SSRN (Social Science and Review Network)’s Hailiang Chen, Prabuddha De, Yu Jeffrey Hu  and Byoung-Hyoun Hwang present their thoughts on how investor sentiment and opinion – a key element of the stock market – is transmitted, absorbed, and even changed as it winds its way through the ever-evolving landscape of social media.

Social media has become a popular venue for individuals to share the results of their own analysis on financial securities. This paper investigates the extent to which investor opinions transmitted through social media predict future stock returns and earnings surprises. We conduct textual analysis of articles published on one of the most popular social-media platforms for investors in the United States. We also consider the readers’ perspective as inferred via commentaries written in response to these articles. We find that the views expressed in both articles and commentaries predict future stock returns and earnings surprises.

Introduction

“The issue for the pros is that the institution of [financial] analysis risks becoming de-professionalized. In the same way many jobs … became commoditized by the use of new tools or access to information, the era of DIY [do-it-yourself] financial analysis is dawning.”

Instead of relying on expert advice, consumers increasingly turn to fellow customers when choosing among products, a trend facilitated by the emergence of social media and the associated creation and consumption of user-generated content (e.g., Chen and Xie 2008, Gartner 2010). Deloitte (2007), for instance, finds that 82% of US Internet consumers report to be directly influenced by peer reviews in their purchasing decisions. Empirical evidence suggests that the influence of peer-based advice, such as usergenerated ratings on Yelp.com or Amazon.com, is increasing, while the influence of traditional advice sources, such as the Michelin star guide or the Consumer Report, is decreasing (Datamonitor 2010).

Peer opinions also have begun to play a greater role in financial markets. Traditionally the domain of professional forecasters, financial analysis is increasingly being performed and broadcast by investors themselves. As of 2008, nearly one in four adults in the US reports to directly rely on investment advice transmitted via social media outlets (Cogent Research 2008) and regulators conclude that “social media is landscape-shifting,” with its relevance to financial markets only growing (SEC 2012, p.1). But do peer opinions actually impart value-relevant news? Or do they merely constitute “random chatter” in a task best left to professional analysts? Or worse, are some users taking advantage of the lack of regulation inherent in social media outlets and attempting to intentionally spread false “information” and mislead fellow market participants? The goal of this study is to assess the performance of investors-turned-advisors and to test whether investors can turn to their peers for genuine, useful investment advice.

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