Stocks featured in cover stories could be ripe for contrarian action
The internet has changed the way investors consume stock market news. There is a surplus of investing information out there now, all jockeying for your attention. However, one thing that hasn't changed is the magazine cover story as a sentiment indicator. Today, we're going to discuss how a contrarian trader can profit off these cover stories.
Why Cover Stories Are Lagging Indicators
This piece is not meant to deride news publications for poor content. The purpose of cover stories are, quite simply, to report the news. They want to attract your attention. Their priority isn't to gauge what a stock will do in the coming months; their priority is to report on what is newsworthy at the time.
As a result, when you read a cover story in The Wall Street Journal or Forbes, that trend is likely already widely known, universally accepted, and has been in place for a relatively long time. This is especially the case when a general interest news outlet, such as Time, touts the bullish or bearish case for a particular stock.
Given the rapid flow of information through the market, contrasted with the sluggish nature of print publications, we've found that cover stories -- both bullish and bearish -- most often coincide with the culmination of a trend, rather than its inception. By the time a positive or negative outlook for a given stock, commodity, or asset class is a topic of broad enough interest to command real estate on a magazine cover, it's more likely than not that traders have already priced in the same information discussed in the cover story.
Examining the Sentiment Cycle of Bull and Bear Markets
Let's consider how this fits into the "sentiment cycle" sequence. The sentiment sequence off a major bottom (whether for a single stock, or the broader market) can be described as: despair; disbelief; acceptance; and euphoria. Off a major top, the sequence goes: euphoria; disbelief; acceptance; and finally, despair.
The "despair" stage tends to mark a bottom. When "everyone" is bearish, selling pressure has been exhausted, and the next major move is likely to be higher.
Meanwhile, initial rallies off a market bottom -- as well as the initial declines off market tops -- are greeted with "disbelief." Eventually, the new direction for the market becomes sufficiently established and sentiment enters the "acceptance" stage.
And then, of course, the next stop is "euphoria," which often marks a top, as buying power is nearly exhausted and the next major move is down.
"The Genius of Snapchat" Meets The Madness of Crowds
Snapchat (NYSE:SNAP) made the cover of TIME magazine in March 2017, ahead of its much-anticipated initial public offering (IPO). The cover story touted "The Genius of Snapchat." Soon after, Snapchat surged 44% during its first day of trading, with the stock opening at $24 after pricing at a higher-than-expected $17 per share. It reached its lifetime high the day after its IPO, hitting $29.44 on March 3.
The stock has since declined, shedding 20% within the last month. At last check, SNAP was down 4% today to trade at $18.73, flirting with its all-time low of $17.59 on May 11.
Any trader who took the bullish TIME cover as a tip to buy SNAP stock would have been sorely disappointed. The story wasn't an investigation into an as-yet unknown start-up; instead, it was a reflection of the bullish hype and high expectations surrounding the imminent Tech 2.0 IPO. Judging by the charts, the general euphoria reflected by that Snapchat TIME cover peaked almost immediately after the shares started trading -- making that upbeat cover story a solid shorting signal.
How to Use Magazine Covers In Your Trading
Properly gauging cover stories is just one component of contrarian trading, but it is a shrewd way to gain a leg up. Cover stories of major publications should serve as a smoking gun. It is a signal of the collective mood on Wall Street, and an indicator of what the "conventional wisdom" is saying about a given stock.
That said, the cover story indicator is not an actionable contrarian buy or sell signal in and of itself. As part of each trader's usual due diligence, a thorough review of the
fundamental, technical, and sentiment backdrop for each stock should be completed before any new positions are initiated.