The Future of Investing: A 2020 Vision

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"The Other Shoe"

"Investment banks are no longer able to avoid prudential regulation, since Bear Stearns was just hugely regulated and primary dealers that are investment banks now have access to the discount window [Fed's borrowing mechanism]," says Calomiris. So if banks are forced to face increased regulation, their logical next step would be to embrace the benefit of federally backed deposits, as he says: "The other shoe has to fall, too."

Transparency will come to rule the financial world, say experts. Banks are afraid to lend today because they hold many customized over-the-counter assets (like collateralized debt obligations and credit default swaps), whose value is tough to gauge without a ready buyer. New financial products, says Calomiris, will be less arcane and more homogeneous so that buyers know exactly what they are buying and sellers know exactly what it is worth. Things like CDOs will be able to be traded widely and their value will be determined immediately by larger markets—so that, for instance, a banks' management can know how much a CDO is worth at any given time on an exchange. "A movement toward simplicity is going to improve liquidity," he says. "So instead of having 50 different ways to do a credit default swap, you could actually buy one on an exchange."

Mutual funds might diminish, too. Today, increasing numbers of investors are diversifying their portfolios by purchasing exchange-traded funds (ETFs), baskets of stocks whose value corresponds with a broad index like the Standard & Poor's 500-stock index. In 2000 there were 80 exchange-traded funds that held roughly $45 billion in assets, according to the Investment Company Institute. Today there are 697 such funds holding $578 billion. As investors flock to the funds' low management fees and built-in diversification, actively managed mutual funds that charge higher fees will lose their appeal. "You will find the actively managed mutual fund industry shrinking pretty dramatically," says Darrell Duffie, finance professor at Stanford's Graduate School of Business. "And individuals will become more capable of managing their own financial affairs."

Greater Trading Transparency

But actively managed funds won't disappear because there will always be a need for packaged financial products, says SBCC's Beder, since "a lot of people can't access the full range of products in a market." All of these changes toward greater efficiency and transparency in trading will build more diverse portfolios: those that are "more robust across a broader range of market conditions," according to Andy Weisman, chief investment officer at WR Capital ,

Better software will let everyday investors visualize how their portfolio's risk is altered by the slightest tweak, says Duffie. Interactive charts will show investors how their risk exposure changes when they buy more Microsoft (MSFT) options, or hold fewer Chinese stocks, or short the price of oil. "People will click on an icon and visualize their financial future in terms of all scenarios," he says. New tools will also better reflect the correlations between different parts of investors' lives. "The idea that you just buy medical insurance on the one hand and invest in financial securities on the other will vanish," he says. People will be able to buy securities that pay off based on changes in their medical expenses, or they will be able to buy insurance against a reduction in their home value. Says Duffie: "Just use your imagination."

The subprime disaster reinforced that reactive thinking can't avert a financial meltdown, and diversifying risk is still an imperfect art. The hope for the future, says Robert McDonald, professor of finance at Kellogg, is that regulators will respect markets' need for competition and freedom while not turning a blind eye to their bad habits. "You can hope that a phoenix will arise from the ashes," he says. "The challenge will be to fix things without breaking them." Yet Robert Wright, a financial historian at New York University's Stern School of Business, thinks a regulatory fix will be elusive, as he puts it: "Regulators always tend to fight the last panic."

McRoskey is an intern at BusinessWeek.com.