FINRA Study Finds Advanced Investment Knowledge Does Not Eliminate Fraud Risk
From the desk of Jim Eccleston at Eccleston Law
Research using the FINRA Investor Education Foundation's 2024 National Financial Capability Study found that fewer than one in five investors with non-retirement investments demonstrate advanced investment literacy.
The analysis used responses from 2,861 investors who owned investments outside employer-sponsored retirement plans. Researchers focused on those who held investments such as individual stocks, bonds or mutual funds outside a workplace retirement plan.
Researchers classified investors into three groups based on their answers to investment knowledge questions: low, basic-only and advanced investment literacy.
Most investors understood foundational concepts, FINRA reports. Eighty-four percent correctly answered at least three of five basic investment literacy questions relating to stocks, bonds, interest and inflation.
However, performance dropped significantly on advanced questions. Only 18 percent of investors correctly answered at least five of eight advanced questions, many of which focused on risk.
FINRA reports that the questions that distinguished advanced investment literacy examined how diversification affects portfolio volatility, how leverage increases gains and losses, how bond prices respond to changing interest rates, how options depend on the price of an underlying security, and which claims receive priority when a company enters bankruptcy.
Based on the results, researchers classified 16 percent of investors as having low investment literacy, 66 percent as having basic-only investment literacy and 18percent as having advanced investment literacy.
The study also identified a notable pattern involving investment fraud.
According to FINRA, an investor's willingness to invest in an opportunity displaying characteristics of investment fraud did not consistently decline as investment literacy increased. Investors with advanced literacy showed the least willingness to invest, but investors with basic-only literacy were more likely than investors with low literacy to say they would invest in the opportunity.
The researchers concluded that this finding suggests that confidence and an investor's identity as an investor can outpace actual knowledge of risk.
Additionally, investment literacy varied across demographic groups. Investors with low investment literacy were disproportionately younger, had lower incomes and less education, and were more likely to be women or identify as Black or Hispanic. Investors with advanced investment literacy tended to be older, have more education and possess substantially more investing experience.
Among investors with advanced literacy, 78 percent had invested for more than 10 years, compared with 31percentof investors with low investment literacy.
Finally, the study recommends teaching fraud recognition as a separate subject. Researchers said educational programs should explicitly address common warning signs, including guaranteed returns and manufactured urgency, rather than assuming investors will develop fraud-recognition skills through general financial or risk education.
Eccleston Law LLC represents investors and financial advisors nationwide in securities, employment, transition, regulatory, and disciplinary matters.
Tags: eccleston, eccleston law, finra, investment fraud, financial literacy, investor protection, securities law
