What Is the Media Effect?

The media effect describes how certain stories that the media publishes may influence and/or amplify current market trends. If this theory holds true, after reading a headline or article, borrowers and/or investors will be influenced to act quickly on the news. The media effect is often seen in the mortgage market, when prepayment rates can sharply increase following specific news stories.

Media Effect Explained

Many attribute increases in the number of refinanced mortgages during low interest rate periods to the media effect. For example, during such a period the New York Times often runs stories detailing the drop in interest rates and how this relates to mortgages. Those who read these articles are likely to increase the prepayment rates on their mortgages and refinance accordingly. Investors also observing these trends could take positions based on the immediate release of the news, anticipating the increase in re-financings.

Popular news services that many investors watch include Barrons, the Wall Street Journal, the New York Times, Bloomberg, Seeking Alpha, Quartz, and more.

Media Effect and Trading Strategy

In contrast, with many fundamental investors, who spend a great deal of time researching and debating about whether or not to take a position in a particular security, the media effect is more closely correlated with short-term trading strategies. Instead of buying and holding a particular company or asset class for a prolonged period of time, investors that adhere to the media effect could buy and sell a particular security within a one-day or one-week time period. For example, if the Wall Street Journal runs a negative story ahead of a high profile company like Tesla’s (TSLA) earnings results or prior to the rollout of a new technology update, investors could short TSLA stock.

Shorting involves borrowing company stock from a broker and immediately selling the stock at the current market price. Proceeds from this sale are credited to the short seller’s margin account. At a future time, the short seller will then cover the short position by buying it in the market and repaying the loaned stock to the broker. The difference between the sale price and the purchase price represents the short seller’s profit or loss. 

For example, let’s assume TSLA is trading at $300 per share, and an investor believes the price will decline in the near-term as competition has increased. The investor may “borrow” shares from a broker, and sell them at the current price. When a competitor comes out with a similar energy efficient car model, and TSLA price drops to $290 as predicted, they can then purchase the shares back and return them to their broker for a $10/share gain.