By: Larry MacDonald

A number of studies in peer-reviewed journals have looked at the impact of the media on stock markets. The most recent finds that a portfolio of stocks with no media coverage outperforms a portfolio of stocks with high media coverage by 3% annually (after adjusting for market, size, book-to-market, momentum, and liquidity).

The study, authored by Lily Fang and Joel Peress, is to be published in a forthcoming issue of the Journal of Finance under the title “Media Coverage and the Cross-Section of Stock Returns.” The authors note that the outperformance of stocks not covered by the media is particularly large among i) small caps, ii) stocks with low analyst coverage, iii) stocks primarily owned by individuals, and iv) stocks with high volatility relative to the market. For some of these subclasses, the annual premium ranges from 8% to 12% after risk adjustments.

Highlights from other studies

Another study in the genre is Paul Tetlick’s, “Giving content to investor sentiment: the role of media in the stock market,” which was published in the Journal of Finance in 2007. He did a word-content analysis of one of the most widely read summaries of daily stock market activity, the Wall Street Journal’s Abreast of the Market” column, from 1984 to 1999. He found that a rise in the number of pessimistic words in the column foreshadowed a market downturn the next day.

Tetlick’s view is that professional investors have their own sources of information such that they usually know about the information before it gets published in the media. Readers of the media are thus reacting to “stale” data, causing an overshoot in prices. After they drive the prices of mentioned stocks up or down, sophisticated investors will return prices to their fundamentals by buying the stocks experiencing media-induced dips and/or shorting the stocks with media-induced spikes.

In a 1990 Journal of Business article, “Clearly heard on the Street: The effect of takeover rumors on stock prices,” there is a similar message that new information tends to be discounted in the market before it appears in the media. Authors John Pound and Richard Zeckhauser examine the impact of takeover rumors published in the Wall Street Journal’s “Heard on the Street” and finds “trading strategies based on buying or selling rumored targets’ stocks yield zero excess returns. They also observe that stock prices of rumored takeover targets run up in the month before publication.

In “All that glitters: The effect of attention and news on the buying behavior of individual and institutional investors,” Review of Financial Studies (2007), Brad Barber and Terry Odean confirm the “hypothesis that individual investors are more likely to buy than sell attention-grabbing stocks, e.g., stocks in the news, stocks experiencing high abnormal trading volume, and stocks with extreme one day returns.”

Paul Tetlock, Maytal Saar-Tsechansky, and Sofus Macskassy find in “More than words: Quantifying language to measure firms’ fundamentals,” Journal of Finance (2007) that the fraction of negative words in Wall Street Journal and Dow Jones News Service stories about individual S&P 500 firms from 1980 to 2004 predicts earnings and stock returns.

Felix J. Meschke’s Arizona State University 2004 working paper, “CEO interviews on CNBC,” concludes that stocks of companies whose CEOs were interviewed on CNBC between 1999 and 2001 experienced a strong run-up initially, but in the following days exhibited strong mean reversal so that the “abnormal” cumulative return (i.e. return relative to market) was -2.8%