The following article, written by Nauman Anees, the CEO & Co-founder of Thinkmarkets, was published on the Nasdaq.com website on March 8, 2021, in the Smart Investing website:
By Nauman Anees
There’s no question that the pandemic has accelerated the adoption of retail trading, to the point where new retail investors are entering the market in droves - many with no prior trading experience. While this is an exciting development for the industry in general, there are issues with how some platforms engage their users, some using methods that lack a foundation of education while also encouraging risky trading behaviors.
In order to accommodate this market shift, brokers have an obligation to proactively inform and educate new traders on the potential risks of retail trading. Here are a few ways brokers can uphold their responsibility to protect their clients:
Informed Risk-Taking and Limiting Risks to Income Levels
With the rapid development of automated risk-mitigation tools and smart education, market access for retail traders can be accommodated, in a timely manner, so they are well informed on the prospective risks they are facing. A rising number of cases of extraordinary losses on part of retail traders have circulated in the media over the past year, as many retail traders do not realize the risk they are taking with selling options “naked”, versus selling “covered” calls/puts - when the trader owns the underlining security
Another possible approach is to segment traders based on their income level and proven trading experience. With enough systematically defined tier levels that take your income into account, the risks that traders take on can be mitigated significantly.
A Tier-Based Approach
While the basic steps of investing consist of buying and selling, there are other derivative strategies which can help mitigate risk, but they are not as easy to grasp, such as options spreads, futures hedging, diversification and more. Which is why a tier-based approach to trading access is the best possible way to protect retail investors from excessive risks. Access to leverage, strategy complexity and risk profile should be preceded by sequential, level-based training videos, and perhaps even live trading sessions, that educate the trader and prepare them for the next level of trading.
Today, it is not technologically difficult to implement informative notifications within a trading platform that can provide adequate warnings, and guide traders to avoid enhanced risk levels. Naturally, with every trade, as the novice trader attempts to take their experience to the next level, smartly designed quizzes can open the door to the next tier with new instruments and trading conditions, all tailored to the abilities of the user behind the screen.
A well-thought-out tier-based system that segments traders based on their market knowledge, trading experience and risk-tolerance levels, in accordance with their income, could be a more prudent approach. Designed to protect retail traders from a scenario of harmful outcomes.
With access to the next tier being available after a certain amount of knowledge is acquired, this method will only help encourage and motivate traders to learn even more about the market. As brokers continue to engage their clients, they must also protect them with automated trading tools that flag higher risk scenarios for traders and inform them about prospective risks they might otherwise misjudge. Only then, will we see more positive outcomes for novice and intermediate investors.
Back to blog