Government Study Finds Many Lack Basic Financial Literacy

American consumers want to know what's involved in potential investments before they invest their money. That may seem like simple common sense, but it's the opposite of what happens with many financial products, about which crucial details are disclosed only after investors buy them, according to a new study by the Securities and Exchange Commission.

Getting such basic information to investors is critically important, the commission said, since most American investors "lack basic financial literacy... and lack critical knowledge of ways to avoid investment fraud."

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The study of financial literacy among retail investors was required by the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act. The study arose from the fact that during the mortgage boom, many banks sold or financed predatory subprime mortgages to homebuyers, often using inadequate or misleading descriptions of the loan terms. Banks also led investors into buying mortgage-backed securities, even as other divisions of the same banks made money by betting that those same investments would fail.

Now, investors want more information upfront about what they're buying, the SEC found. An overwhelming majority, 88.4 percent, want such information disclosed before they even pick a financial adviser, the study found.

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Information about fees, the investment manager's track record, any history of legal or disciplinary action, and risks to the principal should be disclosed upfront, survey responders said. Investors also want to know more about managers' conflicts of interest, and how such conflicts will be handled.

Three-quarters of those surveyed said that upfront information about their advisers' fees is "absolutely essential," and 67 percent also considered their advisers' disciplinary history essential. Respondents generally favored different types of "layered" disclosures, in which important information was given first in simplified form, with additional, in-depth disclosures available on request.

Image: 401(K) 2012, via Flickr