Commentary: What does the gamification of retail investing mean for institutional investors?

In the internet age, network effects — where an increased number of users can enhance interest in a product — are driving a new wave of structural shifts across markets, the economy and society at large. From the power of viral marketing to the spread of fake news, network effects influence our interactions with one another in ways that could only be imagined just a few years ago.

Earlier this year we saw how such effects can also influence investment markets as retail investors piled into the GameStop Corp. short squeeze — a shift that has potentially profound implications for market volatility, financial stability and investor behavior over the long term.

In many ways, the GameStop episode was just a concentrated example of how things change when new players enter the market and disrupt the status quo. There are large-scale examples, too. As sovereign bond yields rise, a central bank intervening with yield-curve control to flatten its risk-free curve could also be thought of as similarly disruptive in terms of network effects.

Whether the disruption is incidental (GameStop) or premeditated (central banks), both set conditions that are likely to have permanent effects upon the investment landscape, delivering critical learnings for investors today — principally, that investors cannot assume that all market participants share their objectives or play the game according to traditional rules.

By extension, long-term investors will increasingly find it more difficult to invest solely upon the basis of fundamentals. Money creation, credit conditions and trends derived from asset-class flows all have a part to play. Investors will need to know who else is in the game and what particular rules they are playing by. The underlying motivations of an increasingly diverse range of market participants and how their actions might influence market conditions will become increasingly important subjects for analysis.

By way of example, going forward, investors may be increasingly wary of opening short positions in small caps when the trade is already crowded, which may well drive a permanent adjustment of behavior by hedge funds, which will set position-size limits in relation to shorting smaller companies. Fundamentally, investors of all types must remain nimble and dynamic — agile enough to respond to evolving scenarios, yet equipped with a toolkit broad enough to respond in all conditions.

While there may well be knock-on implications for regulation, there has been no meaningful systemic impact from gamification of retail trading. The market infrastructure worked efficiently; collateral calls were executed; there have not been consequences for clearing houses; and counterparty risk has not arisen. As a result, no tightening of institutional regulation is warranted — even if we observed funds poorly manage their risk positions. However, we should expect some regulatory changes on the retail side.

There is likely to be more public good from regulations aimed at protecting consumers. Any shift in regulation should be aimed at enhancing consumer protections and curbing retail participants' ability to act irresponsibly, rather than adjusting market architecture to limit access to free markets.

Of course, shifts in the dynamics underpinning young people's views on markets and, by extension, their investment decisions, have potentially major implications for defined contribution plans. The gamification of retail investing could shape the views of young investors, which in turn could impact how much they choose to save and invest — both in their retirement plans and elsewhere. But it is also undoubtedly driving short-termism into investment approaches.

Today, message boards abound where stock pickers pitch their recommendations, triumph their successes (a casual disregard for losses isn't unusual either), curate follower lists and generally engage in behavior that makes the world of investing seem like a fantasy sports league.

Many new players are focused on investing as though it were a participation sport rather than an objective-based activity — and the DC industry must be alert to the potential knock-on impacts for participation in DC plans. If young people make short-term profits through gamified retail investing, they could be more likely to invest their spare income using retail platforms, rather than saving it through their retirement plans. There is also a risk that any young investors who experience losses through gamified investing could become skeptical of all forms of investment.

While retail brokers have been reporting huge numbers of new investors signing up, data from the U.K.'s Office of National Statistics that employee contributions to private-sector DC plans have only bounced back to levels seen pre-pandemic.

DC plans and policymakers may wish to consider how to encourage young people to save in their retirement plans, rather than through retail brokers and platforms, perhaps using increased gamification to reinforce the need for patience and long-termism in investing.

Nigel Sillis is a client portfolio manager at risk and investment management firm Cardano Group in London. This content represents the views of the author. It was submitted and edited under Pensions & Investments guidelines but is not a product of P&I's editorial team.