Obfuscation, Learning, and the Evolution of Investor Sophistication

We develop a dynamic model to study the interaction between obfuscation and investor sophistication in retail financial markets. Taking into account different learning mechanisms within the investor population, we characterize the optimal timing of obfuscation for a profitmaximizing monopolist. We show that educational initiatives that are directed to facilitate learning by investors may induce producers to increase wasteful obfuscation, further disorienting investors and decreasing overall welfare. Obfuscation decreases with competition among firms, but increases with higher investor participation in the market. We would like to thank Nittai Bergman, Tony Bernardo, Michael Brennan, Bhagwan Chowdry, Darrell Duffie, Xavier Gabaix, Rick Green, Mark Grinblatt, Joel Hasbrouk, Leonid Kogan, David Laibson, Francis Longstaff, Holger Mueller, Dick Roll, Andrei Shleifer, Eduardo Schwartz, Avanihdar Subrahmanyam, PierreOlivier Weill, and seminar participants at NYU, MIT, UCLA, and the annual Netspar Pension Management Conference at Tilburg University. Anderson School of Management, University of California, Los Angeles, 110 Westwood Plaza Suite C519, Los Angeles, CA 90995, [email protected], (310) 825-7246. MIT Sloan School of Management, 50 Memorial Drive E52-446, Cambridge, MA 02142-1347, [email protected], (617) 253-7218.