A look inside the financial self-regulatory system.
I’m a registered representative. I just had my first bout of “continuing education”, which is intended to keep me updated on the latest regulatory developments in the financial industry. You probably have some idea of what this is like if you’ve ever attended mandatory corporate training of any stripe. Which is to say: it hysterically and profoundly misunderstands the problem and goes about solving it in the must proclamatory and ineffective manner possible.
With finance types it’s a bit different. First of all, you have to drive to a Prometric evaluation center to ensure that the “education” is administered appropriately instead of just rubber-stamped by your boss. I was in there with a bunch of teachers taking the Praxis. A few were medical students taking their boards or some precursor test, according to the sign-in sheet. Some of them were insurance salespersons.
You hand them your ID and get ushered into a quiet room, supplied with silencing headphones. Then you complete a fully automated, self-directed teaching program that periodically quizzes you to ensure you don’t just click through it. It’s standard fare, utilizing scenarios to reflect competencies in things like recommendations, suitability, account management processes, and the like. My first thought coming out of it was “Wow, what Marisol did to Carlos’ retirement accounts with that options trading was cold. No wonder he divorced her.”
My other thought was that I’m still really unsure what the true constitution of a recommendation is. Believe it or not, I came into the educational session with something of an open mind. I actually have some useful work-related questions about, for example, how to present information to clients without overtly or unintentionally biasing them. The session didn’t dream of addressing my question.
A recommendation, for the uninitiated, is generally defined as any sort of solicitation or informational bias that would motivate a client to do (and, crucially, not do) with their money. The clearest example of a recommendation is a simple statement: “I think you should buy Apple stock.” This is obvious; I’m compelling you to invest in a particular investment. I’m recommending an action to you.
But there are problems with this idea when you consider recent regulatory clarity that any medium, including the internet and printed materials can provide a recommendation. What about mutual funds? Studies have consistently shown that the common use of lists of funds sorted by alphabetized symbols (EG AAAAA, AAAAB, AAAAX) has a significant effect on the amount of investors a given mutual fund has, demonstrating that search engines bias investors in subtle ways. And the fund companies have probably read those studies, because there’s an odd tendency to start fund symbols with as many A’s as practically possible even though it has no relation to the underlying fund company’s name or investment practices (to pick one from a hat: AAAGX).
In fact SEO has emerged pretty quickly as a fundamental way to bias online commerce. You want to be on the top of Google results, right? The revelation there is that just about any usability decision made during system design is fundamentally biased in some large and small ways. I’ve gotten a different answer from every securities lawyer I’ve asked when I made the above case about search engines providing recommendations. No regulatory authority seems to agree either.
It gets worse. For example - consider that in the upper left or upper right or in a top banner crawl on every financial news site we see stock indexes. Doesn’t this fundamentally bias investors toward equity markets? Think back to when you first discovered investing: the first thing you likely found out about was some stock or other in a stock-market game. But investments comprise a whole breadth of products that suit different investors with varying degrees of adequacy depending on the particular situation. Why are we “recommending” stocks so heavily in our social structures designed to relate the performance of “the market”?
I’ve got some more problems. Most public sites only display market-day data for stocks, because after-market things get really illiquid really quickly. Most public sites default trade ticket systems to market orders. Are we “recommending” these methodologies or timeframes for investing? Are we pushing potentially suitable clients away from more thinly-traded and risky markets by “recommending” they make market orders during the 9:30-4:30 session? Every default in a system design, every convention of a marketplace incorporates assumptions that may be indicative of biased “recommended” actions.
After all, many high-volume stocks trade after-market just like they trade during the session with enough liquidity and bid/ask to support normal investing activities. Are the rules different then? Bueller?
Which means it’s open season for sufficiently motivated civil attorneys. The law is vague and predicated on a lot of assumptions about what investors really want that don’t hold up to much, if any scrutiny. This idea that we can have objective conversations with financial clients is patently absurd, regardless of medium. FINRA’s happy little “continuing education” presentation be damned.
Look, I know I can’t tell Carlos to go buy Speculative, Inc. because it’s a “hot buy”. But can I tell the world that market orders are the sensible default investing activity? Can I proclaim that only the market session is relevant when they quote a stock? Can we get competent, effective financial regulation this country?
