José S. Penalva, University Carlos III

"Information in Judicial Decisions on Financial Advice”


Both before and after the financial crisis, the marketing and sale of financial products  has given rise to serious concerns about the mis-selling of certain financial investments to customers. In many cases, this has led to important numbers of lawsuits filed against firms providing the investment services. In the paper we provide a simple agency model of financial advice - broadly understood - where potential clients receive a signal about the matching of the product with the investor's preferences, and at the same time receive advice about which product to buy. Even good financial products may generate losses, and this will lead to litigation by aggrieved investors. Courts do not directly observe the honesty and fairness of the advice, but only an evidentiary signal. We explore the optimal court policy in order to provide incentives to advisors to procure honest financial advice, and show how it depends on the accuracy of the market signal that investors receive, which in turn depends on the sophistication of the client and the overall amount and quality of information on financial products that advisors provide outside specific (implicit or explicit) advice. The analysis sheds lights on the structure of legal duties for investment services firm under the MiFID II scheme that has entered into force in Europe in January 2018.