A Third of New Investors Have Chosen a Dangerous Way to Research Stocks

Are you one of those investors? You could be making a big mistake.

Investing in stocks can be a great way to create a diversified portfolio that helps you build wealth. But you need to open an account with the right brokerage firm and make smart choices about how you invest. Unfortunately, a troubling new study conducted by Survey Monkey reveals that far too many investors are actually using social media to research their investments -- and it could end up costing them.

Social media and the rise of meme stocks

According to the Survey Monkey study, a startling percentage of new investors are relying on social media in order to research different investment ideas and determine where to put their money. Specifically, 37% of people who began investing in 2020 or later are relying on social media, compared with 12% who started investing in 2019 or before.

Now, there could be a number of reasons for this. Many people simply rely on social media to obtain much of their information, so it's natural that they would turn there to find investment tips, too. However, one of the big reasons why so many people may be turning to social media is that these platforms may have introduced many of these new investors to the market in the first place. That's because 2020 and 2021 ushered in a new phenomenon called the "meme stock."

The most famous example of this is GameStop. In a Reddit forum, many people noticed that a number of hedge funds had shorted GameStop, which means they bet on the stock going down in value by essentially borrowing shares. Reddit encouraged people to buy, driving up the price so those investors with shorts had to cover them by buying the stock at inflated prices. The price of GameStop soared, catching the attention of the mainstream news, which caused more people to jump on board.

GameStop isn't the only meme stock, though -- there are plenty of others. And social media recommendations have also encouraged investments in cryptocurrencies, which celebrities often tweet about and which are seen as an exciting and revolutionary investment.

The dangers of using social media to determine investments

The big problem, however, is that researching stocks on social media is dangerous for a whole lot of reasons. Here's a look at a few of them:

• The price of investments hyped up by social media often becomes divorced from the underlying value of the asset. When companies or cryptocurrencies get a lot of social media attention, a lot of people buy them because of the attention -- not because of the underlying value of the coins or the companies. The price may be driven up by artificial demand, rather than because the investment is actually worth what people are paying for it.
• You don't know who is on the other end of the social media hype. Some investors may be promoting stocks on social media because they believe in them. But others may be trying a pump-and-dump scheme where they buy early, raise the price, and then sell out at a profit and leave the later investors with huge losses. You can't really know the motivations or who is on the other side of the screen, so you can't trust the advice.
• Social media tends to move on quickly. A popular stock or coin today may be forgotten tomorrow, which could send the price falling.

The bottom line is that there are better ways to research stocks and cryptocurrencies than relying on social media. Some of the best brokerage firms have lots of educational material you can use to become a skilled investor. The resources they provide can help increase the chances of your investing paying off.