2/2/21: The Disaster of Investing via Smartphones?

Some stuff I've been reading that (sometimes) falls into current newsflow: 

Kalda, Ankit and Loos, Benjamin and Previtero, Alessandro and Hackethal, Andreas paper, titled "Smart(Phone) Investing? A within Investor-Time Analysis of New Technologies and Trading Behavior"from January 2021 (NBER Working Paper No. w28363, https://ssrn.com/abstract=3772602) :

The authors tackle an interesting issue relating to the automated and low cost investing platforms (proliferating in this age of fintech). Per authors (emphasis is mine, throughout): "Technology has dramatically changed how retail investors trade, from placing orders using direct dial-up connections in the 1980s or Internet-based trading in the 1990s to the more recent rise of robo-advisers. With few exceptions, the introduction of these new technologies is generally associated with a decline in investor portfolio efficiency." In addition, "whether good or bad for investors, it is accepted that new technologies influence investor behavior". 

In this unique study, the authors used data that comes "from two large German retail banks that have introduced trading applications for mobile devices. For over 15,000 bank clients that have used these mobile apps in the years 2010-2017, we can observe all holdings and transactions, and, more important, the specific platform used for each trade (e.g., personal computer vs. smartphone). [As the result of having such a granular data over time] we can conduct all our main tests comparing trades done by the same investor in the same month across different platforms."

The authors present four sets of results:

1. "First, we study if the use of smartphones induces differences in the riskiness of trades. Comparing trades by the same investor in the same year-month, we find that the probability of purchasing risky assets increases in smartphone trades compared to non-smartphone ones. 
• "smartphone trades involve assets with higher volatility and more positive skewness. [Thus], smartphones increase the probability of buying lottery-type stocks by 67% of the unconditional mean for smartphone users."
2. "Second, we examine the effects of smartphones on the tendency to chase past returns. We find that smartphones increase the probability of buying assets in the top decile of the past performance distribution. Smartphones increase the probability of buying assets in the top 10 percent of past performance by 12.0 percentage points (or 70.6% of the unconditional mean)." In other words, smartphones trades involve severe and pervasive biases in investor decision making.
3. "Third, we investigate if investors selectively use smartphone to execute their risky, lottery-type, and trend-chasing trades. In this scenario, investors could simply substitute their trades from one device to another, without any real consequences for their overall portfolio efficiency. ....We find that, following the launch of smartphone apps, investors are—if anything—more likely to purchase risky and lottery-type assets and to chase hot investments also on non-smartphone platforms. ...this evidence potentially suggests that investors are learning to become overall more biased after their initial use of smartphones to trade."
4. "...smartphone effects are stronger during after-hours (i.e. following exchange closure). Institutional differences between trading on official exchanges and in after-hours markets do not drive this heterogeneity. Given that individuals are more likely to rely on the more intuitive system [System 1-type] later in the day (Kahneman,2011), stronger effects during after-hours are consistent with smartphones facilitating trades based more on [intuitive] system thinking."

As an interesting aside, it is worth noting that the above results have nothing to do with the demographic biases or the potential lack of trading experience by smartphone-using investors. As noted by the authors: "German investors that adopt smartphone trading are, on average, 45 years old with nine years of experience investing with the banks."

Another aside is that authors also tested if the adverse effects of smartphones-based trading can be attributed to the first / early usage of these devices. It turns out not: "The effects of smartphones are stable from the first quarter of usage up to quarter nine or afterwards. The effects on volatility and skewness of trades, and probability of purchasing past winners are also stable over time."

To conclude: "Collectively, our evidence suggests that investors make more intuitive (system 1-type) decisions while using smartphones. This tendency leads to increased risk-taking, gambling-like activity, and more trend chasing. Previous studies have linked these trading behaviors to lower portfolio efficiency and performance. Therefore, the convenience of smartphone trading might come at a cost for many retail investors."

Ouch! Then again, this is fitting well with what we are observing happening in the markets these days: amplified herding, trend chasing, lottery-like speculative swings in investment capital flows, recency effects of overbidding for previously outperforming stocks and so on.