What does one think, the basis one acts, and what happens?
Law of Unintended Consequences
Sometime in the 18th Century, during the British rule in India, Delhi was infested with cobras. To solve this problem, they launched a scheme whereby the person bringing dead snake skin was paid a handsome reward. The plan worked and many people made money by bringing dead snake skins.
Six months later, neither did the snake population reduce nor did the people bringing dead snake skin come down. An Indian working for the British realised that people in Delhi and neighbouring areas had started the business of breeding snakes to collect the reward. The Britishers immediately abolished the scheme. The frustrated & angry people of Delhi who didn’t know what to do with the snakes, released them (a larger population of snakes) in the lanes of the city.
This incident led to the introduction of the concept of ‘The Cobra Effect’, in modern behavioural science, also known as the law of unintended consequence. In other words, a phenomenon in which action leads to results that are (1) not part of the actor’s purpose and/or (2) achieve the opposite of what was intended and with extreme impact. This is true for humans, organisations, institutions, governments, or countries.
Cobra Effect & Financial Services
In Financial Services, brokers, intermediaries, and distributors are incentivised by brokerage or commissions for the revenues they generate.
The narrative has been set, perception has been created, and information is produced so that most clients believe that constant churning & trading of stocks within one’s portfolio can yield good returns.
The irony is that neither the client nor the broker knows in which direction the market will head next minute or the next day; both tend to pretend that their predictions will come true.
Forces beyond one’s imagination determine a free market, impossible to predict the direction. Despite this, the broker keeps enticing clients with short-term calls, as the broker’s payout is linked to the generated brokerage. The broker makes money on every trade, irrespective of whether the client makes or loses money.
The broking intermediary (institution) hires fresh graduates, postgraduates, or low-cost individuals with higher variable pay linked with commission generation. These young minds continuously rotate clients’ money.
In the process, the client loses money or makes insignificant returns. The client exits the firm entirely and ensures that in a formal or informal gathering or through word of mouth, one spells one’s angst, thereby creating bad publicity for the firm.
It’s known that it takes anything from 5X to 25X cost depending on the industry, to get a new client rather than service existing clients (to generate revenues) or deepen the relationship and increase the wallet share.
Broking firms incentivise their employees in the hope that churn will lead to commissions; commissions will lead to a rise in revenues and profitability and thus the rise in valuations of the broking firm. However, these practices, in turn, bring about precisely the opposite outcome, being bitten by the Cobra Effect.
We believe that whether it’s life or profession, one should cast in stone one’s goal & keep working on it every day, with patience, perseverance, and honesty with an intention that is not self-serving but the one that leads to collective well-being & the outcome will surely be favourable.
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