Friday, February 15, 2013

Can Crowdsourcing Limit Algorithimic Trading?

The Gold Report has John Kaiser's interesting take on the TSX Venture Exchange.  The exchange is at risk because the inevitable collapse of nonviable junior resource companies will deter more successful juniors from listing on the exchange.  Crowdsourcing opinions on junior stock valuation may be a way out.

The discrete information provided by NI 43-101 reports leaves wide gaps in time that algorithmic traders can explore.  Mr. Kaiser argues that adding crowdsourced estimates of mining project NPV and IRR would add market information that arbitrageurs strip away from share prices.  I think that's a neat idea and I'd like to see it work.  Let me throw out some hurdle questions.

How would you protect the integrity of the crowdsourced ratings from manipulation?  Adapting Yelp's model works if the crowdsource platform uses a project's 43-101 data.  The real problem is ensuring the identity of the crowdsource participants.  Software that can create and manage multiple identities in real time exists.  Unscrupulous parties could use multiple identities to game the project ratings on a portal.  We'll need more than CAPTCHAs to fix it.

What is a sufficient critical mass of crowdsource ratings for a project?  Hedge funds can execute millions of trades per day in deeply liquid markets.  Crowdsourcers can render ratings on dozens of stocks several times per day.  Measuring impact by frequency of execution leaves hedge funds the clear winners.  The discrete number of crowdsourcers who publish project ratings would have to be numerous enough that their combined ratings approach the daily average traded volume of the project's associated ticker symbol.  That is hard enough to do for large-cap stocks with huge volumes on major exchanges.  The smaller daily volumes for thin issues on the TSX-V are an easier hurdle to leap for crowdsourcers.  There's probably a shortcut to creating meaningful data, with an entrepreneurial opportunity for a portal that can build in the statistical corrections Mr. Kaiser suggests.

I think an existing equity crowdfunding portal could easily build out the tech that would enable such crowdsourced opinions.  The portal that gets there first will have a value-adding service built for non-accredited investors who will soon be allowed to invest in private placements under the JOBS Act.