Price Forecasts in the Media: a Lousy Way to Invest

Predictions in both the news and social media are money losers for investors, says Richard Peterson of MarketPsych

MarketPsych Managing Director Richard Peterson. MarketPsych Managing Director Richard Peterson.

The U.S. equity markets are reaching highs not seen since 2007, and while such strength is a good thing, all that market heat is also driving poor trading behavior due to news reports and the pump-and-dump world of social media, warns the behavioral economics consultancy MarketPsych.

While price forecasts in the news media can create outsize profitability patterns in the markets, social media creates a “primal” form of influence over market prices, says MarketPsych Managing Director Richard Peterson in a March 16 blog post, “New Highs! Stock Promoters, Media Manipulation and Timing Price Reversals.”

“We see that investors who follow predictions in both the news and social media lose significant amounts of money,” writes Peterson, a Santa Monica, Calif.-based medical doctor and psychiatrist with expertise in behavioral finance. “Inversely, those who play against the media do much better.”

Peterson, who quantified and backtested media price forecasts using the Thomson Reuters MarketPsych Indices, said in a phone interview on Monday that advisors should keep these primal emotions in mind when their clients come to them with a sudden urge to buy or sell an investment. A big part of an advisor’s job is to communicate with clients and help them make sound long-term decisions by managing their short-term emotional impulses, he said.

“When clients come to their financial advisor with an urgent request to buy or sell, their timing is usually poor,” Peterson said. “I often hear advisors say their clients are contrarian indicators. So if they get a lot of calls from clients requesting a specific investment, like buying bonds or selling stock, they know that those days are a peak in the market because clients are buying high and selling low. Clients destroy their wealth by following their impulses to buy or sell.”

In his blog post, Peterson references Liar’s Poker writer Michael Lewis’ New York Times story about 15-year-old Jonathan Lebed, who back in 2000 posted 200 separate pitches on Yahoo! Finance stock message boards touting penny stocks until the Securities and Exchange Commission subpoenaed him.

(Today, Lebed continues to tout stocks from his Twitter handle @LebedBiz. One post from Feb. 1, 2012, states: “$BVSN—There is ABSOLUTELY no doubt about it. I am BY FAR the #1 most accurate and successful stock picker IN THE WORLD today!” Stock of Broadvision Inc. (BVSN), a software technology firm, reached highs near $40 per share in early 2012 and has since plummeted to about $8 per share.)

Perhaps more troubling is Peterson’s assertion that sensational forecasts about investments in the news media also may destroy readers’ wealth.

“Consider this research by our incredibly talented chief of analytics, Changjie Liu,” Peterson writes, citing two studies, one on commodity prices, including oil, and one on exchange-traded funds using the Thomson Reuters MarketPsych indices and Thomson Reuters Tick History price data. “When the news media focuses on positive (or negative) price movement in an industry or commodity, there is likely to be a short-term mean-reversion over a week to a month.”

In other words, Peterson’s advice to advisors and their clients is to do the opposite of what’s reported in the news.

“The news media reports on price increases near the top and price declines near the bottom,” he writes. “If the investing public could be trained to ‘fade the news,’ maybe they would be all right, but it's not so simple.  Despite the negative outcomes for the investing public, price forecasts—including incorrect ones—drive more news sales and reader/viewership to the news outlets themselves. Consider the success of Jim Cramer's ‘Mad Money’ on CNBC, which is loaded with buy and sell recommendations.”

Read Advisors Flocking to Social Media, but Still Misunderstanding Clients  at AdvisorOne.

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