Firms with more retail investors face less SEC monitoring, more enforcement

Some retail investors – individuals who buy stock, often through online brokers – may be getting less monitoring protection from the Securities and Exchange Commission compared to large, institutional investors, according to new research from the University of Minnesota.

Carlson School of Management Associate Professor Michael Iselin is one of the authors of a new paper published in the Review of Accounting Studies. His research found firms with high-retail ownership are associated with less monitoring by the SEC, but more enforcement. This suggests retail investors may be more vulnerable to unresolved financial reporting issues.

“This gap is likely unintentional and rather a byproduct of the fact the SEC has limited resources to distribute across a variety of priorities,” said Iselin. “However, the findings are unexpected because of the SEC’s mission to protect individual investors, who are often at an informational disadvantage compared to large institutions.”

For the study, the researchers defined retail ownership as shares owned by individual accounts. To capture this, the authors measured the percentage of a company’s shares that aren’t owned by institutions or insiders. The researchers tracked how often the SEC’s Division of Corporation Finance accessed companies’ disclosure filings, initiated periodic filing reviews, and sent comment letters to firms. They determined that increasing retail ownership by about 15% decreases the likelihood of SEC monitoring by 2% - 10%. 

In addition, the researchers examined firms that file restated financial statements because of an error, fraud or omission in their initial filing. For these firms, the authors investigated the likelihood a company faced action from the SEC’s Division of Enforcement through an investigation and/or receiving an Accounting and Auditing Enforcement Release. The research suggests that increasing retail ownership by about 15% increases the likelihood of SEC enforcement by 10% - 20% for these firms. 

“We’re seeing less attention paid to firms with high-retail ownership earlier in the process when problems could be fixed,” said Iselin. “Instead, the issue reaches a point where punitive action is required and potential harm could come to investors. These findings could help the SEC reevaluate its resource management to increase protections for individual investors.”

The paper’s co-authors include Assistant Professor Bret Johnson of George Mason University, Assistant Professor Jacob Ott of the London School of Economics, and Assistant Professor Jacob Raleigh of Monash University. Ott and Raleigh both earned their doctorates at the Carlson School of Management.