The SEC’s Rule on the Gamification of Trading Will Backfire

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

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

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

Moreover, the rule’s burdensome framework for evaluating conflicts will impact firms’ willingness to employ technology regardless of whether a conflict actually would be found. In addition, the definition of technology covered by the rule is all-encompassing, likely covering the use of calculators—and maybe even abacuses—by brokers and advisers. That’s hardly “technology neutral,” as the SEC claims.

By deterring brokers and advisers from using and providing technology, undertaking technological development, or adopting ever newer technologies, the SEC risks reversing gains in 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 those investors were still in the market in 2022.

Importantly, investors are increasingly reliant on digital accessibility. Investors primarily access their accounts digitally, either through an app or on a website, and the use of mobile apps has increased substantially, with 44% of investors now using trading apps compared to just 30% in 2018. Newer and younger investors, as well as those with lower portfolio values, are more likely to trade on mobile apps.

Yet it’s exactly this accessibility that has the SEC on edge. The SEC is concerned that digital features that allow customized user experiences, or design elements that make trading seem more fun, will induce investors to make decisions that are in the firm’s—but not the investor’s—best interest. But, as the University of Pennsylvania’s Jill E. Fisch professor put it, it’s “unclear, however, why investing should not be fun.”

The SEC’s concern is overblown. Not only may gamification help to improve financial decision-making, but investors are hardly powerless against supposedly insidious gamification techniques. Investors appear to prefer platform features that allow them to learn 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 it appears that new investors have been learning. Investors who entered the market in 2020 have shown a modest increase in investing knowledge. But the SEC’s proposed burdens on technology may cause firms to curtail the educational or research information they provide to investors.

Beyond educational materials, rules that inhibit the ability of brokers and advisers to take advantage of technological advances are likely to increase the costs of investing. This will leave more investors out in the cold, depriving them both of the benefits of learning by doing and of the market generally.

These problems will only compound as digital engagement becomes increasingly common in everyday life. Limiting the use of technology by financial services applications will create an ever-widening gulf between the useability (and desirability) of trading apps and everyday apps, particularly for younger investors.

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

The SEC shouldn’t fall prey to the idea that retail investors are “dumb money.” Retail investors have been outperforming the S&P 500 for the past decade, according to Vanda Research. Wrongfully judging investors incapable of evaluating disclosures about technology—and limiting their investment access—is an idea that deserves the same box office reception as the “Dumb Money” movie. The SEC’s predictive data analytics rule is a flop.

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