Democratic institutions depend on public confidence to function effectively. Citizens comply with tax laws when they trust the IRS, cooperate with police when they view law enforcement as legitimate, and engage constructively with regulators they perceive as fair and effective. But does this principle extend to financial markets? When retail investors lose confidence in the SEC, do they pull back from trading? When they view the regulator favorably, do they engage more actively? Despite the SEC’s stated mission of protecting investors and maintaining fair, orderly, and efficient markets, we know surprisingly little about whether public perception of the agency actually matters for investor behavior.

Our research asks a fundamental question: Does the public’s perception of the SEC influence their engagement with U.S. financial markets? The answer, we find, is yes.

Why This Matters

The SEC’s mission depends on public confidence. As a Freedom of Information Act request revealed, the SEC’s Office of Public Affairs monitors social media sentiment, expressing concern that negative posts could “disrupt the SEC’s regulatory agenda and effect the public’s perception of the Commission.”

This monitoring isn’t paranoia – it’s pragmatism. If retail investors lose confidence in the SEC’s effectiveness, they may disengage from markets or become skeptical of the disclosures the SEC works to ensure are accurate. Yet despite the SEC’s clear concern about its public image, we know surprisingly little about whether – and how – public perception actually affects investor behavior.

Measuring the Unmeasurable

The challenge in studying SEC perception is measurement. Unlike consumer confidence or investor sentiment, no established index tracks what the public thinks about its financial regulator. We addressed this by developing a novel measure using over 645,000 tweets that explicitly mentioned the SEC’s official Twitter (now X) account between 2012 and 2021.

The key insight is that when someone tags @SECGov in a tweet, it is clear who they’re talking about. We used sentiment analysis (specifically, the VADER algorithm designed for social media text) to quantify whether each tweet expressed positive, negative, or neutral sentiment toward the SEC. We then aggregated these individual sentiments into a daily measure of public perception.

We document some interesting variation. While it holds neutral views of the SEC about 58 percent of the time, the public maintains positive perceptions 29 percent of the time and negative perceptions 13 percent of the time. Moreover, perception shifts dramatically around major events: enforcement actions, regulatory changes, leadership transitions, and even broader crises like the COVID-19 pandemic.

The Impact on Investor Behavior

Using this measure, we examined over 8.7 million firm-trading days to test whether perception of the SEC influences retail-investor trading. We find that when public perception of the SEC improves, retail trading increases; when it deteriorates, trading declines.

The magnitude is economically meaningful. Compared with periods of neutral perception, retail trading volume is 3.6 percent higher during positive perception periods and 3.4 percent lower during negative periods. For context, retail investors account for roughly 20-30 percent of U.S. equity market volume – a substantial force in market liquidity and price discovery.

The effects are strongest where we’d expect them to be: among small firms and companies with low institutional ownership – precisely where SEC oversight is most important for investor protection. When multiple social media users agree in their perception (showing low disagreement in sentiment), the effects are even more pronounced.

Information Processing and Market Engagement

Perhaps most intriguingly, SEC perception affects not just how much retail investors trade, but how they trade. We examined retail investor behavior around earnings announcements – one of the most important information events in capital markets. Since the SEC regulates and monitors earnings disclosures, investor perception of SEC effectiveness could influence whether they trust and act on this information.

The results support this intuition. During periods of positive SEC perception, retail investors rely more heavily on earnings information in their trading decisions. They’re more likely to buy stocks with positive earnings surprises and sell those with negative surprises. In other words, when the SEC is perceived favorably, retail investors appear to have greater confidence in the credibility of SEC-regulated disclosures.

Implications for the SEC

These findings carry important implications for the SEC and securities regulation broadly:

First, perception management matters. The SEC already monitors its social media presence, but our results suggest this monitoring is justified. Public perception isn’t just about public relations – it has measurable effects on market engagement and the effectiveness of disclosure regulation.

Second, communication strategy is crucial. Major SEC actions – from enforcement cases to rule changes – don’t just affect their immediate targets. They shape broader public perception, which in turn influences how millions of retail investors engage with markets and process information. This creates a feedback loop the SEC must navigate carefully.

Third, the effects are heterogeneous. Because perception effects are strongest for small firms and those with low institutional ownership, shifts in SEC perception may have distributional consequences, potentially affecting capital allocation to smaller companies that depend more on retail investor participation.

Fourth, external events matter. We observe that perception shifts during events like the COVID-19 pandemic, even when those events aren’t directly attributable to SEC actions. This suggests the SEC’s perceived effectiveness is influenced by broader economic and social conditions – a challenge for maintaining stable investor confidence during turbulent times.

Looking Forward

Our research opens several avenues for future inquiry. What specific SEC actions most effectively build or erode public confidence? How does perception vary across different investor demographics? Can the SEC use its communication methods – speeches, educational initiatives, social media – to shape perception in ways that support its mission?

More fundamentally, our findings suggest that in an era of social media and instantaneous information dissemination, regulatory effectiveness depends not just on the substance of regulation but on public perception of that regulation. For an agency whose mission depends on investor confidence, understanding and responding to public perception may be as important as the enforcement actions and rulemaking that generate it.

The SEC’s concern about social media sentiment, revealed through FOIA requests, turns out to be well-founded. Public perception matters – for trading volume, for information processing, and ultimately for the SEC’s ability to maintain fair and efficient markets. In the attention economy, perception isn’t just reality; it’s a force that shapes market outcomes.

This post comes to us from professors Austin Moss at the University of Colorado at Boulder’s Leeds School of Business and Jackie Wegner at the University of Southern California’s Marshall School of Business. It is based on their recent article, “Perception Matters: The Public’s Perception of the SEC and Engagement in Financial Markets,” available here.