Making the Market
The Macroeconomics of Narratives
Joel Flynn & Karthik Sastry
NBER Working Paper, June 2024
Abstract:
We study the macroeconomic implications of narratives, defined as beliefs about the economy that spread contagiously. In an otherwise standard business-cycle model, narratives generate persistent and belief-driven fluctuations. Sufficiently contagious narratives can "go viral," generating hysteresis in the model's unique equilibrium. Empirically, we use natural-language-processing methods to measure firms' narratives. Consistent with the theory, narratives spread contagiously and firms expand after adopting optimistic narratives, even though these narratives have no predictive power for future firm fundamentals. Quantitatively, narratives explain 32% and 18% of the output reductions over the early 2000s recession and Great Recession, respectively, and 19% of output variance.
News Bias in Financial Journalists' Social Networks
Guosong Xu
Journal of Accounting Research, September 2024, Pages 1145-1182
Abstract:
Connected financial journalists -- those with working relationships, common school ties, or social media connections to company management -- introduce a marked media slant into their news coverage. Using a comprehensive set of newspaper articles covering mergers and acquisition (M&A) transactions from 1997 to 2016, I find that connected journalists use significantly fewer negative words in their coverage of connected acquirers. These journalists are also more likely to quote connected executives and include less accurate language in their reporting. Moreover, they tend to portray other firms in the same network in a less negative light. Journalists' favoritism bias has implications for both capital market outcomes and their careers. I find that acquirers whose M&As are covered by connected journalists receive significantly higher stock returns on the news article publication date. However, these acquirers' stock prices reverse in the long term, suggesting market overreaction to news covered by connected journalists. Around M&A transactions, connected articles are correlated with increased bid competition and deal premiums. In terms of future career development, connected journalists are more likely to leave journalism and join their associated industries in the long run. Taken together, the evidence suggests that financial journalists' personal networks promote news bias that potentially hinders the efficient dissemination of information.
The statistics of cognitive variability: Explaining common patterns in individuals, groups and financial markets
Jian-Qiao Zhu et al.
Cognition, September 2024
Abstract:
Psychological variability (i.e., "noise") displays interesting structure which is hidden by the common practice of averaging over trials. Interesting noise structure, termed 'stylized facts', is observed in financial markets (i.e., behaviors from many thousands of traders). Here we investigate the parallels between psychological and financial time series. In a series of three experiments (total N = 202), we successively simplified a market-based price prediction task by first removing external information, and then removing any interaction between participants. Finally, we removed any resemblance to an asset market by asking individual participants to simply reproduce temporal intervals. All three experiments reproduced the main stylized facts found in financial markets, and the robustness of the results suggests that a common cognitive-level mechanism can produce them. We identify one potential model based on mental sampling algorithms, showing how this general-purpose model might account for behavior across these very different tasks.
Do sell-side analysts react too pessimistically to bad news for minority-led firms? Evidence from target price valuations
Kathy Rupar, Sean Wang & Hayoung Yoon
Journal of Accounting and Economics, forthcoming
Abstract:
We find that the adverse impact of bad news on analysts' valuations is 57% larger when the CEO is Non-White, resulting in more pessimistic valuations for Non-White CEOs relative to their White counterparts. Non-White CEO firms are more likely to surpass analysts' valuation targets in the subsequent 12 months, suggesting that this racial gap lacks economic justification. To provide further evidence of a racial bias: (1) we triangulate our empirical findings with corroborating evidence from a controlled experiment and (2) we provide evidence that analysts' valuation disparities towards Non-White CEO firms become larger when race relations are worse. Increases in CEO familiarity attenuate these disparities, suggesting the bias we document appears to be subconscious. Our findings suggest that resources allocated towards educating a firm's stakeholders about the potential impact of implicit racial biases and increasing self-awareness may be impactful in promoting equality within capital markets.
Sleep Disruptions and Information Processing in Financial Markets
William Bazley, Carina Cuculiza & Kevin Pisciotta
Management Science, forthcoming
Abstract:
Despite evidence of the importance of sleep for cognitive performance, prior research finds limited effects of sleep disruptions on financial markets. This is puzzling because financial decisions rely on higher-order cognitive processes that are typically affected by sleep. We reconcile this dissonance by examining forecasts of corporate earnings by nonprofessional and professional forecasters. We find that nonprofessional forecasters exhibit a significant decline in their forecast accuracy following spring daylight saving time changes relative to professional forecasters. Using a separate sample of professional equity analysts' forecasts, we continue to find that the information processing of analysts with less expertise is disproportionately negatively affected following sleep disruptions. Placebo tests provide support for sleep disruptions as the main driver of these effects. Overall, our evidence that information processing by less experienced and skilled market participants is particularly vulnerable to sleep disruptions provides one compelling reason why aggregate financial markets seem to be immune to sleep effects even though individual participants are not.
The Wikipedia effect: Analyzing investor attention for strategic investment decisions
Chaehyun Pyun
Economics Letters, August 2024
Abstract:
The industries with the highest increase in Wikipedia page views are the telecommunications, consumer durables, and high-technology sectors. On average, firms with increasing views have higher returns, lower earnings per share, and higher price-to-earnings ratios. Moreover, long-short investment strategies using changes in Wikipedia page views yield profitable portfolio returns, outperforming the market. Factor model regressions demonstrate that these portfolios exhibit positive abnormal returns relative to various benchmark models. In particular, the high-minus-low portfolio shows statistically significant alphas that common risk factors cannot explain. The findings suggest that changes in firms' Wikipedia page views are a valuable indicator of stock performance.