Hamish McRae: Need a valuable handle on investor sentiment? Google it

From Hamish McRae, published at Sat Apr 27 2013

Anyone seeking a magic formula for stock market investment will be intrigued by the study in Nature Publishing's Scientific Reports by three academics, Tobias Preis, of Warwick Business School, Helen Susannah Moat, of University College London, and H Eugene Stanley, of Boston University.

They looked at changes in Google query volume for search terms related to finance and then looked for patterns that might give an early warning of stock market moves. In particular they looked at the number of queries on Google then derived a trading strategy that would have meant that anyone investing in the US market in 2004 would have more than tripled their money.

In particular they looked at changes in the frequency of 98 terms, such as "revenue", "unemployment", "credit" and "nasdaq", in Google searches from 2004 to 2011.

They found that: "Google Trends data did not only reflect the current state of the stock markets but may have also been able to anticipate certain future trends. Our findings are consistent with the intriguing proposal that notable drops in the financial market are preceded by periods of investor concern. In such periods, investors may search for more information about the market, before deciding to buy or sell."

If you are interested in the detail, read the article – get Google to find it for you – but before you conclude that you have hit on a way of becoming extremely rich, consider this. If a lot of people applied the same formula and used it to time buying and selling, the market would then start to react in a different way. The formula would no longer give an early warning of what investors might do because they would be doing it already.

In any case, there are other options to a "buy and hold" strategy, for example by looking at long-term valuations and seeing when markets diverge materially from their normal range. But what Google searches can do is give a measure of investor sentiment and sentiment matters massively in all investment.