The financial industry has shown a lot of innovation when it comes to using social media. First the industry figured out that the use of location based services can make homes vulnerable to thefts and hence the home insurance premium for users of location based services should be jacked up. Then the industry started using social media status updates to detect fraudulent insurance claims and unworthy loan requests. The hedge fund industry is now planning to use social media status updates to detect market sentiment and hence make investment decisions.
According to CNBC, Indiana University researchers have figured out a way to use the collective mood of the Twitter community – as measured by millions of twitter updates, to predict the upcoming moves in Dow Jones Industrial Average. The research by Indiana University Professor Johan Bollen shows that their algorithms are capable of predicting the direction of DJIA with 87 percent accuracy, up to four days before the actual move happens in the market. In his interview on CNBC, Bollen stated:
If we can predict the market three or four days out, that’s going to be huge.
Everybody was telling me, ‘this is huge, you’re going to be rich,’ and of course I’m not rich,” he said . A moment later, he added, “well, who knows.”
If this wasn’t remarkable enough, Paul Hawtin, a 28 year old hedge fund manager from London has allocated 25 million Pounds to use Professor Bollen’s twitter based indicator to make investment decisions.
Back in 2009, Brunswick Group conducted an online survey to find out the role that social media plays in investment decisions. Among the 500 institutional investors that were polled in the US and Europe, only 4 percent claimed that social media was an influence in their investment decisions or recommendations. However, an astounding 58 percent investors stated that they believe social media will play an increasing role in helping them make investment decisions.
Even in those days financial analysts like Jacob Morgan believed that Social Media will one day become one of the major influencers in financial decisions. According to Morgan:
Facebook just reached 300 million users and last time I checked twitter was over 50 million. Can you imagine the information that’s going to be available when Facebook hits 600 millions users and twitter crosses the 100 million user mark? The stream of information about companies and their products is going to be massive and there’s going to be a lot of research and analysis done by large investment institutions to understand the effects of social media on company stock price. We’re not there yet, but it’s coming.
Facebook has reached 600 million users, and Twitter has crossed the 100 million user mark. So, it was just about time for the financial industry to unleash their research and analysis on this huge pool of collective human intelligence.