The perils of social investing | Value Research For investors, social media has opened new pitfalls and deepened some of the older ones
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The perils of social investing

For investors, social media has opened new pitfalls and deepened some of the older ones

A couple of days back, SEBI issued a press release detailing its crackdown on social media-based market manipulation schemes. In this episode, SEBI raided a number of premises and made seizures that revealed an impressively large social media operation. This gang was operating nine Telegram channels with a total of 5 million subscribers. The modus operandi of the operators was that they would buy large positions in some stocks, then use their following on social media to trigger large-scale buying and when the prices shot up, they would unload the stocks at a large profit.

There's nothing new about this activity - it's as old as the market itself. Buy something, pass around some 'tips' and spread rumours to boost the price. What has changed over the years is the mode of communication. The reach and the speed are much higher and the detectability is somewhat lower. The move from oral communication to SMS and now social media has made things worse.

However, looking around at what traders are actually doing shows that this kind of organised racketeering is actually less of a problem than what could be called unorganised or spontaneous price manipulation. The classic case is the GameStop story from the US which happened around late 2020 to early 2021. Gamestop is a US store chain that sells computer games. Given the shift to online game delivery and the general retreat from physical stores because of the virus, it was considered a dying business and was being heavily shorted, primarily by a hedge fund named Melvin Cap. Then, a group of people on the Reddit online community, specifically in the 'wallstreetbets' subreddit, figured out that Melvin was shorting the stock heavily and started an online campaign in their community to buy the stock and trap Melvin into a 'short squeeze'. 'wallstreetbets' has close to three million members and the campaign was wildly successful. The Gamestop stock went up about 10 times in less than a month and short-sellers are said to have lost 5 billion dollars during this time. The power of social media to mobilise crowds is an unknown quantity in the investment markets and we are really only beginning to get a taste of it now.

Nothing public like this has happened in India but there are any number of social media trading tips rings that appear to be unorganised but have a sizable scale and impact. People who participate in some of them can see the price impact of information that is being passed around and yet, they don't appear to be top-down because a large proportion of users pitch ideas and discuss (fight) over them. There's plenty of public action like this on Twitter and some on Facebook as well. It's hard to believe that these are not having a material impact on how people view investments.

The old 'tip' mental model is still alive and well - there are people who know the secret of which stocks are going up, and if they tell me I can make money. Except that social media seems to have generated an illusion of control. People feel that they are digging out information themselves and doing their own 'research'. Not just that, they are contributing their own research back to this community. Two decades ago, when business TV channels really took off, I used to be surprised at the intensity with which the anchors would comment on the most mundane movements of the indexes and assign reasons to what was essentially randomness. I thought that was information overload and would prevent people from thinking clearly about investments. Now, with social media taking over, the noise and the information media are probably a hundred-fold.

There's another problem, which is that somehow, social media seems to lend itself to more strongly held opinions. From COVID to cricket to Ukraine to investments, people are so certain of themselves, often without any basis at all. All in all, it's not quite clear that for investors who are not grounded in the basic principles of investing, social media is a positive force. SEBI can crackdown on the racketeers, but regulating one's behaviour is something that investors have to do themselves.

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