The view from the crowd

November 16, 2016 11:00 AM
The study of crowdsourcing has evolved thanks to greater data analysis and efficiency. So, how effective has crowd-based data become for traders?

Since the inception of Modern Trader, a core editorial theme has centered on the wisdom and power of crowds. Editorial emphasis has focused on companies and projects engaged in the collection and analysis of information. 

Estimize emphasized the power of crowd-sourced earnings and economic estimates; the firm found that projections from its more than 6,000 suppliers of forecasts and earnings estimates were 70% more accurate than the pros on Wall Street (see “Mob rules,” below). 

“The old way Wall Street used to collect data was still crowdsourcing to some respect, it was just poorly done,” Estimize founder and CEO Leigh Drogen says. “They had a small sample set of analysts from similar biographical backgrounds with the same information, and severe herding and biased behavior. True crowdsourcing consists of large sample sets, broad biographical backgrounds, people with differentiated information and less bias.”

Meanwhile, TipRanks – a platform that ranks the top professional analyst and blog writers on their stock ratings – found that the amateur bloggers ranked higher than the paid Wall Street professionals. The firm began licensing that information to hedge funds and told them which real experts to be follow on stocks in the future.

Finally, University of Pennsylvania’s Philip E. Tetlock and his team unveiled the Superforcasters and the Good Judgment Project, “a rigorous forecasting competition that matched thousands of amateurs against some of the world’s most prominent prognosticators and prediction algorithms.” 

According to the Good Judgment Project, “the amateurs delivered far more confident, accurate forecasts. Even more surprising, some members of the top 2% of participants did not hold the professions or statistical background one might expect. Among the scientists, mathematics professors and financial engineers were a housewife, a welfare case worker, an opera director and a local pharmacist.”

“Superforecasters are from all walks of life,” said Good Judgment Project SVP Warren Hatch at the time. “Having expertise [in a field] does not mean you will have better forecasting accuracy.”

The growing adoption of crowd-sourced information and opening up problem-solving to more amateur audiences has fueled more robust informational platforms, improved the democratization of information and created a more engaged, intelligent audience. 

So, how did we get here, and what’s next for investors?

Where Crowdsourcing Succeeds

Crowdsourcing isn’t limited to the world of finance or the last 10 years, but it’s a term that has only been around for a decade. Back in 2006, author Jeff Howe coined the phrase in Wired magazine.

The concept has been a source of democratization of information for centuries, according to Howe. Back in 1714, the British Government engaged in one of the first known forms of crowdsourcing. The government sought a solution to the “Longitude Problem,” a challenge of determining sea location that had killed thousands of sailors every year and made exploration and transport more dangerous. Many considered this problem to be unsolvable at the onset of the Longitude Act of 1714, which is why the prize of £20,000 (roughly $4.7 million in 2010) was such a source of motivation to spur innovation. A carpenter’s son named James Harrison developed the “marine chronometer” over a process of 31 years to determine celestial navigation. 

Today, technology has accelerated crowdsourcing capabilities. The process is about using the wisdom of crowds to determine the best expectation from the widest audience. It’s a widespread phenomenon from social rating sites like Yelp (YELP) and TripAdvisor (TRIP) to the popular game show, “Who Wants to Be a Millionaire.” One might recall that one of the three lifelines offered to contestants was the ability to ask the audience. According to estimates, the wisdom of that audience determined that the collective answer was 91% accurate compared to a 61% rate for a single “expert” on a topic. 

Companies around the country have relied on crowdsourcing for marketing campaigns, operational feedback, and engineering feats. Doritos has used crowdsourcing to develop its annual Super Bowl advertisements to great results: For nine years in a row, Doritos’ Crash the Super Bowl advertising contest has produced the top-ranked commercial for the annual big game, according to USA Today’s Ad Meter Rankings. And Idea Connection – through a crowd-sourced innovation contest – developed astronaut gloves to improve performance during space walks.

The expansion of crowdsourcing also includes identifying ways to determine solutions to social challenges. The platform OpenIDEO has opened up design processes to anyone to brainstorm, concept, and offer feedback on ideas to fix problems. The process ensures feedback on a regular basis until the community creates and supports an idea.

But for investors, crowdsourcing of information has provided a critical variable in the world of finance. This extensive analysis of data has helped reduce information inequality that has hindered the markets and favored some classes of investors over others.

What Makes This Work?

Some firms have made significant strides in the crowdsourcing of financial information. Estimize, which has been profiled several times in Modern Trader, has established Forcerank (see “Forcerank,” page 16). Vetr, another analyst crowdsourcing platform, provides investors with a greater sentiment of their communities’ ratings on stocks. Meanwhile, HedgeCoVest has allowed everyday traders to execute a variety of hedge fund strategies in their trading accounts, naturally with a much smaller pool of capital. All three have earned significant praise from the Benzinga Fintech Awards. 

The topic continues to center on the democratization of financial information. Just three years ago, three academics released a report “Wisdom of Crowds: The Value of Stock Opinions Transmitted Through Social Media,” in the Review of Financial Studies.

Its subject: Seeking Alpha. The researchers examined 100,000 articles and opinion pieces between 2005 and 2012. The researchers from the City University of Hong Kong, Purdue University and Georgia Institute of Technology determined that Seeking Alpha’s bloggers provided better expectations on stock returns and “earnings surprises” than mainstream financial media pundits or Wall Street analysts. 

So, Why Does Crowdsourcing Work? 

Author Hutch Carpenter explains that the answer can be attributed to cognitive diversity. Specifically, he places the focus on two distinct concepts, the idea that diversity of opinions and insights spurs superior results and solutions, and that cognitive diversity expands traditional networks of experience, education, knowledge and organizations. 

As noted, Superforecasters’ success in predicting future geopolitical events isn’t merely the result of putting 20 PhDs in political economy in a room. Adding the insights of diverse backgrounds, knowledge sets, and cognitive abilities establishes a more robust set of answers. Carpenter cites a study that seems surprising at first but makes more sense the more one understands the statistical value of crowdsourcing. In the 2006 study, “The Value of Openness in Scientific Problem Solving,” researchers from Harvard Business School, Copenhagen Business School and InnoCentive found problem-solving of difficult scientific challenges is three times more likely if “a person’s field of expertise is seven degrees outside the domain of the problem.” Simply put, problem solving shouldn’t always be left to the experts.

Moving forward, the field of crowdsourcing will continue to accelerate, offering investors a better understanding of how more data and more diversity has the power to provide stronger returns.

About the Author

Garrett Baldwin is the Managing Editor of the Alpha Pages and the Features Editor of Modern Trader. An author and Baltimore native, he earned a BS in journalism from the Medill School at Northwestern University, an MA in Economic Policy (Security Studies) from The Johns Hopkins University, an MS in Agricultural Economics from Purdue University.