Traditional fundamental and technical analysis is giving way to strategies based on machines and unique data sets. One such approach: tracking event-driven news. With computer reading of news on the rise, Wall Street is changing how reporting is digested. Many hedge funds and quants have thus developed ways to trade the markets based on news and social media sentiment, confidence, and story counts.
A machine can read news and take action faster than any human. Most adults can read about 200 words per minute, which means it would typically take about three minutes to power through a 600-word article. During the time you’ve got your nose buried in that piece, the stocks or bonds in your portfolio might have been mentioned in hundreds of social media posts and news articles. It’s impossible for a human to keep up with that deluge of real-time data. That’s where distilling sentiment from news and social media provides an advantage.
Appling such techniques to flag a news story or tweet as being relevant for an individual stock and then assign a sentiment score to each article or tweet in the feed.
When applied to trading, sentiment can simply be used as a directional signal to figure out whether you should be long or short stocks within your portfolio or universe. A typical behavioural assumption is that if there’s positive news on a company, its share price will rise and vice versa.
A news sentiment analysis tool that leverages this speed with machine-learning techniques to determine news and social sentiment from text, generated in real time. This tool can be used to determine the optimal strategy for trading based on news sentiment data for companies or broader indexes.
As an example let’s take a look at Transocean. The Switzerland-based offshore drilling contractor was doing well until oil slumped following the OPEC meeting that wrapped up on May 25. Shares of the company plunged 7.6 percent that day, leaving them down 4.5 percent for one year, compared with the S&P 500’s rise of 16 percent during the period.
By trading Transocean based purely on news sentiment — that is, buying when the sentiment was positive and selling when negative? Doing so could have generated a gain of about $87,880 once optimized as of May 25, vs. the loss from a simple buy-and-hold strategy.
This example, of course, doesn’t take into account transaction costs. And, as the saying goes, past performance is no guarantee of future returns.
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