When seasoned investors think about the impact of social media stock tips, they might think of meme stocks, volatility and dangerous speculation.
However, new research by Terry College accounting professor Frank Heflin found social media can positively affect the stock market and benefit retail investors. By closing information gaps, stock analysis on social media can help retail investors compete with the pros.
“There has been concern by some in the investment community and by regulators about investors relying too heavily on opinions posted on social media,” said Heflin, the James Don Edwards Chair in Corporate Accounting Policy at the Terry College J.M. Tull School of Accounting. “What our research highlights is that there is a potential upside to the opinions and analyses people post on social media.”
In Heflin’s paper, “Financial Analysis on Social Media and Disclosure Processing Costs: Evidence from Seeking Alpha,” he and his co-authors track the coverage volume of individual stocks on Seeking Alpha and what happens with stock prices when companies issue press releases announcing quarterly accounting earnings.
Seeking Alpha is a crowd-sourced hub for stock analysis that allows traders to read each other’s takes on stocks. Articles and stock ratings are submitted by users, lightly vetted by Seeking Alpha’s editorial team and were free to registered users until recently. The site is the most widely used social media platform focused on investing, with more than 20 million monthly users.
Heflin’s team analyzed the changes in bid-ask spreads for specific firms around the time of their earnings announcements. The bid-ask spread is the difference between the price requested for the immediate sale of a stock and the price offered for immediate purchase. The larger the spread the larger, the difference between what well-informed and less-informed investors know about the stock, Heflin said.
Prior research shows a company’s bid-ask spread typically spikes when the company releases quarterly earnings. That spike is thought to result from higher-resourced, more professional traders figuring out what a quarter’s earnings mean for the stock’s value faster than traders with fewer resources.
For example, more resourced, professional traders might have access to information from professional analysts and “insiders” that allow them to quickly analyze data in an earnings press release and associated earnings conference calls.
Heflin and his co-authors used this spike in bid-ask spreads around companies’ quarterly earnings releases to track the information gap between more- and less-resourced investors. The smaller the spike in bid-ask spreads when the company issues its earnings press release, the smaller the information gap between different types of investors.
“Many of the articles posted on Seeking Alpha contain analyses of operations, financial condition and strategy,” Heflin said. “It seemed possible that those articles could benefit investors, such as retail traders, that otherwise may not have access to that kind of analysis.”
To analyze Seeking Alpha’s impact, they tracked 4,277 firms discussed on the site in 116,346 user-generated articles between 2006 and 2014.
The stocks with the most Seeking Alpha articles written about them saw the lowest spikes in bid-ask spreads when quarterly earnings were released, about 28 to 44 percent smaller than stocks with the fewest Seeking Alpha articles. It translates into lower trading costs for investors. Heflin said increased access to information also led retail investors to make more profitable trades when trading around a firm’s earnings release. Institutional investors appear to make profitable trades around quarterly earnings releases despite how many Seeking Alpha articles about a company.
“Some investors and market regulators have been concerned about the impact of social media on markets, and probably rightly so,” Heflin said. “But there is this potential positive aspect that is important to consider.”