Which Broker-Dealers Will Survive? Malcolm Gladwell Offers Some Answers

Determining the ideal elementary school class size has been a hotly debated topic for a number of years. The prevailing wisdom is that smaller is better. But is that always true? In his book “David and Goliath,” author Malcolm Gladwell uses the “Inverted U Curve Principle” to demonstrate the ideal class size.

I’d argue that the U Curve provides interesting insights into the ideal size for a broker-dealer, and suggests which BDs will survive in the current market and regulatory atmosphere.

But first, let’s explore Gladwell’s research.

Gladwell explains that there are three parts to the inverted U curve, and each part follows a different logic. On the left side of the curve, doing more or having more makes things better. On the flat middle, doing more does not make much of a difference. On the right, doing more or having more makes things worse.

According to Gladwell, it turns out that 18 students is the perfect class size. This is because there are enough bodies in the room so that no one feels vulnerable, but everyone can feel important. A class size of 18 also divides nicely into groups of two, three or six. At this size, the teacher can attend to each student when needed. When you get to 24 students, the class verges on having the energetic mass of an audience instead of a team. If you add 6 more students, for a total of 30, the energetic connections weaken to the point that even the most charismatic teacher cannot maintain the magic.    

Out of a decade teaching, my wife recalled her first year having 38 students in a fourth grade class. She referred to that first year as her baptism of fire. Four students in the class had behavioral issue problems, with one of the students threatening to take a crowbar to her head and addressing her with numerous expletives. She spent the majority of her time managing these four students, while the rest of the class suffered with virtually no support from the principal.  

Gladwell points out how many wealthy parents send their children to private schools thinking that small class size will be to their child’s benefit. However, when you go small, say down to 12, you have the Last Supper. A group of 12 is small enough to fit around the holiday dinner table but too intimate for many students, who may wish to protect their autonomy and are too easily dominated by the bombastic or bullying personalities in the group. 

When you get down to six students, there is no place to hide, and not enough diversity in thought and experience to add the richness that can come from numbers. The small class is as difficult for a teacher to manage as the very large class. As one teacher put it, when classes get too small, the students start acting “like siblings in the backseat of a car. There is simply no way for the cantankerous kids to get away from one another.”  

Gladwell uses the inverted U curve to make a compelling argument regarding optimal classroom size. I find that the principle also applies to broker-dealer size. 

The U Curve and Broker-Dealers

We see a similar inverted U curve when looking at the size of independent broker-dealers, with midsized broker-dealers reflecting the sweet spot for overall satisfaction. Note that when I refer to independent broker-dealers, I am not including BDs that have both retail and independent channels because that model yields an apples-to-oranges comparison.