Words biz reporters use can predict bank stock performance

The frequency of negative phrases such as “financial crisis” and “credit crunch” in news coverage is a better predictor of bank stock performance in subsequent months than the reverse — that is, than bank stock performance predicted negative news coverage, according to research coming out in the Journal of Economic Behavior and Organization.

“These findings may imply that journalists not only report on the state of economic reality, but also play an active role in creating it,” write Tomasz Piotr Wisniewski and Brendan Lambe of the University of Leicester. “Investors acting upon sentiment implicit in media reports would have been able to improve their investment performance.”

The researchers looked at bank stock market indices in the United States, Britain and Canada from 2005 to 2010 and compared the drops in the indices to the frequency of phrases such as “credit crunch,” “financial crisis” and “bank failures” in the media.

Their conclusion was that the current climate in journalistic opinion can influence the future valuations of bank stocks.

However, the researchers noted that they do not believe that journalists can forecast future events better than investors. They noted that there are 10 times more investors in the United States than journalists, and that the investors have greater resources.

“Secondly, journalists do not bear financial responsibility for expressing their opinions on the state of the economy, whereas traders have to live with the consequences of their predictions,” conclude the researchers.

Still, the authors conclude that coverage can predict future market moves by bank stocks.

“According to our simulations, an increase in negative coverage induces a statistically significant response in the future returns on banking stocks,” wrote Wisniewski and Lambe. “The results from the variance decomposition analysis confirm the conclusions regarding the strength and directionality of the relationship between the published news and the markets. When confronted with these findings, one is inclined to argue that commentators ought to strike a fine balance between exercising their freedom of speech and using overly dramatic language to report current affairs.”

If you’d like a copy of the paper, send an e-mail to croush@email.unc.edu.