Essays in Asset Pricing: Social Media, Retail Trading and Uncertainty

Abstract

Have you ever wondered whether it is worth your time to check social media for stock trading ideas? I have, and this dissertation is dedicated to understanding retail traders, social media, and uncertainty. It consists of three chapters that address questions around (1) the information content of social media (Reddit r/WallStreetBets) and the role of Reddit influencers, (2) the role of Robinhood retail traders in the stock market and provides an explanation for the inconsistencies in the literature, and (3) the relationship between two types of retail traders (Robinhood traders vs. TAQ traders), their interactions, and how social media affects retail trading.Chapter 1 aims to provide an understanding of the social media Reddit, particularly the subreddit r/WallStreetBets (WSB). In this chapter, I describe the data scrapping process and construction of various Reddit WSB activity measurements (daily discussion attention, all attention, sentiment based on Loughran and McDonald (2011), and sentiment based on Hutto and Gilbert (2014)). I further analyze the information content of Reddit WSB that entails (1) stock return predictability of WSB activities, and (2) whether Reddit WSB users respond to the firm’s fundamental information, proxied by firms’ key developments. At the end of this chapter, I explore how Reddit WSB influencers affect the subreddit under the theoretical guidance of Pedersen (2021). My findings suggest that Reddit WSB can predict stock returns over a 10-day period and respond to most of the firms’ key development events. Contrary to the common belief, the Reddit WSB influencers’ activities do not predict the attention/sentiment of the entire subreddit. This chapter adds to the literature on social media, social networks, and retail trading. The second chapter of my dissertation provides theoretical and empirical evidence on the impact of Robinhood (RH) traders on stock uncertainty1. We find that RH traders increase idiosyncratic risk but decrease total volatility. We are able to bridge contradictory findings in the literature on the effect that RH traders have on total and idiosyncratic volatility. We support our findings by showing that, in general, RH traders react to firm-specific news, which increases idiosyncratic risk, a risk that can easily be diversified away. Finally, we show that sentiment derived from the Reddit social media platform explains a significant portion of the investment decisions of RH traders. Lastly, chapter 3 aims to provide more stylized facts about the similarities and differences between RH and TAQ traders. TAQ traders are the general retail traders that can be identified in the NYSE Trade and Quote (TAQ) database, based on the algorithm proposed in Boehmer et al. (2021). My findings confirm that RH and TAQ traders respond to information on social media differently, as many market surveys suggested. I am also interested in the interaction between different types of retail trading, as Pedersen (2021) suggested, rational investors can follow fanatic trading under some circumstances to make profits. I find a weak relationship between TAQ and RH net buying. When zooming in on a group of popular stocks on either RH or Reddit, RH net buying is negatively related to stock return, and positively related to firms’ idiosyncratic volatility, while the TAQ marketable order imbalance is on the opposite, establishing a positive relationship with stock return and negative relationship with idiosyncratic volatility. These findings indicate that RH traders exhibit more noise trading characteristics, compared to TAQ traders.