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Study finds Americans rely on friends, neighbors for investment advice

Mark Reutter, Business & Law Editor
2 17-244-0568; mreutter@illinois.edu

Released 7/26/2007

CHAMPAIGN, Ill. — Keeping up with the Joneses apparently includes keeping up with their stock market picks, researchers at the University of Illinois have found.

Zoran Ivkovich and Scott Weisbenner, both professors of finance in the College of Business, studied the stocks purchased by 35,673 U.S. households between 1991 and 1996.

They found that social networks played a role in determining what stocks investors would buy. A 10 percent increase in neighbors’ purchases of stock in a particular industry was associated with a 2 percent increase in stock purchases in the same industry by those living nearby.

The findings suggest that Americans rely on friends and neighbors for investment advice in addition to company annual reports, newspaper and television coverage and other sources of information.

This differed from the investment habits of other countries. In China, for example, investment choices were largely driven by a “herd” reaction to locally available news, according to academic research, while investors in Finland were swayed by such concerns as the ethnic origin of a company’s CEO.

The “neighborhood effect” in picking stocks in America was especially strong for companies headquartered within 50 miles of a household. “Not only do investors tend disproportionately to invest locally, but there are also strong information diffusion effects in their neighborhood,” Ivkovich and Weisbenner wrote.

Another variable factor was population density. In large metropolitan areas, investors more readily followed their neighbors’ investment choices. Closer physical proximity and more extensive social networks encourage a freer exchange of ideas and tips on investments.

The Illinois researchers examined stocks purchased through a discount brokerage on the New York Stock Exchange, American Stock & Options Exchange (AMEX) and National Association of Securities Dealers Automated Quotations (NASDAQ).

Looking at 23 quarters between 1991 and 1996, Ivkovich and Weisbenner compiled a database of more than 2.6 million stock purchases in 14 industry groups, including oil and gas, medicine and biotechnology, finance, transportation and utilities.

Their working paper is titled “Information Diffusion Effects in Individual Investors’ Common Stock Purchases: Covet Thy Neighbors’ Investment Choices.”