Findings

Bet on it

Kevin Lewis

July 11, 2016

Trading on Twitter: Using Social Media Sentiment to Predict Stock Returns

Hong Kee Sul, Alan Dennis & Lingyao (Ivy) Yuan

Decision Sciences, forthcoming

Abstract:
Decision making is often based on the rational assessment of information, but recent research shows that emotional sentiment also plays an important role, especially for investment decision making. Emotional sentiment about a firm's stock that spreads rapidly through social media is more likely to be incorporated quickly into stock prices (e.g., on the same trading day it was expressed), while sentiment that spreads slowly takes longer to be incorporated into stock prices and thus is more likely to predict stock prices on future days. We analyzed the cumulative sentiment (positive and negative) in 2.5 million Twitter postings about individual S&P 500 firms and compared this to the stock returns of those firms. Our results show that the sentiment in tweets about a specific firm from users with less than 171 followers (the median in our sample) had a significant impact on the stock's returns on the next trading day, the next 10 days, and the next 20 days. Interestingly, sentiment in tweets from users with fewer than 171 followers that were not retweeted had the greatest impact on future stock returns. A trading strategy based on these findings produced meaningful economic gains on the order of an 11-15% annual return.

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What Do Measures of Real-time Corporate Sales Tell Us about Earnings Surprises and Post-Announcement Returns?

Kenneth Froot et al.

NBER Working Paper, June 2016

Abstract:
We develop real-time proxies of retail corporate sales from multiple sources, including ~50 million mobile devices. These measures contain information from both the earnings quarter ("within quarter") and the period between that quarter's end and the earnings announcement date ("post quarter"). Our within-quarter measure is powerful in explaining quarterly sales growth, revenue surprises, and earnings surprises, generating average excess returns at announcement of 3.4%. However, surprisingly, our post-quarter measure is related negatively to announcement returns, and positively to post-announcement returns. When post-quarter private information is directionally strong, managers, at announcement, provide guidance and use language that points statistically in the opposite direction. This effect is more pronounced when, post-announcement, management insiders trade. We conclude managers do not fully disclose their private information and instead message to shareholders and analysts something of opposite sign. The data suggest they may be motivated in part by subsequent personal stock-trading opportunities.

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Do Investors Use the Olympics as a Category for Investment and Should They?

Patricia Dechow, Alastair Lawrence & Mei Luo

University of California Working Paper, June 2016

Abstract:
There is a seven year period between the time that a country first learns that it has won a bid to host the Olympics to the playing of the games. We investigate whether investors use the Olympics as a category for investment over this time period. We examine two hosting countries: China in 2008 and the UK in 2012, and identify a set of stocks from a broad range of industries that are mentioned by media outlets as either directly or indirectly involved in the Olympics. We find that in both countries, Olympic stocks exhibit increases in comovement of returns after the Olympics are announced and declines in comovement after the games are played. We also find that Olympic stocks earn large excess returns when the stock market has performed well, consistent with investors moving funds into these stocks after observing strong past stock price performance. However, these excess returns are lost in subsequent market downturns. Further, evidence suggests that the Olympic Games have little impact on cash flows or earnings. Overall, our evidence suggests that Olympic "euphoria" is sufficient in both China and the UK to influence stock returns and valuations but the overall fundamental benefits of the Olympics are small.

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Investment Decisions Under Ambiguity: Evidence from Mutual Fund Investor Behavior

Wei Li, Ashish Tiwari & Lin Tong

Management Science, forthcoming

Abstract:
We provide novel evidence on the role of ambiguity aversion in determining the response of mutual fund investors to fund performance. Our analysis is motivated by theoretical models of decision making by ambiguity-averse investors. A key implication of the models is that when investors face information signals of uncertain quality, they place a greater weight on the worst signal. We find strong empirical support for this prediction in the form of heightened sensitivity of investor fund flows to the worst performance measure across multiple horizons. This effect is particularly pronounced for retail funds in contrast to institutional funds.

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Gambling Preferences, Options Markets, and Volatility

Benjamin Blau, Boone Bowles & Ryan Whitby

Journal of Financial and Quantitative Analysis, April 2016, Pages 515-540

Abstract:
This study examines whether the gambling behavior of investors affects volume and volatility in financial markets. Focusing on the options market, we find that the ratio of call option volume relative to total option volume is greatest for stocks with return distributions that resemble lotteries. Consistent with the theoretical predictions of Stein (1987), we demonstrate that gambling-motivated trading in the options market influences future spot price volatility. These results not only identify a link between lottery preferences in the stock market and the options market, but they also suggest that lottery preferences can lead to destabilized stock prices.

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Stock Returns and Future Tense Language in 10-K Reports

Rasa Karapandza

Journal of Banking & Finance, forthcoming

Abstract:
This paper shows that firms talking less about the future in their annual reports generate positive abnormal returns of about 5% annually. I measure how much companies talk about the future in their annual 10-K reports by the frequency of the verbs will, shall, and going to. The evidence favors a risk-based interpretation: firms that use less future tense in their report offer higher returns since they are riskier. These results are consistent with finance theories stating that investors need to be rewarded for holding stocks of firms that put less information about the future in the marketplace.

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Art as a Wartime Investment: Conspicuous Consumption and Discretion

Kim Oosterlinck

Economic Journal, forthcoming

Abstract:
During World War II, artworks significantly outperformed all alternative investments in Occupied France. With the surge in demand for portable and easy-to-hide (discreet) assets such as artworks and collectible stamps, prices boomed. This suggests that discreet assets may be viewed as crypto-currencies, demand for which varies depending on the environment and the need to hide value. Regarding art market valuation, this paper argues that while some economic actors derive significant utility from conspicuous consumption, others value the discretion offered by artworks. Motives for purchasing art may thus vary over time.

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Finding Fortune: How Do Institutional Investors Pick Asset Managers?

Gregory Brown, Oleg Gredil & Preetesh Kantak

University of North Carolina Working Paper, March 2016

Abstract:
This paper studies how professional asset allocators such as endowments, fund-of-funds, or pension funds select fund managers for investments. We develop a simple model of their due-diligence process to motivate predictions about the timing of investment decisions. We then test these predictions using a unique dataset with detailed information on the interactions between a large institutional investor and 1,093 hedge funds over the course of 8 years. Soft information conveyed during the meetings with fund managers strongly influences the decisions. A one standard deviation increase in our proxy for positive soft information doubles the probability of fund selection and reduces the due-diligence time by 20%. Contrary to prior research, we find no evidence that relying on these subjective judgements is wasteful. Instead, in a matched sample, conditioned on the fund characteristics and past performance, the 12-month average peer-adjusted returns are 1.5% higher for the selected funds.

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Prospect Theory and Stock Returns: An Empirical Test

Nicholas Barberis, Abhiroop Mukherjee & Baolian Wang

Review of Financial Studies, forthcoming

Abstract:
We test the hypothesis that, when thinking about allocating money to a stock, investors mentally represent the stock by the distribution of its past returns and then evaluate this distribution in the way described by prospect theory. In a simple model of asset prices in which some investors think in this way, a stock whose past return distribution has a high (low) prospect theory value earns a low (high) subsequent return, on average. We find empirical support for this prediction in the cross-section of stock returns in the U.S. market, and also in a majority of forty-six other national stock markets.

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Additional evidence of heuristic-based inefficiency in season wins total betting markets: Major League Baseball

Bill Woodland & Linda Woodland

Journal of Economics and Finance, July 2016, Pages 538-548

Abstract:
The large majority of sports betting papers have addressed questions of market efficiency based on the outcome of single game, such as spread (sides) or point totals wagers. This research examines the Major League Baseball (MLB) season wins total over/under betting market with respect to questions of market efficiency and profitability. Woodland and Woodland (2013, 2015) investigated the season wins total markets for the National Football League (NFL) and the National Basketball Association (NBA) and found significant inefficiencies. Betting rules tested in this paper parallel those proposed by Woodland and Woodland for the NFL and NBA. They aim to take advantage of the implications of the representativeness heuristic, that is, individuals expect results from a small number of games to generalize to the entire population. The MLB market is found to be inefficient, and provides opportunities for profitable wagering. We establish a tendency for bettors to overreact to a team's performance in the previous season, particularly for teams with winning records. Results are consistent with the findings for the NFL and NBA season wins totals betting markets. This may be the consequence of monetary betting limits and a structure requiring the completion of a sport's season before the bet outcome is determined, both of which could discourage some bettors from participating.

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Are Friday announcements special? Overcoming selection bias

Roni Michaely, Amir Rubin & Alexander Vedrashko

Journal of Financial Economics, forthcoming

Abstract:
We report reduced market response to Friday announcements of dividend changes, seasoned equity offerings, share repurchases, earnings, and mergers, which is seemingly consistent with the notion of investor inattention on Fridays. However, we show that these findings are an outcome of selection bias. Firms that make announcements on Fridays experience reduced market response on any weekday and have common unobserved characteristics across announcement types. After correcting for selection bias, there is no evidence that investors pay less attention to announcements made on Fridays. The method introduced here is applicable to other studies in which an exogenous factor influencing firm performance can actually be associated with firm characteristics.

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Jim Cramer's 'Mad Money' Charitable Trust Performance and Factor Attribution

Jonathan Hartley & Matthew Olson

University of Pennsylvania Working Paper, May 2016

Abstract:
This study analyzes the complete historical performance of Jim Cramer's Action Alerts PLUS portfolio from 2001 to 2016 which includes many of the stock recommendations made on Cramer's TV show "Mad Money". Both since inception of the portfolio and since the start of "Mad Money" in 2005 (when it was converted into a charitable trust), Cramer's portfolio has underperformed the S&P 500 total return index and a basket of S&P 500 stocks that does not reinvest dividends (both on an overall returns basis and in Sharpe ratio). These findings contrast with previous studies which analyzed Cramer's outperformance in short windows before the 2008 financial crisis. Using factor analysis, we find that Cramer's portfolio returns are primarily driven by underlevered exposure to market returns and in some specifications tilting toward small cap stocks, growth stocks and stocks with low quality of earnings. These results have broad implications for market efficiency, the usefulness of single name stock recommendations made on television, financial education, and the implementation of academic factors thematic in Cramer's portfolio.

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Does Information Intensity Matter for Stock Returns? Evidence from Form 8-K Filings

Xiaofei Zhao

Management Science, forthcoming

Abstract:
This paper identifies an important source of variation in U.S. firms' material information flows: their Form 8-K filing frequency. Exploiting cross-sectional variation in this novel proxy for information intensity, this paper finds that firms with higher information intensity experience lower future returns and lower future volatilities. The marginal return impact is higher at low levels of information intensity and high levels of prior volatility. On average, an information-intensity-based long-short portfolio generates a return spread of 4.3% per year. After adjusting for the Fama-French three factors and the momentum factor, the abnormal return remains 4.4% per year. These novel findings suggest that, because of the dynamic nature of information arrival, the frequency/quantity of information is an important source affecting the information environment and stock returns of public companies. These findings are consistent with the predictions of a broad class of noisy rational expectations equilibrium models and estimation risk models, and they highlight the importance of learning in financial markets with incomplete information.

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Voluntary monthly earnings disclosures and analyst behavior

Shou-Min Tsao, Hsueh-Tien Lu & Edmund Keung

Journal of Banking & Finance, forthcoming

Abstract:
We examine how voluntary monthly earnings disclosures relate to monthly analyst behavior. We focus on the number of analysts following a firm and several properties that characterize analysts' earnings forecasts for the upcoming annual earnings. We find firms that disclose monthly earnings attract more analysts, have more accurate and less dispersed analyst earnings forecasts, and have lower overall uncertainty and less commonality of information in analysts' earnings forecasts. In addition, the effect of monthly earnings disclosure on analyst behavior is more pronounced for the firms that regularly disclose monthly earnings. Our results are consistent with the notion that an important role played by a voluntary increase in reporting frequency is to trigger the generation of idiosyncratic information by financial analysts. In other words, analysts tend to complement rather than substitute for firm-provided voluntary disclosures.

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Can Analysts Assess Fundamental Risk and Valuation Uncertainty? An Empirical Analysis of Scenario-based Value Estimates

Peter Joos, Joseph Piotroski & Suraj Srinivasan

Journal of Financial Economics, forthcoming

Abstract:
We use a data set of sell-side analysts' scenario-based equity valuation estimates to examine whether analysts can assess the state-contingent risk surrounding a firm's fundamental value. We find that the spread in analysts' scenario-based valuations captures the riskiness of operations and predicts the absolute magnitude of long-run valuation errors and future changes in firm fundamentals. We also show that analysts' assessment of fundamental risk and its predictive ability systematically improved after the financial crisis, consistent with the macroeconomic shock raising analysts' awareness of firms' systematic risk exposures.

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Loss-Averse Preferences, Performance, and Career Success of Institutional Investors

Andriy Bodnaruk & Andrei Simonov

Review of Financial Studies, forthcoming

Abstract:
Using survey-based measures of mutual fund manager loss aversion, we study the effects of institutional investor preferences on their investment decisions, performance, and career outcomes. We find that managers with higher aversion to losses choose portfolios with lower downside risk, increase their risk-taking more in response to poor past performance, and display a stronger disposition effect. Further, we provide evidence that managers who are more loss-averse have lower performance and are more likely to have their contracts terminated.

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Being Surprised by the Unsurprising: Earnings Seasonality and Stock Returns

Tom Chang et al.

University of Southern California Working Paper, March 2016

Abstract:
We present evidence consistent with markets failing to properly price information in seasonal earnings patterns. Firms with historically larger earnings in one quarter of the year ("positive seasonality quarters") have higher returns when those earnings are usually announced. Analysts have more positive forecast errors in positive seasonality quarters, consistent with the returns being driven by mistaken earnings estimates. We show that investors appear to overweight recent lower earnings following positive seasonality quarters, leading to pessimistic forecasts in the subsequent positive seasonality quarter. The returns are not explained by risk-based explanations, firm-specific information, increased volume, or idiosyncratic volatility.


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