Alternative data: Where does it come from?

Traders are always looking for an edge when it comes to making a profit. Some swear by
technical analysis by studying charts and applying specific combinations of indicators and drawing tools. But others insist that trading success comes from fundamental analysis. This means being aware of any sudden developments like comments from central bankers, changes in bond yields, the inflation outlook, and movements in the political landscape. Where an individual stock is concerned, this analysis would involve studying the company accounts, comparing these with other corporations in the same sector, being fully informed about news concerning the business and its executives, as well as anything more broadly that could affect trading conditions.

But in a world where investors measure their performance by creating alpha — that is, outperforming the standard stock indices — many now look to alternative data to give them an edge. This can be anything beyond the standard measures already available to investors, potentially providing a more nuanced insight into company performance than traditional data sources.

Hedge funds would previously seek to gain an advantage over the competition by employing unusual methods to collect such information, like counting how many customers would leave a particular store with a purchase. But over the past decade, alternative data collection has become far more sophisticated and complex due to the growth in computing power, helped along by the increased take-up of the smartphone. In fact, with so much data being collected, the trick is sorting out the wheat from the chaff; analysing what is important while dumping the rest.

Where does alternative data come from?

Alternative data comes from a variety of sources, such as tech companies, academic research and online brokers themselves. Some of the most commonly used alternative data sets regard consumer spending, which can be scraped from apps, social media, websites, and online surveys. The cheapest data is collected and sold on in a raw form, but it can also be analysed by bespoke research outfits and delivered in a more distilled format.

Corporate data would include spending on credit and debit cards, where good sources would be car sales, online commerce, airline, and travel bookings — or even online brokers. Just consider the Robinhood trading app. While billed as a ‘commission-free’ brokerage, Robinhood bundles up its customers’ trades and sells them on to its prime broker. This ‘payment for order flow’ gives the prime broker advance notice of what Robinhood’s retail customer base is buying and selling. It may not be ‘alternative’ by a purist’s definition, but it is very useful data indeed.

How useful is social media for alternative data?

Social media is an incredibly valuable source of alternative data. Consider how often stories and topics circulate on social channels well before they are picked up by traditional mainstream news outlets.

Consider also how often we now hear from influential sources on social media. Before he was banned, former US President Donald Trump was never off Twitter — we found out what the US president was thinking from Twitter, rather than waiting for official policy
announcements or a presidential press briefing. Trump may have gone, but Elon Musk, the head of Tesla, hasn’t. Elon isn’t as prolific as Mr. Trump used to be, but his tweets are often market-moving, thanks to his lack of discretion and complete disregard of the Securities and Exchange Commission (SEC).

This is one of the beauties of alternative data in that it can harvest thoughts from unconventional thinkers. This, in turn, can help you think outside the box, which is why at Trade Nation, we have developed Smart News, our own customisable source of alternative data based on social media. Once you delve into the details, you could profit from an early insight that the market hasn’t yet woken up to.

What is the future of alternative data?

Traders are always looking for an edge so they can buy and sell ahead of the crowd and get the best price. Without a doubt, both technical and fundamental analysis will continue to play a major role in this. However, alternative data has also been available to a small band of traders for some years now. With the collection and analysis of data easier and quicker than ever, alternative data will keep growing in popularity as more and more traders discover its value.