Reasonable Investor(s)

Abstract

Much of financial regulation is built on a convenient fiction. In regulation, all investors are identically reasonable investors. In reality, they are distinctly diverse investors. This fundamental discord has resulted in a modern financial marketplace of mismatched regulations and misplaced expectations — a precarious marketplace that has frustrated investors, regulators, and policymakers.

This Article examines this fundamental discord in financial regulation and offers a better framework for thinking anew about investors and investor protection. This Article presents an original typology of heterogeneous investors that exposes the common regulatory fallacy of homogeneous investors. It explains that the simple paradigm of perfectly reasonable investors, while profoundly seductive, is an inadequate foundation for designing investor protection policies in a complex, contemporary marketplace. It demonstrates how this critical divergence has harmed investors and regulators in the modern, high-tech marketplace. To begin addressing such harms, this Article advocates for a novel algorithmic investor typology as an important step towards better reconciling financial regulation with financial reality. Specifically, it illustrates how core concepts of financial regulation like regulatory design, disclosure, and materiality can pragmatically improve as a result of the new typology. This Article ultimately argues that in order to better protect all investors, financial regulation must shift from an elegantly false, singular view of reasonable investors towards a more honest, pluralistic view of diverse investors — from protecting one type of reasonable investors to protecting all types of reasonable investors.

Keywords: investors, investor protection, securities regulation, financial regulation, financial technology, algorithmic trading, high-frequency trading, systemic risk, artificial intelligence, disclosure, materiality