The UK’s risk aversion culture is holding back investment

The UK perception of investment risk is holding back a wave of capital into equities as Brits continue to view the stock market as a casino and squirrel their savings away in the safety of cash.

The UK investment sector has become plagued by the widespread, standardised use of risk warnings, which instead of telling investors to have caution when entering the stock market has ultimately turned people away from investing altogether.

Lucy Rigby, economic secretary to the Treasury, said: “For many households, cash savings play an important role in preparing for a rainy day.

“But for long-term goals, investing can offer a powerful way for people to make their money work harder… We know that too many people have been deterred from investing by generic risk warnings that unduly warn people off from investing rather than giving them the balanced information they need to make an informed decision. 

“This is a concrete example of where a culture of too much risk aversion is harming household finances, and it must change.”

According to the Risk Warnings Review, a study commissioned by the Chancellor as part of the Leeds Reforms, consumers’ perception of risk has created a significant barrier to investing, with the current state of warnings making it worse.

In particular, the well-known phrase ‘your capital is risk’, was found to be poorly understood despite Brits having become so conditioned to the phrase in adverts, and is usually interpreted as implying a high probability of loss rather than a statement linked to market volatility.

Research found that reading the phrase spooked people out of investing, while it made others feel that mainstream investment products were closer in nature to high-risk or speculative products.

Different communications

But research carried out by financial research firm the Wisdom Council found using consumer-centred language which avoided jargon was more likely to entice savers to invest.

The use of phrases such as ‘your money’ over ‘capital’ gave investors realistic expectations for their cash and highlighted the balance of risk and reward.

Meanwhile, comparisons of investments in regards to the returns to cash savings, also highlighted to Brits how investing can grow money over a set period.

Chris Cummings, chair of the review and chief executive of the Investment Association, said:  “For too long, well-intentioned rules and industry caution have resulted in warnings that overwhelm rather than inform, discouraging people from taking the long‑term decisions that could strengthen their financial resilience.”

Claire McAlees, senior financial promotions compliance manager at Hargreaves Lansdown, said: “Standardised, loss-focused warnings are too often misunderstood, ignored, or even deter long-term investing, whereas clearer, more contextual explanations are more likely to be understood and trusted.

“The guidance helps firms move away from formulaic wording and towards more meaningful communication.”

Financial firms frustrations

But the issue with risk was not only pinned on consumers, with financial firms also expressing frustration over the state of risk framework in the UK investment industry.

Companies stated they lacked confidence in how far they are allowed to go in encouraging risk without exposing themselves to regulatory or legal risk.

The uncertainty was not only shaped by written rules but also from wider informal feedback and concerns, leading them to shrink back to default patterns which are known to be suboptimal for investors.

The lack of understanding from both the industry and investors, emphasises the broad issue with risk within the UK.

The investment industry words follow the interim executive director of markets at the Financial Conduct Authority, Simon Walls, arguing that despite the watchdog trimming regulatory red tape, the industry is still in a “codependent relationship” with the regulator.

Speaking in an interview with City AM, he said: “It’s a bit like a codependent relationship basically, where they have come to expect, but ask for and want the regulator to make the decisions.

 “We’ve got to break this cycle, if you want a more buccaneering market, then stop asking us to prescribe things… We need to step away from this.”

Review recommendations

The review urged firms to not wait for regulatory change and instead use already available guidance to interpret the rules in a way which is both in line with Consumer Duty and beneficial for consumers.

But it also recommended a need for regulatory change, including a revisiting of COBS rules and a reform of standalone compliance to allow firms to make appropriate communications with investors.

It called for risk information to be balanced, free of exaggerating language which could cause a loss of confidence, as well as the use of clear, accessible language to allow clarity for all investors, not just seasoned ones.

The review also noted the need for credible risk communications over placing generic warnings at the wrong stages of investment journeys which could discourage investors who are yet to understand the basics.

Sarah Pritchard, Deputy Chief Executive of the FCA, said: “We want to see a stronger investment culture in the UK, so consumers are better supported in navigating their financial lives. 

“Consumer confidence underpins a strong investment culture and confidence comes from clear, balanced information about the potential rewards and risks.”