Crypto influencers are giving bad investment advice and the SEC is taking notice

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New research reveals that cryptocurrency advice from social media influencers could cause investors to lose money on average. Are regulators doing enough to protect consumers?

Major social media influencers, from celebrities to self-proclaimed financial experts, use their digital platforms to tout cryptocurrency investments to their many followers. Collectively, their influence can convince investors to channel large sums into various crypto tokens or other cyber assets.

So it’s natural to ask, then, how does their investment advice compare?

Not good. The new Crypto-Influencers research study, which I co-authored with Ken Merkley, Mark Piorkowski and Brian Williams, finds that, on average, following the advice of crypto-influencers generated significant negative returns depending on the time period of detention. Also, the more expert the adviser claimed to be, the greater the loss.

It may not be a coincidence that the Securities and Exchange Commission on March 22 announced actions against eight celebrities for illegally touting crypto-asset stocks TRX and BTT for failing to disclose that they had been compensated for that. Those names included actress Lindsay Lohan, social media personality Jake Paul and rapper Soulja Boy. Most celebrities agreed to pay a total of $400,000 to settle the charges without admitting or denying the SEC’s findings.

Crypto-asset entrepreneur Justin Sun and three of his wholly-owned companies, for the unregistered offering and sale of crypto-asset securities and other charges, were also caught in the enforcement action. DRY that day. And last October, Kim Kardashian, one of the most followed celebrities, was among the first celebrities accused of failing to disclose that she received payment for her promotion of the security of EthereumMax crypto assets, which she settled for $1.26 million in penalties.

Until now, cyber-assets and other alternative investment vehicles like NFTs have largely operated as if they were beyond the reach of government regulators, exposing investors to wild price swings in markets with little custody. -crazy and shady dealings by the executives of crypto companies. (Exhibit A: The fall of FTX and the criminal charges against founder Sam Bankman-Fried.)

The findings of our research paper answer your following question: “Why should we care what social media personalities tweet about cryptocurrency?” Because a very large number of probably young or inexperienced investors are duped into buying crypto assets based on the recommendations of influencers, financiers and others, where they lose money while the promoters pocket the profits. A Federal Trade Commission report in June 2022 indicates that investors have lost nearly $1 billion in crypto scams since the start of 2021, with half of that loss coming from social media platforms.

Our research fills an important gap by investigating the investment value of cryptocurrency advice featured on social media. While many studies examine social media activity related to other financial assets, such as stock analysts, research on the role of cryptocurrency influencers is very limited.

One of the main reasons to be wary of social media influencers and their financial advice is that they are potentially very bad at it, as our research reveals. We looked at the buy and hold returns associated with around 36,000 tweets from 180 of the most prominent social media analysts covering over 1,600 crypto stocks for the two years to December 2022.

Our main results indicate that crypto influencers generally recommend investors to buy or hold (rather than sell) crypto assets and that these tweets are associated with positive and significant short-term returns. However, these investment gains quickly fade. Feedback begins to dwindle significantly within the first five days after tweets. The average return from the second to fifth day is -1.02%, suggesting that more than half of the initial gains are eliminated soon after the tweets. Additionally, at longer horizons, the average cumulative returns ending 10, 30, and 90 days after the tweet are -2.24%, -6.53%, and -18.90%, respectively. These results are even worse for small-cap tokens that receive much less public attention to protect investors.

This evidence is clear from these numbers: crypto influencers, on average, provide unprofitable investment advice.

Three other takeaways from our research:

One: Influencers may have a bad track record when it comes to supporting crypto investments, but self-proclaimed experts are even worse. About 58% of our sample were influencers who described themselves as financial professionals and experts and had a large number of followers who followed their advice. Their recommendations were associated with more negative investment outcomes than other social influencers.

Two: Our evidence is consistent with “pump-and-dump” patterns, where promoters talk up a crypto exchange investment and then quickly sell it when the resulting buzz raises the price for a short period of time. However, there are also less detrimental interpretations of our results. For example, influencers may simply buy into crypto culture and believe that prices can only go up. Either way, our results suggest that influencers don’t provide good investment advice.

Three: While social media can be a conduit for crypto harm, it’s also important to remember its positive role. Social channels promote the sharing of information among investors who might otherwise make investment decisions in the dark. Recent research documents the positive effects of social media platforms on retail investors in stock markets. And my recent research shows that Twitter can have societal benefits because it can help citizens monitor businesses and reduce inappropriate behavior. In other words, social platforms do not harm investors; make the charlatans.

It’s a good sign that regulators are finally putting the hammer on influencers who use their notoriety to sell crypto products without disclosing conflicts. Despite allegations of widespread crypto fraud for years, many influencers were not prosecuted and the fines were low. Even the SEC’s penalties in these recent actions are relatively small, especially when compared to fines for investment misconduct in traditional investing.

The SEC should continue to pursue celebrities and potentially increase penalties to deter future misconduct. But the biggest takeaway from our study is simply this: if you want to make money from crypto, don’t follow the advice of social media celebrities or so-called experts.

Articles represent the views of their authors, not necessarily those of the University of Chicago, the Booth School of Business, or its faculty.

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