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Rotman Insights Hub | University of Toronto - Rotman School of Management

Is social media a reliable source of stock investment advice?

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Edna Lopez Avila, Charles Martineau

During the pandemic, Edna Lopez Avila, a Rotman PhD student studying finance, noticed how many young new investors were jumping into the retail stock market. With extra time on their hands, the pandemic lockdowns offered an opportunity for people to try out the newer consumer-focused, retail investment trading platforms, which had been blossoming since the mid-2010s.

“Amateur and young investors started to invest their savings in the stock market,” says Lopez Avila.

These non-professional and tech-savvy investors often find guidance and advice on social media platforms like Reddit, TikTok, Instagram and StockTwits, a Twitter-like platform focused solely on providing stock advice for retail investors.

“Getting access to analysts’ reports is costly,” says Lopez Avila. She adds that during the five-day period prior to a company’s earnings announcement, news services and analysts don’t release any info, making social media an appealing place to go for advice.

This got Lopez Avila thinking about how social media impacts the way we invest. Initially, she thought that having multiple perspectives from several sources would result in better investment advice — what she refers to as the “wisdom of the crowd.”

However, Lopez Avila realized that this approach only works if each piece of advice disseminated is independent of one another. Since social media is often influenced by other users on the platform and by individual’s unique and personal following lists, this independence is non-existent.

With the help of Charles Martineau and Jordi Mondria, both University of Toronto professors, she analyzed the advice disseminated through three stock-specific social media platforms: Wall Street Bets, StockTwits and Seeking Alpha. It turns out, social media can lead retail investors astray, inspiring the title of their paper, “When Crowds Aren’t Wise: Biased Social Networks and its Price Impact.”

Using machine learning tools, they analyzed more than 100 million social media posts over a eight-year period from 2013 to 2021. They found that, overwhelmingly, posts skewed towards a positive bias, meaning they encouraged followers to purchase a particular stock as opposed to sell, ultimately pushing up stock prices. Yet once company earnings were announced, the stocks often would not perform as well as social media predicted, experiencing only a marginal increase or a decline in price.

“What we found was that 85 per cent of the information being produced was largely positive,” Martineau says. “We said, ‘There’s something going on here. The wisdom of the crowd isn’t working.’”

While their paper didn’t touch on why it is that social media posts tend to be overwhelmingly positive, Martineau says that meme stocks — like GameStop, AMC and Bed Bath and Beyond, which all saw their stocks shoot to record highs as a result of social media hype — could lead everyday investors to believe social media is a trustworthy source of information.

But this trust shouldn’t be seen as reliable. “The media self-select and cherry-pick cases that present an image that social media is really good at providing information,” Martineau says. “But social media produces so much information about stocks. Many investors also lose money, but it’s not reported in the media.”

So, what makes social media platforms so powerful? It’s not the “group” effect of multiple opinions that sways retail investors. It’s the platforms’ ability to grab one’s attention through volume. “I’m not more likely to trust five people versus one person,” says Martineau. “It’s because five people are more likely to catch my attention. On social media, the information that is trending is more likely to pop up on your feed.”

The free, easy-to-access and approachable nature of investment advice on social media, compared to the expensive and sophisticated reports generated by analysts, also pushes everyday investors to lean more heavily into social media advice.

Traditional news typically reports on earnings results after they have been released. But thanks to social media, investors can now easily monitor real-time discussions and sentiments related to specific stocks before the announcement. Moreover, they found these platforms cover a wider range of stocks before earnings, especially the ones from smaller companies. “Even though there’s evidence that this information could be detrimental, sometimes is the only information unsophisticated investors have available.” says Lopez Avila.

Instead, they advise inexperienced investors use reliable sources of information when seeking investment advice, such as trustworthy news reports, insights from professional analysts and information available on company websites, such as press releases and financial statements.

“By avoiding the tendency to follow the crowd, investors can enhance their chances of making profitable and successful investments,” they said. Don’t get caught up in the fervour. “Following social media [for stock advice] can be detrimental to your wealth.”

Edna Lopez Avila is a PhD candidate at the Rotman School of Management. 
Charles Martineau is an assistant professor of finance at the University of Toronto Scarborough with a cross-appointment to the finance area at the Rotman School of Management.