Media Elasticity of Stock Prices

This article alleges that Bear Stearns' collapse was concocted by diabolical 'invisible forces'... It would be improper to comment on the Bear Stearns debacle before SEC investigations are concluded, so I reserve all comments (on this conspiracy theory) until then!

As I was reading that article, I experienced a flash of insight: Speculative negative media coverage adversely affects a firm's stock price, regardless of what the firm's fundamentals say. I knew that of course, but I now understand this from a Mathematical (and Economic) perspective. I term this 'mathematical frame' (negative) media elasticity of stock prices . The concept that underlies the paradigm is not new, it has been discussed extensively in academic circles.

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In his research paper titled: Market and Individual Investors Reactions to Corporate News in the Media, Philipp Schmitz states that:

• '...The incorporation of information in prices is fairly fast. The main price reaction occurs on the day of the arrival of the new information.This price jump is especially large if the news coverage in the media is accompanied by ad hoc announcements made by the corporation itself. While there is only a very short-term post-event drift after good news, prices tend to drift for several days after bad news. The post-event trading volume is significantly higher than before the news for several days for good as well as bad news'.

This implies that negative media coverage has a sharper effect (than positive media coverage) on a firm's share price.


...The media can break a firm... And it can do this easily

Sustained negative (and baseless) media coverage can have a catastrophic effect on a firm's share price. To illustrate how: Baseless negative media coverage 'discounts' a firm's share price; which attracts a greater degree of speculative negative media coverage; which in turn causes a firm's share price to 'dive deeper' and so on. This self-reinforcing chain of causation continues to feed and magnify itself until:

• the media speculation is disproved or invalidated by changing macro environmental trends or by widely publicized developments in the underlying firm, or,
  

• it is curtailed by government intervention, through the use of legislative instruments, or,
  

• the media's speculative perspective becomes deeply ingrained within a society's collective consciousness; i.e society begins to take the negative media speculation as FACT. At this point, the firm's fundamentals begin to increasingly validate (previously baseless) media speculations i.e there starts to be a convergence of baseless media speculation and reality. When this happens, the firm's brand capital is increasingly decimated; its goodwill falls exponentially and the firm's financial health deteriorates rapidly. I don't know whether or not a firm can survive past this point, or,
  

• it just runs out of momentum because of an incomprehensible factor! (Irrational markets)

...Negative media elasticity of a stock price

Negative media elasticity (NMESP) of a stock price is the responsiveness of a firm's stock price to negative media coverage (of the firm).

A share price's NMESP is never fixed, it varies in response to changes in a firm's:

• Micro environment: These are factors that a firm has influence over, including its culture; its capital structure; its brand capital; its human resource mix; its public relations policy and its level of efficiency in general (to name a few). To lower its NMESP, a firm would have to 'improve' (..for lack of a better word) its micro factors.
  
• Macro environment: These are factors that a firm has very little to no influence over, including market volatility; societal openness; the elite media's editorial policy; the level of media technology the average person utilizes; and the number, level of activity & size of stock market participants.

A firm's NMESP is a function of its micro and macro environmental factors. Mathematically this can be expressed as:

NMESP = f(Ma; Mi)

Where :

NMESP is the negative media elasticity of a firm's stock price
f means a function of
Ma represents a firm's macro environmental factors
Mi represents a firm's micro environmental factors

...How does a firm's share price relate to negative speculative media coverage (in general)?

A firm's share price is inversely related to negative speculative media coverage i.e as negative speculative media coverage increases, a firm's share price decreases.

Below is a graphical illustration that shows an inverse relationship between a firm's share price and negative media coverage.

Explanation of the illustration above: The vertical axis represents a firm's share price movements and the horizontal axis represents percentage increases of (speculative negative) media coverage a firm receives. The inwardly curving navy-blue line represents the inverse relationship between a firms share price and the % increase of speculative negative media coverage it receives. From point a to b, the firm's share price falls very rapidly, a small increase in speculative negative media coverage causes a large decrease of the firm's share price. Between points b and c, speculative negative media has a reduced influence on the firm's share price. From point c to d, the firm's share price is no longer responsive to an increase in speculative negative media coverage, evidenced by the flat gradient between point c and point d.

To mathematically express the relationship between a firm's share price and the % increase of speculative negative media coverage it receives:

ShP = k/NSP

Where:

Shp is the firm's share price
k is a constant number
NSP is the % increase of speculative media coverage the firm receives

...To calculate a firm's Negative media elasticity of its stock price
(NMESP)

NMESP = % change of a share price divided by the corresponding percentage increase of negative media coverage the firm receives within a defined chronological period

Now I need to figure out how to use those equations to generate cash flows!