Institutional Investors Trade Differently When The Sun Is Out

Updated on

Unseasonally good weather makes institutional investors more likely to buy, and bad weather causes them to view stocks as overpriced

It’s no secret that institutional investors are just as susceptible to cognitive bias as the rest of us, but it turns out that the biases we normally think of, like different risk tolerances or attribution error, aren’t the whole story. Even the so-called smart money will pay more for stocks if the sun is shining.

“We show that deseasonalized cloud cover increases the likelihood of perceived overpricing in both individual stocks and the Dow Jones Industrial Average (DJIA) among institutional investors [and] institutional investors with lower exposure to deseasonalized cloud cover exhibit a greater propensity to buy,” write write William Goetzmann, Dasol Kim, Alok Kumar, and Qin Wang in their paper Weather-Induced Mood, Institutional Investors, and Stock Returns. “The impact of weather on beliefs and trading behavior is significant both statistically and economically.”

Institutional investors more likely to buy when the weather is good

In the study, the researchers explain that weather is a stand-in for investors’ moods: if the weather is unseasonably nice than you would expect investors (or anyone else) to be a bit happier on average, and vice versa. So they compared the level of deseasonalized sky cloud cover (abbreviated SKC, for some reason) to surveys of perceived overpricing and to investors’ actual buy decisions. A one-standard deviation increase in deseasonalized SKC (so, significantly crappy weather) increased the probability that a trader would view individual stocks and the Dow Jones as overpriced by 3%.

Watching for your own biases

If you’re first thought was to make use of sky-cover-arbitrage, you might be reading too much into the findings. Even though traders were more likely to buy stocks when the weather is nice doesn’t mean stock prices are actually inflated on those days. What’s more important is to watch out for cognitive biases that could interfere with your own investing.

Since weather was being used as a stand-in for mood, it’s not the only thing that we should look for. If you’re in a particularly good mood, it might not be a good time to start a new position. Similarly, if you’re upset, about the rain or anything else, you should think twice before selling. Most value investors will tell you not to make decisions too quickly, and sitting on a major change in your portfolio for a bit is one easy way to dodge this particular bias.

See full PDF below.

Leave a Comment

Signup to ValueWalk!

Get the latest posts on what's happening in the hedge fund and investing world sent straight to your inbox! 
This is information you won't get anywhere else!