Using our inherent biases and behaviors to our advantage has revolutionized investing and reduced the emotional destruction too often reaped on a portfolio. It’s so effective that its leading proponent, behavioral economist Richard Thaler, received the Nobel Prize for his work in the discipline.
Adding technology to the equation has further helped, yet SEC Chairman Gary Gensler appeared to throw cold water on so-called “digital nudges” Tuesday in a speech during The Practising Law Institute’s SEC Speaks in 2021 series. While he used the term broadly to include digital platforms and robo advisors, Gensler addressed investment advice specifically.
Initially praising technology’s role in advancing investing for the public, his tone and focus quickly shifted to conflicts-of-interests at the heart of the fiduciary debate.
“Regarding other modern digital platforms—from news outlets to social media sites—there have been debates about whether these companies optimize for our welfare or a combination of factors that includes their revenues,” Gensler noted.
Explicitly referring to digital engagement practices (DEPs), or the bells and whistles attached to a website to optimize the user experience, “When do these design elements and psychological nudges cross the line and become recommendations?” he rhetorically asked. “The answer to that question is important because that might change the nature of the platform’s obligations under the securities laws.”
Further, Gensler added that even if certain practices might not meet the current definition of an investment recommendation, “I believe they raise a question as to whether there are some appropriate investor protection guardrails to consider, beyond simply the application of anti-fraud rules.”
In August, the commission published a request for public comment on the use of new and emerging technologies by financial industry firms. The comment period just closed.
Benartzi’s digital defense
Behavioral “nudges” are the theory that subtle and indirect suggestions can positively influence investor—and by extension 401k participant—outcomes (and is also the title of Thaler’s bestselling 2009 book).
“Digital nudging is anything from how you design a website, app or text message,” Dr. Shlomo Benartzi, who developed the popular Save More Tomorrow program with Thaler, explained. “It might be the content, the timing, or the visuals. It might be the technology you employ when sending a 401k statement. It could be a personalized, 60-second video rather than a 40-page document.”
It combines “all of the aspects of the digital world together with a bit of psychology.”
Unsure of what to say about Gensler’s remarks, Benartzi said he understands the concern that digital practices could be harmful, using Robinhood’s controversial “confetti throwing” after a trade (recently discontinued) which was criticized for gamifying investing.
“I think that’s maybe a bit over the top,” he argued. “On the other extreme, if you think about Fidelity/Voya/Vanguard picking the color of the opt-out button in the 401(k) plan. If they didn’t pick a color, no one would opt-out. Would the SEC be happy with that? No. You should be able to opt-out. If you believe saving and investing is good for people and the economy, maybe the opt-out button should be red, but we know from research that the color red causes people not to act.”
He added that discounting behavioral-based digital interfaces wouldn’t solve the problem, and the framing, copy, choice, and information architecture of the fund’s underlying risk would still be important.
“If we still had a paper form, would the problem go away? You won’t have confetti falling from the sky, but you still must decide on the type and size of the font, and we know even that makes a difference. To me, I’m not sure what to make of [his remarks]. I don’t find it very helpful or constructive without details.”
Gensler remained adamant in his remarks.
“I understand that these tools have opened up the capital markets to a whole new group of people. Digital platforms—from the internet to mobile phones to apps—have streamlined user interfaces, enhanced the user experience, and brought greater retail participation into our markets,” he concluded. “That, in and of itself, brings a lot of good. But the application of digital analytics raises new questions about conflicts of interest that I think we ought to consider as well.”