An interesting article recently published in Institutional Investor details several efforts to build social networks for the investment community. It provides details on three such communities where members share and discuss investment ideas: SumZero, Value Investors Club, and Distressed Debt Investors Club. Blog aggregators like Seeking Alpha are also discussed.The investment value of such online networking still remains somewhat up for debate, but some of the sources II article help to explain the dynamics of this site:
James Kilroy, a portfolio manager at Gainesville, Georgia–based Willis Investment Counsel, which oversees about $1 billion in institutional and high-net-worth assets, joined SumZero when it was a third of its current size. He says that he often posts a detailed investment thesis to the site after completing his research and building a position. His goal is to stress-test his ideas — “I want to understand how I can be wrong,” he says — and to share them with an influential community that is prepared to act on a persuasive argument.
“You want to be early and first,” explains Kilroy, a former Bear Stearns analyst who covered multi-industrials, “but ultimately you need other investors to share your point of view for the stock to go up.” Kilroy likes the fact that SumZero members must disclose whom they work for and the type of funds they manage. “It forces you to a higher level of accountability,” he adds.
Access to contrarian investment thinking is also a key driver of investor interest in these social media sites. Jackson credits Seeking Alpha’s success to the diversity of viewpoints expressed by the site’s writers and commentators, who create a wide-angle view of a stock that he says is unmatched by traditional Wall Street research. SumZero’s Narendra agrees. “Somebody might put up a thesis [on SumZero] where a stock trades at $2 and the target is $10,” he says. “That’s the kind of stuff that the investment community needs — a divergence of viewpoints, as opposed to herd thinking.”
Still, investors must proceed with caution. In a 2007 study of 340 buy and 160 sell recommendations posted on Seeking Alpha, Veljko Fotak, a Ph.D. student in finance at the University of Oklahoma, found that the stock picks exhibited some value and market impact, as measured by returns in the 20 trading days after publication, but that the quality of the investment advice varied. He found scant evidence of any factors that could predict the quality of a blogger’s recommendations.
Size may be the enemy of the good. Wesley Gray, an assistant professor of finance at Drexel University in Philadelphia and a co-founder of Empirical Finance, a recently seeded $50 million quantitative hedge fund, has studied the investment write-ups posted to Value Investors Club, whose founders, Joel Greenblatt and John Petry — longtime partners at New York hedge fund firm Gotham Capital — strictly enforce the 250-member cap. Gray’s analysis, which formed the basis of his Ph.D. dissertation at the University of Chicago Booth School of Business, found that stocks recommended on the site delivered an average one-year buy-and-hold return of 9.52 percentage points above the predicted return, after controlling for risk. Gray and his colleagues performed a similar, unpublished analysis of recommendations on the SumZero web site, which has a much larger user base and a shorter track record, and found no statistical evidence that the ideas posted there were, on average, market-beating.
That comes as no surprise to the Value Investors Club founders, who admit just one in 15 applicants. “If every member of the buy side joins SumZero, over time you’re going to have the aggregate return of the market,” says Petry.
Blogs, online communities and crowd-sourcing platforms like Twitter may hold promise for investors, but their reach is still limited, especially among more-seasoned professionals. “Most portfolio managers over 35 are ignoring this stuff,” says Steven Goldstein, co-founder and CEO of Alacra, a New York–based content aggregator that helps investment firms track information published on blogs, social media sites and other online sources.
Tapping into the right networks can be a Herculean task. “Yes, there is a proliferation of information and a lot of debates happening on social networking sites, but I think if anything it obfuscates the issues,” says Barry Hurewitz, chief operating officer of investment research at Morgan Stanley. He contends that good sell-side analysts, thanks to their own professional networks, are better equipped to define the debate and understand market expectations. “They tend to have the conversations with investors that matter the most,” says Hurewitz.
Both of these results – that scale of publication and membership is an enemy of performance, and that the quality of ideas available on these sites has tremendous variance – seem to be in line with our own experience of the independent research community. What the performance analysis above fails to capture is the degree to which the sites offer filtering tools or editorial controls to separate the wheat from the chaff.
We would be very interested to know if any of our readers have used these sites. Please do share your comments or feedback below.