REDDIT’S SELF-ORGANISED BULL RUNS: New analysis of the potential of retail investor herding to destabilise financial markets

12 Apr 2021

New research uses data from an online discussion forum to quantify the role of social contagion or ‘hype’ in specific stock market movements. The study by Valentina Semenova and Julian Winkler measures influence between users on the WallStreetBets (WSB) subreddit by tracing the probability of a user starting a fresh discussion on an asset given their previous involvement in a discussion on the same asset, measured by their comment history.

The researchers find that users who comment on one discussion involving a particular asset are approximately four times more likely to start a new discussion about this asset in the future, with the probability increasing with each additional discussion the user engages in. This is a strong indication that investment strategies are reproduced through social interaction. In particular, bearish sentiments seem to spread more than their bullish counterparts.

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At a price of $17.25 per share at the start of January, it would have taken a little over 750 thousand individuals, each with $1,000 in cash, to buy all floating shares of GameStop. Despite the coordination challenge, the price of GameStop equity rose by a factor of ten between 22 and 28 January 2021. Is this a one-off fluke, or a permanent change for financial markets to contend with?

Social media has changed the fabric of society. Polarisation, the spread of fake news and other social challenges are some of its documented consequences. 4.2 billion people, or 53.6% of the world population, are active social media users, each just a few clicks away from the next popular phenomenon.

Now, a growing audience turns to social media for promising stock market gambles.

This research sheds light on the social dynamics driving a new way of investing. In particular, the authors use text data from the r/WallStreetBets site to follow the investment choices users talk about, and who they talk with. r/WallStreetBets started its ascent to popularity in 2015, incidentally the same time the popular trading app, Robinhood, became available.

Qualitatively, users are galvanised by the behaviours of their peers and their skyrocketing account balances, which they share freely. It is clear that popularity begets popularity: they discuss an asset because others talk about it already, instead of any inherent value.

The researchers formalise a test for such `contagion’. They find that users who comment on discussions about an asset are between four and nine times more likely subsequently to start a new conversation about the asset themselves, compared with a control group.

Users also adopt the directional position of their peers, such that they reach a `consensus’. They buy(sell) a stock because other users also buy(sell) the stock. This effect is especially large in bouts of selling, pointing to interesting psychological models of investor panic during a downturn.

What does this mean for the markets overall? Potentially, the fast spread of news from one investor to another may lead to more efficient markets: information will be absorbed quickly, and assets will converge to their `true value.’

Contagion and consensus are two key components for social herding. The study develops a theoretical model for a better understanding of the implication of such behaviours among investors. The model predicts an initial price increase, from the asset’s growing popularity, followed by a volatile crash. This is driven by the endogenous dynamics: given that individuals rely on the opinions of others, buy and sell decisions propagate and feed off of each other, amplifying price swings.

With a publicly acclaimed victory of retail investors over Wall Street, it is unlikely that this new `modus operandi’ will simply disappear. In fact, evidence suggests the opposite: the WSB forum exploded in size and currently has 9.7 million self-described ‘degenerates’. Putting these numbers into perspective, The New York Times recently boasted 7.5 million subscriptions.

It is important for researchers and policy-makers to get ahead of this curve. A delay to a critical assessment of retail investor herding threatens to destabilise markets further.

Valentina Semenova

University of Oxford | semenova@maths.ox.ac.uk