Investment Value of the Wall Street Journal's Smart Money Stock Screen, The

International Journal of Business, Spring 2008 by Habegger, Wendy D, Pace, R Daniel

ABSTRACT

We document positive (negative) abnormal returns and volume associated with long (short) recommendations published in The Wall Street Journal's Smart Money Stock Screen. Even though the recommendations are free, long positions have a cumulative abnormal return of 1.17% and the short recommendations have a cumulative abnormal return of -5.85% return. Our results are consistent with previous research, regarding the initial price reaction to a daily news event. Unlike most previous research, our results indicate a more permanent price change.

JEL Classification: G11, G12, G14

Keywords: Wall Street Journal; Stock recommendations; Event studies; Abnormal returns; Trading volume

I. INTRODUCTION

A recent addition to The Wall Street Journal (The WSJ) is a weekly feature Smart Money Stock Screen (SMSS). SMSS recommends a small number of positions, averaging 8.2 positions per week. We find firms recommended, demonstrate significant appropriate returns (given long or short recommendation), and significant volume increases. These results are consistent with previous research findings studying other recurring WSJ recommendations, analysts' recommendations, expanded definitions of market efficiency (Grossman and Stiglitz (1980)) and more recently, televised recommendations (Engelberg, Sasseville and Williams (2006)).

Most studies find price changes associated with WSJ have variable reverting tendencies in the test period1 . The information sources are WSJ articles "Heard on the Street" or "Dartboard." More recently, the CNBC popular show "Mad Money," Engelberg, Sasseville and Williams (2006), find price reactions and reversals within 12 trading days of the show's stock recommendations. The exception is Beneish (1991), who finds price changes associated with WSJ's "Heard on the Street" not fully reversed. Our results indicate that SMSS information around the publication process is associated with price changes and does not reverse. An interesting aspect of the SMSS is that the screens constantly change, effectively adopting a new style. Given the changing styles of SMSS, we evaluate the value of the recommendation rather than a particular screening procedure. A somewhat circular argument is that investment advisory services, such as Value Line, must provide value or else they would cease to exist therefore information provided by such services must have value and the market response to their information is the evidence of that value. The information of SMSS is essentially free with little possibility of threatening the existence of The WSJ (though it may have personal implications for the journalists). Our results indicate that the recommendations are associated with significant price and volume changes. Unlike other studies, we do not find prices reversing during the test period.

Section II is a brief literature review. Section III describes the data and methodology. Section IV analyzes the results. Section V concludes the paper.

II. LITERATURE REVIEW

Lloyd-Davies and Canes (1978) and Beneish (1991) find information in The WSJ "Heard on the Street" (HOTS) find significant market reactions around publication. Liu, Smith, and Syed (1990) find the HOTS column associated with higher volumes and significant price changes. Barber and Loeffler (1993) and Liang (1999) study the recommendation effect from the "Dartboard" column in The WSJ. In this column, analysts recommend one stock each and compare these picks to a random portfolio generated by throwing darts. The analysts' recommendations do show positive and significant returns around their announcement. Again, most studies show price adjustments after the information effect.

One of the most studied information effects in finance is Value Line information. Likely inspired by Fischer Black in 1973, some of the most prominent finance journals have published multiple papers on the Value Line effect2 . Given the potential implications to market efficiency, this is not surprising. In short, Value Line does appear to provide priced information to the market, but the debate of the tradability of these recommendations and the overall Value Line implications to market efficiency continues.

Numerous studies provide evidence that markets respond to information provided by investment advisory services3 . Millon and Thakor (1985) and Stickel (1986) offer frameworks where investment advisors can exist even when based on public information. Womak (1996) analyzes brokerage recommendations as reported in First Call, and finds information returns are significant and prices reflect an immediate recommendation announcement effect and that is sustained subsequent months. These results support the Grossman and Stiglitz (1980) expanded definition of market efficiency.4

III. DATA AND METHODOLOGY

The WSJ publishes a weekly column, SMSS, providing investors a selective list of stock positions. These positions meet SMSS criteria based on changing, weekly topical selections.5 Topic examples are "bargain growth stocks", "future stars", "safe stocks", "insider buying", "casual dining," and "unheard of stocks."6 The position recommendations repeatedly disclaim the recommendations as research starting points and the responsibility of due diligence falls to the investor.