SEC Says Retail Investors Are Clueless About Stocks

By Bristol Voss  SEP 24, 2012 12:00 PM

In 182 short pages, this SEC study shows retail investors lack basic financial literacy.


MINYANVILLE ORIGINAL The Securities and Exchange Commission has released a Study Regarding Financial Literacy Among Investors, and it reveals that many US retail investors are at best confused and at worst clueless when it comes to making an informed financial decision about "open-ended" companies, its term for equities.

"US retail investors lack basic financial literacy," the report says. "The studies demonstrate that investors have a weak grasp of elementary financial concepts and lack critical knowledge of ways to avoid investment fraud." That might explain the endurance of The Investment Scam That Refuses to Die which revolves around the Iraqi dinar; salespeople typically use circular and specious logic to convince would-be currency arbitrageurs that buying Iraqi dinars is a high-yield, low-risk venture.

But we digress. The SEC study was created to fulfill section 917 of the Dodd-Frank Act. The study represents the SEC staff's "distillation of the information gathered among retail investors in the United States, public comments, qualitative research (focus groups), quantitative research (online survey) and FLEC."

FLEC, according to a footnote in the document, "consists of 22 federal entities and is chaired by the US Department of the Treasury, [and] was established under Title V of the Fair and Accurate Credit Transactions Act of 2003 to improve financial literacy in the United States." Who knew? The SEC also engaged the Library of Congress to conduct a review of other studies done on the topic. They were careful to differentiate qualitative research results from empirical research results ("which are based on the results of the quantitative research that are statistically significant and can be extrapolated to a larger population of retail investors.")

No matter which way they sliced it, whether focus groups, online surveys, or public comments, the results (which, cumulatively, reached approximately 4,800 individuals), seemed the same.

"[I]nvestors do not understand the most elementary financial concepts, such as compound interest and inflation....[or] the differences between stocks and bonds, and are not fully aware of investment costs and the impact on investment returns." In another part of the report the list of information that eluded investors included "credit risk, liquidity, and inflation."

Aside from tripping over math, macro concepts, and legal language, the hapless retail investors didn't even fare well on reading their own trade confirmations or portfolio account descriptions with half of them failing comprehension questions regarding an account statement exhibit for stocks. When given an exhibit of a typical account statement for mutual funds, approximately 57.5% said they "somewhat" understood the information. The verbatim comments showed how confused many investors are about fees. One focus group member said,  "[A]nd then I found out there are management fees, which are deducted from the actual growth of the portfolio." Finding a balance between too little information and too much information is a challenge. As one focus group participant stated, "there’s a bit of a diminishing value because the more that is disclosed to us, we may be less likely to pay attention to it."

Bullet points, tables, and visuals seemed to be the preferred methods of imparting information in digestible bites. Online survey participants overwhelmingly, if perversely, preferred hard copies of investment materials.

To be fair, the study intends to highlight problems in order to provide solutions. Most solutions the study came up with centered around sending investors to websites. was one mentioned, others included the Investment Adviser Public Disclosure database, IAPD, and FINRA’s BrokerCheck. They can use these sites to research and verify the professional background of a financial intermediary.

Investors, however, were looking for something more one-stop. One said he'd like some kind of "SEC-sponsored website" where investors could look up brokers "like a doctor" and find answers to questions.

As to where they're currently getting their information, on a multiple choice question, 51.4% cited a financial advisor or broker as the primary source of information, 48.7% identified the Internet, 35.7% indicated friends and family, 26.6% relied on magazines and newspapers, and 24.6% said they got their information from a prospectus -- which seemed odd since over 50% of the respondents in one test said they found prospectuses difficult to read.
No positions in stocks mentioned.