Obviously the juxtaposition of social trading with the ills of social media is meant to be provocative, but it’s not necessarily unfair. After all, social trading is basically the application of the principle of social media to the sphere of trading – I can see what you’re doing, you can see what I’m doing; let’s all share the crushing banalities of our lives as if they are somehow interesting.
In social trading, what’s shared is a punter’s trades. They are on a platform – ie, a website – for all to see. The platform provides contracts for difference to bet on price movements in the usual macro stuff – major equity indexes, currencies, commodities. From this process, perhaps more in theory than in practice, emerge so-called ‘signal providers’, social trading’s main draws, the equivalent of – God help us – Kim Kardashian (pictured) or Lily Allen. These attract lots of followers, the punters who effectively select them to be their fund manager to the extent that the signal providers’ trades are automatically replicated in the followers’ accounts.
Social trading may well be fast growing, At least, one of its main providers, Ayondo, whose activities are chiefly in the UK and Germany, says its active accounts rose from 5,000 to over 37,000 in nigh-on three years to September 2017. It also says, according to research it recently commissioned, that one in four retail investors in the UK is considering trying social trading, which – of course – also implies that three out of four aren’t. So which punters are smarter – the sizeable minority who might give it a go, or the substantial majority who probably won’t? Put that another – and blunter – way: does social trading work?
Not according to research published early this year from a group of academics at Germany’s University of Regensburg, who analysed returns from clients of Ayondo and Wikifolio, a social-trading platform with a slightly different business model. Using data on trades between 2009 and 2016 on 6,000 accounts run by Ayondo and Wikifolio, the academics tested three notions.
The first was that the more a signal provider built risk insurance into his portfolio, the higher the subsequent returns. Sure enough, various risk-adjusted strategies did provide better returns than so-called ‘naïve’ strategies, where, each month, funds were invested in the five signal-providing portfolios showing the best overall performance since their launch. However, ‘better returns’ should really read ‘less worse’ since, without exception, the risk-adjusted strategies generated did not come close to generating the returns produced by the Dax 30 index of leading German equities, especially after trading costs were accounted for.
Second, was the idea that the more trading in a portfolio, the lower its returns, which turned out to be the case. As is the case throughout the securities industry, excessive trading is great for the agents who provide the service but is a heavy tax for the principals putting their capital at risk.
The third notion was that crowds have wisdom, so portfolios with lots of followers tend to produce higher returns. The proposition is sound, but it was not borne out by this research. For portfolios on Ayondo’s platform, the academics could not find a significant relationship between the number of followers and returns one week later. For Wikifolio the result was mixed yet, paradoxically, the best wisdom-of-crowds effects (though presumably small crowds) was shown by portfolios below the most popular.
Sure, these findings could be just another stick with which to beat day traders since those who populate the world of social trading are mostly frequent traders – check out Ayondo’s website and it’s full of guys who trade several times a day. But it is foolish to assume both the idea that social trading is intrinsically flawed and that social traders are mugs.
After all, by its nature, investing and/or punting is a social game. True, the very best ideas need to be kept under lock and key (at least until they have been executed), but the problem with that thought is that no one truly knows in advance which are the best ones. Meanwhile, social trading is arguably just a technological extension of what has happened since markets began – people follow successful traders or those who manage to convince others they are successful. In that sense, it is not much more than a real-time news letter. Also, you might imagine it would generate positive feedback loops as the portfolios of followers are automatically loaded up with what the signal providers have just bought, but apparently not.
Perhaps that simply re-enforces the idea that any form of day trading is a losers’ game – fun to play but essentially a way to lose money. True, there will be the occasional winner, statistics see to that. But on average – and chiefly thanks to the costs they clock up – punters lose. In that light, social trading becomes yet another advertisement for passive investing in low-cost index trackers. Boring, but profitable.
