Attention-grabbing stocks and the behavior of individual investors in Brazil.
| Autor | Chague, Fernando |
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Introduction
Standard rational economics usually assumes that a decision maker considers all feasible alternatives. When trading a stock, an individual should be able to weight the profitability prospects of thousands of available options. Attention is, however, a limited resource. As individual investors face time and cognitive constraints, it is possible that one would like to buy stock x, but chooses stock y instead or does not trade at all simply because he is not paying attention to x. But how do investors choose the stocks they look at? Unsophisticated retail investors rely heavily on public media to make trade decisions, since they do not have the time and financial resources to monitor the same information channels as professional investors. Media coverage is therefore a primary mechanism for attracting their attention. The key innovation of this paper is to show that media-driven attention in itself, that is, orthogonal to the release of meaningful information, affects individual investors' trading behavior towards the cross-section of stocks.
Our empirical strategy is based on what we call "purely attention-grabbing" (PAG) news. These are news stories that make firms more salient without conveying any relevant information about future returns. Because identifying this kind of article is clearly challenging, we focus on two very specific categories. Importantly, they are published on a widely-followed financial news website, and the firm name always appears in the headline. In the first category, firms' analysts make stock recommendations and give no new information about their own firm. The second category consists of recruitment process announcements, such as application deadlines, mainly for highly-selective trainee programs. We show that low-activity individual investors tend to be net buyers of stocks mentioned in PAG news. This result holds for three different definitions of low-activity investors, all of them comprising about 50% of all retail traders in the Brazilian stock market. We also document that PAG news places an economically-significant upward pressure on stock prices in the first 10 days after publication, and find no clear evidence of reversal afterwards.
From a theoretical perspective, our findings are in the spirit of Barber & Odean (2008), who argue that, in order to manage the problem of choosing from among thousands of possible stock purchases, individual investors limit their search to stocks that recently caught their attention. The same reasoning, however, does not apply to selling; individuals rarely short, and thus the option they pick for selling is one of the relatively few stocks held in their portfolios. As a result, their model predicts that retail traders are net buyers of stocks with attention-grabbing events. But what catches investors' attention? Salience detection is the psychological mechanism that makes individuals focus their limited cognitive resources on the attributes that are more unusual or prominent with respect to a given frame. As Kahneman (2003) points out, salient impressions come to mind more spontaneously: "if a large green letter and a small blue letter are shown at the same time, "green" will come to mind first." By the same token, a headline mentioning a firm attracts attention. When a stock receives more attention, it starts being considered in the investor's choice set. One does not necessarily purchase every option that draws attention, but certainly more than those outside one's attention.
Finally, how accurate is the stock-picking ability of individuals who tend to focus on attention-grabbing stocks? We use a data set that registers the daily trading activity of a 50% random sample of all individual investors in Brazil from 2012 to 2017, (1) and calculate a responsiveness measure to PAG stories. We document that individuals who are more susceptible to buying stocks following PAG articles make purchases with much poorer performance than those who are unresponsive to this kind of news.
The remainder of the paper is organized as follows. In Section 2 we discuss the literature related to salient stocks. In Section 3 we present our news data set and the concept of PAG news. Section 4 presents our individual investors' trading data. We show the effect of salience on investors' trading activity in Section 5. Section 6 shows that PAG news induces a short-term upward pressure on stock returns. Section 7 shows that individuals more prone to buy stocks following PAG news have worse stock-picking ability than others. Section 8 concludes.
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Related research
This paper contributes to the vast literature on investors' limited attention in financial markets.
Several studies document that media coverage is a primary channel for inducing trading activity. A striking example is in Huberman & Regev (2001): a Sunday New York Times article on a potential development of a new cancer cure made the prices of biotechnology stocks soar for weeks, even though the finding had already been reported in various popular newspapers (including the Times) more than five months earlier. Fang & Peress (2009) find that stocks with no media coverage earn higher returns than stocks with high media coverage, even after controlling for well-known risk factors. Engelberg & Parsons (2011) show that after an earnings announcement by an S&P 500 Index firm, trading in a given region is strongly related to whether the local paper covers the announcement or not. Fang, Peress & Zheng (2014) show that mutual funds tend to buy more stocks that receive heavy media coverage, and that their performance in the cross-section is negatively related to their propensity to buy such stocks. Solomon, Soltes & Sosyura (2014) document that investors allocate significantly more capital to funds holding media-covered stocks with high past returns, after controlling for fund returns and other fund characteristics. Kaniel & Parham (2017) find an increase in quarterly capital flows into mutual funds mentioned in a prominent Wall Street Journal ranking, compared to those funds which just missed making the list. Fedyk (2018) uses a natural experiment in prominent "front page" positioning of news on the Bloomberg terminal. News stories are first classified by editors as primary important or secondary important. Primary important stories are positioned on the top of the news feed, and replaced after a certain time. If there is no other primary important story to replace it, a secondary important story randomly makes it to the top of the feed. She finds that front page positioning induces 280% higher trading volumes and 180% larger price changes within the first ten minutes after news publication, followed by a strong drift for 30-45 minutes.
More specifically, our paper adds to prior studies on attention-grabbing events, such as abnormal trading volume (Gervais, Kaniel & Mingelgrin, 2001), extreme stock returns, index additions and deletions (Chen, Noronha & Singal, 2004), ranked stocks (Hartzmark, 2015), and media coverage. The common theme underlying this literature is that investors are more likely to buy stocks that have recently caught their attention, which in turn may lead to short-term abnormal returns. (2) Barber & Odean (2008) argue that attention-constrained investors have to search through thousands of available options when buying a stock, but through only the small number of alternatives they hold when making a sell decision. They propose that to manage the underlying search problem of buying stocks, investors limit their choices to the stocks that recently caught their attention. As a result, investors are more likely to buy than sell attention-grabbing stocks. Related research shows that this higher buying activity, in turn, leads to higher stock returns in the short run, but lower subsequent returns. Seasholes & Wu (2007) provide evidence that this pattern arises after upper price limit events in China. Tetlock (2011) defines the staleness of a news story based on textual similarity to the previous ten stories about the same firm. He shows that on the day of stale news, investors are net buyers of the mentioned firm, and the stock return negatively predicts the return in the following week. He concludes that individuals overreact to stale news. Da, Engelberg & Gao (2011) use the Google Trends Search Volume Index as a direct measure of investor attention, and show that it predicts higher stock prices in the short run and price reversals in the long run. Lou (2014) finds that an increase in product-market advertising by a firm is accompanied by a contemporaneous rise in retail investors buying, higher abnormal stock returns, and subsequently by lower future returns. Kumar, Ruenzi & Ungeheuer (2020) show that, after being ranked as daily winner or loser, stocks suffer buying pressure from retail investors, subsequently underperforming unranked stocks.
Our paper contributes to the mentioned studies by providing evidence that media coverage, without conveying any meaningful information, generates individual investors' buying pressure, along with higher short-term returns. To the best of our knowledge, our paper is the first to show this result.
Finally, we add to the literature that investigates the behavior and stock-picking performance of individual investors (see Barber & Odean (2013) for a survey). As far as we know, we are also the first to show that individuals that are more susceptible to attention-grabbing tend to have poorer stock-picking ability.
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Purely attention-grabbing news
Our financial news data set was collected by a web-crawling program from InfoMoney, a Brazilian news website that focuses on investing, business news and finance education. All its content is entirely free, and it is widely followed by retail investors, with around 27 million visits per month. (3) Figure 1a shows InfoMoney's Google Trends search volume index between January 2012 and February 2019...
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