The ECB says Twitter can predict the stock market

The European Central Bank (ECB) just put out an interesting study looking at whether Twitter and Google can be used to predict stock market moves - and its conclusion is, for Twitter, it can.

The ECB says: "Twitter bullishness has a statistically and economically significant predictive value in respect of share prices in the United States, the United Kingdom and Canada."

In other words, what people are saying on Twitter can tell you whether stocks are going up or down that day.

The central bank used daily tweets containing the words "bullish" or "bearish" to gauge how positive investors were feeling about the market on a given day, then mapped that on to actual stock market moves.

The ECB admits its a pretty blunt tool to measure such a slippery concept as "investor sentiment" - the gut feeling people are getting about companies and markets that can move prices. But it turns out Twitter is a better indicator than flipping a coin.

The ECB found that a one point move on the Daily Sentiment Index, a survey currently used, leads to a 2.26 basis points rise in daily Dow returns. But the same change in the ECB's Twitter sentiment indicator is followed by a 12.56 basis points increase in Dow returns on the following day.

"This impact is statistically significant at the 99% confidence level," says the ECB.

The ECB concludes that Twitter bullishness "can be a more powerful predictor of changes in the stock market than survey-based indicators."

Twitter bullishness also leads Google. The ECB tested if searches for "bull market" and "bear market" on Google had any correlation with stock market moves, but found this measure lagged Twitter and was less precise.

The ECB points out though that while Twitter is a pretty good barometer, it only works in the short term. Here's the bank: "High Twitter bullishness indicates an increase in daily returns on the following day, with there being a return to normal levels within the next two to five days."

In other words, don't base any long term investments on the ECB's new Twitter sentiment index.

Interestingly, the bank also notes that while Twitter sentiment can indicate shifts in UK, US, and Canadian stock markets, it doesn't work for China. The ECB says people should do a similar study on popular local sites such as Weibo to see if there's a similar link.