Traditionally, the famous efficient market hypothesis holds that the engine of financial markets is governed by rational calculations. However, aside from various algorithms and high frequency trading, traders are human and their mood matters. A new study led by London Business School professor Alex Edmands has found Spotify and its music trends the perfect data set to capture market sentiment and its potential implications.
Drawing on previous research, which indicates that people’s musical choices reflect their temperament, Edmands, along with his co-authors Adrián Fernández-Pérez and Ivan Indriawan, both from Auckland University of Technology, and Alexandre Garel, from Audencia Business School, have dissected the listening data aggregated by country that Spotify offers as well as the algorithm that classifies the positivity or negativity of each song …
Thus, for example, September, from the group Earth, Wind and Fire, is the most positive song in the collected data set, while Legion Inoculant, from TOOL, the most negative. With these data, the authors have calculated what they describe as Musical Sentiment, a measure of the sentiment of a country expressed by the positivity of the songs that its citizens listen to.
In their results, the authors conclude that an increase of one standard deviation in Musical Sentiment is associated with an increase of 8.1 basis points in the stock market of a country during the same week (4.3% annualized). It also leads to a decrease of 7 basis points the following week (3.7% annualized). That is, they identify that the musical sentiment is positively correlated with the returns of the stock market of the same week and negatively with the returns of the following week, which is consistent with the temporary mispricing induced by the sentiment.
The results are also justified in daily analysis and are strongest when trade restrictions limit arbitrage. Additionally, musical sentiment predicts increased net mutual fund flows and absolute sentiment precedes increased stock market volatility. It is negatively associated with yields on public debt, consistent with a flight to safety.
Although many of these studies may seem curious, they are intended to address an important academic question in determining whether the stock market is driven by fundamentals or by sentiment. Music or sporting events, among others, are measures of sentiment more apt to measure an individual’s state of mind because they do not have a direct economic impact, so that any reaction of the stock market can be attributed to sentiment, according to the authors. who have conducted this study.
The feeling of music and sports
In other previous studies, Edmans found that when a country is eliminated from the World Cup, its stock market falls an average of 0.5% the next day due to the negative effect on investor mood. Former Bank of England chief economist Andy Haldane has already noted that Spotify listening data is capable of predicting consumer spending at least as well as consumer confidence surveys.