Human behavioural science is coming under close scrutiny for its use by securities market regulators worldwide.  These authorities are seeking ways to protect retail consumers from adverse investment experiences and influence them to make optimal investing choices.  To sum up the position to date, the International Organisation of Securities Commissions (IOSCO) released its comprehensive final report entitled “The Application of Behavioural Insights to Retail Investor Protection” in April 2019.  In the report it is noted that the European Commission (EC) in 2016 and the Organisation for Economic Cooperation and Development (OECD) in 2017 had released reports variously concerned with the application of behavioural insights to public policy, behavioural economics, and financial consumer protection.  The IOSCO report lists significant amounts of research work recently done by a number of securities commissions in these areas.

As a broad statement of IOSCO’s perspective on behavioural insights, the report commences by stating:

“Understanding and applying behavioural insights can improve the effectiveness of retail investor protection. They provide additional tools regulators can use to, among other things, identify, analyse, communicate to the public about, and select appropriate responses to, problems and harms investors face. Behavioural insights can also aid in the design of programmes and initiatives that reflect a more complete understanding of how investors make decisions.

“At the same time, however, understanding and predicting the likely effects of interventions designed in light of behavioural insights can be difficult. Interventions motivated by good intentions may nonetheless have perverse effects. In addition, the effectiveness of particular interventions may rely in large part on the context in which that intervention occurs, such that an intervention that produces a particular set of results in one jurisdiction may not necessarily produce the same results in another.”

Areas for Investor Behaviour Research

The IOSCO report identifies three key “topic areas” for which behavioural insights are assumed to be useful, namely:

1. Disclosure design – “How can we apply behavioural insights to the presentation of disclosures to optimise retail investors’ absorption of essential information and resulting behaviour…?”
2. Online interfaces – “What design features, such as layout, reminders, and warnings, can online interfaces incorporate to help investors make informed investment decisions?” 
3. Timeliness of information – “When are retail investors most receptive to relevant disclosure or educational content …?”

In order to research behavioural insights for developing retail investor protection strategies, the IOSCO report recommends using a couple of “frameworks”.  “These frameworks can serve as helpful aids for generating ideas as to possible reasons for a particular pattern of behaviour, as well as options for behaviourally-informed interventions that could affect this behaviour, the report states.  It continues, “These frameworks may also be helpful in identifying potential limits or roadblocks to changing investor behaviour through interventions that focus on disclosure….”  It is evident that intervention is presupposed as the object of the exercise and thus that practical knowledge is sought.

One framework is called MINDSPACE, an acronym for messenger, incentives, norms, defaults, salience, priming, affect, commitments and ego.  It is suggested to use this approach to “describe common influences on individual behaviour”.  The other framework is named EAST, an acronym for making things easy, attractive, social, and timely.  The second framework is intended to discover “possible tactics for influencing behaviour”.  Securities commissions could apply MINDSPACE to researching retail investor motivations to generate ideas that could then be tested on investor groups via EAST to help develop and implement effective consumer protection policies and practices.  Indeed, that is what the IOSCO report documents in respect of what is theoretically possible at a high level and practically completed on the ground thus far by securities commissions.

A number of insights are provided in the IOSCO report, summarised under five headings:

1. Look at the role a particular disclosure plays in the investor’s experience
2. Shorter does not always mean simpler or better
3. One-size-fits-all solutions may prove difficult (perhaps impossible) to find
4. Expect the unexpected
5. Experimental results may not always translate in the real world

A New Zealand Experiment

Consistent with the broader working programme outlined in the IOSCO report, in New Zealand the Financial Markets Authority (FMA) has published quite a lot of literature on applied behavioural insights, much to do with KiwiSaver, since 2016.  The FMA’s most recent work in this area was published in February 2019 as a research paper titled, “Using behavioural insights to improve KiwiSaver outcomes”.  The paper records the results of the second trial in a series that the FMA is conducting to test behavioural insights as a means to influence KiwiSaver investor decisions.  The trial was run in association with KiwiSaver provider ANZ Wealth.  The work completed sits within a wider policy objective as described by the FMA:

“The New Zealand Government has a high-level policy intent to encourage long-term savings in order to increase wellbeing and financial independence. To contribute toward this we are running a series of trials to test whether insights from behavioural economics can improve decision-making and outcomes for KiwiSaver members.”

The experiment was based on the EAST framework and took place in two phases, the first across June to October 2017, and the second during January to July 2018.  It involved ANZ Wealth writing out to investors who had just turned 56 and were using the Lifetimes option of the ANZ KiwiSaver Scheme. Upon reaching that birthday, scheme members are standardly notified in writing that their investment has automatically been switched to a lower-risk fund, thus being informed of a past event. 

The FMA and ANZ Wealth were concerned to find out whether modifying the standard letter along EAST lines would cause the Lifetimes investors to act differently in making them more likely to:

1. Take up an offer of financial advice
2. Make an active choice about which fund they are in
3. Increase their contributions

The FMA’s report shows that there were certain observed, quantifiable changes in investor behaviour as a consequence of modifying the letter and in some cases following up with an email or telephone call, although the number of people who exhibited the behaviours that the experiment sought to elicit was a suprisingly small segment out of the total sample size.  Nonetheless, the experiment was hailed as a success.  The FMA stated, “We would like to see other KiwiSaver scheme providers using similar methods to improve engagement with their members.”

A Global Trend to Greater Scientific Input to Regulation

Use of behavioural science and insights generated therefrom by securities commissions to influence retail investor behaviour has become an important and evolving strand of contemporary financial market regulation.  IOSCO’s final report demonstrates that such work, conducted in service of predetermined government goals, is part of a worldwide trend for greater official, scientifically-based intervention in retail investor motivation and decision making. In New Zealand the FMA has an established track record of working in this area in line with government policy around KiwiSaver.  Fund managers may expect to be asked more often to conform with the direction and results of behavioural insights garnered by the regulators they are accountable to. 

“Human behavioural science represents the new and widening frontier of financial market oversight and regulation,” said Shahazad Contractor, Head of Client Supervision of Corporate Trustee Services at Trustees Executors.  “The trend is embedded now for regulators to use applied science to influence retail investors to act in ways officially deemed desirable.  It is too soon to tell how effective and successful much of this work will be, as the IOSCO report itself concedes that results can vary unexpectedly and what works in one country might fail in another.  As a licensed supervisor bound by law to act in the best interests of investors, Trustees Executors takes close interest in reports of experiments such as the FMA has been encouraging with a view to discovering and refining best practise for fund managers,” he said.