Social arbitrage investing is a unique strategy that leverages trending topics, social media discussions, and everyday culture to profit in the stock market. If you keep a keen eye on pop culture, there are many opportunities to use this to your advantage as a retail investor. This article highlights everything you need to know about social arbitrage investing.
What Is Social Arbitrage Investing, and How Does It Work?
The social arbitrage investing strategy involves spotting trends before most people and then capitalizing on them. Social arbitrage investors find this information in social forums, Twitter, and other online locations like Google Trends.
By applying the news or data before the general public, social arbitrage investors can create profitable opportunities for themselves.
The best social information arbitrage investors can spot cultural shifts and daily social trends that could impact a stock price before the media and Wall Street analysts find this information.
For the strategy to successfully work, the investor must make the trade before the media starts talking about it. When the discussion begins with the media, the investor will usually sell off the shares.
Social arbitrage provides massive profit potential when there is a noticeable information difference in various markets.
One market presents a certain type of data or information, while another market presents a different viewpoint about the same topic or story. This situation is where social arbitrage is born.
Social arbitrage became an integral part of investing in recent years because of big data, advanced analytics, and social media. Thanks to online forums like Reddit, groups can assemble and pump a specific stock.
Social chatter analysis, also known as sentiment analysis, is a pivotal aspect of social arbitrage investing. On the other hand, bots and spam can provide misleading data to alter the analysis.
For example, the recent GameStop stock surge was a product of social information arbitrage. In January 2020, online users of a Reddit forum (WallStreetBets) communally bought shares of GameStop, a declining video game retailer.
The collective pump sent the stock skyrocketing over 50% in one day. The short-squeeze run ended after a couple of weeks, as we saw the stock tank by 40%.
Why Is Social Arbitrage Investing Important?
Social arbitrage investing is important because many people can use it to their advantage. Spotting essential social trends are challenging and require a keen eye. There is not a secret formula to picking these trends, but an investor needs to reframe their mind and analyze the world around them.
Social arbitrage investing also goes together with social trading. In this form, investors can interact with the financial markets by aligning their trades with peers, thought leaders, and other traders who have more experience than them.
These people broadcast their thoughts about daily trends and movements via Twitter pages, Twitch streams, and other online forums.
Informational arbitrage allows new investors to not only learn about the world around them but also enables them to learn the fundamentals of investing.
When they follow these thought leaders, they will learn about informational arbitrage, but they will also receive a crash course on investing in the stock market.
Is Social Arbitrage Investing Legal?
Social arbitrage investing is not only a legal strategy in America but also a positive action for markets. Arbitrage traders are a useful component of the market because they serve as intermediaries.
They also deliver liquidity in the different markets. When a trader tries to gain profits from price discrepancies, they help guide market efficiency.
How Risky Is Social Arbitrage Investing?
There is certainly risk involved in social arbitrage investing. The strategy applies leverage to boost returns, leading to further risks with non-standard price movements.
If the investor waits too late to sell off the shares, they could lose a lot of money.
See Related: Best EV Battery Stocks
Pros and Cons of Social Arbitrage Investing
As you decide if social arbitrage investing is the right thing for you, there are a few pros and cons to consider.
Pros of Social Arbitrage
First, social arbitrage is a strategy that is good and useful for everyone. It forces investors to be more mindful and analytical about the world around them. Because social arbitrage is dependent on identifying trends, people will become more aware of their everyday happenings.
The trade results from social arbitrage also make markets more efficient. Prices will eventually settle around what the stock is worth. Social arbitrage investing also increases liquidity within the stock market.
This investing strategy allows beginner and experienced investors to make a profit but feel satisfied with it, too.
Another positive is the uncorrelated performance aspect that comes along with social arbitrage investing. When it is price-based, these opportunities allow your portfolio to provide diversified returns.
Therefore, you will have a much more favorable risk-adjusted performance in the long run. If you focus on impactful market information, your asset or stock can increase in a red market.
Cons of Social Arbitrage
First, social arbitrage investing is extremely difficult. There is no set formula to being successful at social arbitrage investing. Popularity around a certain cultural trend, keyword, or topic is no guarantee of hitting it big on a specific stock.
Secondly, consumer trends are constantly changing, making it difficult to understand if the trend will continue. It is also somewhat challenging to know for how long the information will be available in mainstream news. Knowing when to sell your position is a tough timing test.
Leverage is one of the biggest downsides of social arbitrage. Although you may be sure of your information and potential profit, overconfidence can be a double-edged sword.
The wrong choices can lead to overleveraging, which could cause price move outliers. Eventually, this could cause the investor to lose a large chunk of their money.
One overlooked drawback of social arbitrage is the costs associated with making the trades. Unless you use a commission-free app, there are taxes, transaction costs, and other fees connected with selling and purchasing shares. Data costs are also another expense to consider.
See Related: Socially Responsible Investing
Social Arbitrage Examples
Now that you understand the basic concepts of social arbitrage, here are some real-life examples where social information played a huge role in the stock movement.
We highlight Chris Camillio, an investor who turned $10,000 into $21 million through the strategy. Chris began as a typical retail investor and is now the founder of a social data intelligence company called TickerTags.
Target
In 2011, Target began selling the clothing line of Missoni, an Italian Fashion House. When he shopped at Target, he saw that the entire line of products sold out within a couple of hours. The same thing happened at Target stores across the United States.
This pivotal information had not made it to Wall Street, so he invested in the stock. The price then tripled in a matter of a couple of days.
LeapPad
The LeapPad Explorer was a child education toy that saw a spike in its annual sales in 2011. These sales numbers produced monumental returns. Initially, the stock traded at just $3 per share and did not see any noticeable developments in its business model before the LeapPad Explorer.
However, a group of bloggers aimed at the mom niche saw the writing on the wall before wall street did. They predicted the increased demand for the device because they were writing about it.
Investors who were attuned to these blog communities would have benefited greatly from the stock price surge.
E.L.F. Beauty
YouTube personality Jeffree Star, who had over 16 million subscribers at the time, showcased E.L.F. Beauty’s Camo Concealer make-up product. This product placement was critical because the video amassed around 14 million views.
In turn, the millennial viewers bought the product, which was a sales windfall for E.L.F. Beauty. In six months in 2019, the stock doubled in price. Chris Camillio obtained call options and shares of the company, which helped him maximize his profits.
See Related: 20 Interesting Overconsumption Facts You Should Know
McDonald’s and Travis Scott
In September 2020, the fast-food restaurant released a promotional meal involving the popular rapper, Travis Scott. It was based on his favorite meal and did not have a toy with it. McDonald’s ran out of supplies in just a couple of days, and the restaurant was a big focal point on TikTok.
As the fans bought the meal, the social arbitrage investors saw this as a foreshadowing of McDonald’s post-pandemic success. The stock ended up hitting its annual high just a week after the promotion.
See Related: Overconsumption Facts
Other Types of Arbitrage
To help you gain more of an understanding of social arbitrage, here are some other applications of arbitrage.
Regulatory Arbitrage
Regulatory arbitrage involves taking advantage of gaps to avoid the negative financial impacts of regulatory functions. Traders are successful at regulatory arbitrage when they utilize financial engineering, reformat their transactions, and move to more advantageous locations.
For example, a firm may move its operations to a geographic area where there are more friendly compliance measures.
Statistical Arbitrage
Statistical arbitrage is a common algorithmic strategy utilized by big investment banks and hedge funds. The trading takes place within a few days or hours, so it differs from a trading technique at high frequencies.
This investing strategy takes advantage of pricing abnormalities within multiple financial instruments. Statistical arbitrage investors use complex data modeling and statistical methods here.
Municipal Bond Arbitrage
Municipal bond arbitrage is when investors capitalize on a municipal bond’s status as tax-exempt. This strategy can also take place when an investor performs an interest swap to create a highly leveraged portfolio. That way, they can decrease credit risk and duration.
Spatial Arbitrage
Spatial arbitrage, also known as locational arbitrage, is when someone exploits a price difference between different exchanges or platforms.
This strategy is popular in cryptocurrency and forex trading. Spatial arbitrage involves an investor purchasing cryptocurrency coins on one platform at a lesser cost and then selling them on a different platform for a larger price.
Related Resources