Social Media and Stock Market Trends
- November 21, 2023
- by Michael
In the beginning, social networks were used for communication between friends and expressing personal opinions. Today, social networks are increasingly about brands, marketing, and influencers. A popular topic on social media is finance. In this post we will explore how social media influencers play to stock market investing.
1) Influence and Influencers
Influencers were born with the birth of social networks. The more followers a person has the more credible they appear. After all, they would not have a large number of followers if their content wasn’t good right?
However, instead of looking at their follower count ask yourself if they actually know what they are talking about? Many companies hire influencers to advertise their products and services. Influencers are known to do a great job of advertising but not much else. Another question is what are the influencer’s incentives in all this, do they really care if your investment pays off?
2) The Impact of Social Media
Social networks have become a new frontier for tracking stock market developments, especially on Twitter (X), Facebook, and Reddit. If someone writes on Twitter (X) some novel news or idea about a stock, and others support it, it may become a self fulfilling prophecy. In this way, small investors have a better advantage than before because they can tap into this stream of data and even have some control over the market.
By posting on one of Reddit’s many investing / stock subs, you can attract the attention of many investors. This is called the "Reddit effect" or social media momentum. This phenomenon has been noticed in the last few years. If you want to explore a darker corner of the internet, check out Reddit’s Wall Street Bets sub. Keep in mind anybody can post on social media so the quality of the information varies widely. In the “real world” to give financial advice you have to be licensed.
3) Intelligent Investors Stay Away
A smart investor will never fall for “information” posted on social networks. The first thing she will do is check the information against multiple sources to determine if it is actually true. Only after extensive analysis from all possible angles will she decide whether to invest or not. In other words - smart investors do their own due diligence before jumping at something they saw online.
4) The Role of Regulation
Regulators are increasingly focused on making sure the public gets accurate and precise information related to investing in the stock market. Financial advisors are required to avoid conflicts of interest with their clients. Anyone giving advice about stocks is required to disclose their positions and clarify the nature of their recommendations. If the message does not include this disclaimer beware the person is either ignorant of these rules (which tells you something about their level of professionalism) or actively trying to scam you.
5) Social Media and Algorithmic Trading
Social media is increasingly being used in conjunction with algorithmic trading logic. These new algorithms are created to search social media platforms for relevant discussions and sentiment analysis. For example, these algorithms can decide to buy/sell shares in a given stock based on a burst of positive/negative information gathered from various social networks. This way of trading has become popular among institutional investors and high-frequency traders. Ordinary investors may think they are getting an edge using social media, but keep in mind the lightning fast speed algorithms operate at. The second the information is out there on social media the algorithms have already capitalized on it and the stock price has adjusted accordingly.
6) The Psychological Impact
Social media sites are designed to attract and hold your attention for long periods of time. Placing stock bets based on social media information alone is essentially gambling with your money. Social media can mislead inexperienced investors into betting in something they don’t understand and put them at risk of losing all their money (or more if they invest on margin). The term FOMO refers to "fear of missing out" and it can be powerful when a hot investment idea goes viral.
Smart investors pick stocks based on fundamentals (earnings per share, company cash flow, profit margins, profit growth, debt to income ratio, etc). In this way investors make much more realistic decisions about where and how to invest to avoid excessive losses in the stock market.
7) Navigating the social media landscape:
To avoid investment mistakes, investors should do the following:
- Diversify your sources of information - you should follow reputable news outlines, not only social networks.
- Conduct independent research - if somebody on Reddit claims something it would make sense to independently verify it before taking it as fact.
- Consult with professionals - listen to financial investment advisers so that you do not make a mistake when investing and do not put yourself at unnecessary risk.
- Be skeptical and critical - just because it appeared online and 10k people (bots?) liked it doesn’t mean it is “true” or a “good bet” for you.
- Practice risk management - learn to set investment goals, learn to evaluate where to invest, and your comfort level for losses,
Conclusion: Social networks have changed how we invest in the stock market. Be careful with the information you read on social networks and check it thoroughly before investing in anything. Portfolios that have low fees and are held for a long time may seem boring but they get the job done over the long term. In addition a boring portfolio generally carries much less risk than chasing random ideas posted by unlicensed strangers on Twitter or Reddit.