniques. Investors appear to prefer platform features that allow them to learn more about investing over features that offer entertainment, and more than 70% of investors rely on the research and tools provided by their firms when making investment decisions.

And new investors seem to be learning. Investors who entered the market in 2020 showed a modest increase in investing knowledge. But the SEC’s proposed burdens on technology could force firms to limit the educational or research information they provide to investors.

In addition to educational materials, regulations that hinder the ability of brokers and advisors to take advantage of technological advances are likely to increase the cost of investing. This will leave more investors on the sidelines, depriving them of both the benefits of learning by doing and the market as a whole.

These problems will only get worse as digital engagement becomes more common in everyday life. Limiting the use of technology by financial services apps will create an ever-widening gap between the usability (and desirability) of trading apps and everyday apps, especially for younger investors.

None of this is to say that using the technology is risk-free. But that’s why the SEC already has a host of rules that apply to dealing with investors and managing a firm that aren’t based on whether the firm used a particular technology. These existing rules, many of which are rooted in disclosure principles, provide a better framework for addressing risks for investors.

The SEC should not fall prey to the notion that retail investors are “dumb money.” Retail investors have outperformed the S&P 500 over the past decade, according to Vanda Research. Misjudging investors unable to appreciate disclosures about technology—and limiting their access to investment—is an idea that deserves the same box office reception as the movie “Stupid Money.” The SEC’s predictive analytics rule is a failure.

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