<p><img src="https://static6.businessinsider.com/image/60dccef9cad1220011caf5be-2400/GettyImages-1231053720.jpg" border="0" alt="Reddit WallStreetBets WSB" data-mce-source="Pavlo Gonchar/SOPA Images/LightRocket via Getty Images"></p><p></p><bi-shortcode id="summary-shortcode" data-type="summary-shortcode" class="mceNonEditable" contenteditable="false">Summary List Placement</bi-shortcode><p>Day traders and Reddit's r/Wallstreetbets crowd get called a lot of names, but maybe it's time to ask what other investors can learn from them.</p><p>Whether those traders are creating bubbles or contributing to fads or beating financial giants at their own game, Morgan Stanley Quantitative Strategist Boris Lerner says other investors can find patterns in their behavior. </p><p>Lerner looked at five years' worth of retail <a href="https://www.investopedia.com/terms/o/order-imbalance.asp">order imbalances</a>, essentially identifying the stocks smaller traders were buying and selling in the greatest numbers.</p><p>"We find that retail order imbalance is linked to subsequent stock performance and can be used as an alternative source of alpha in long-short equity portfolios," he wrote. "Stocks with a high buy imbalance tend to outperform stocks with a high sell imbalance over the subsequent one month."</p><p>He adds that the difference becomes clearer after focusing on the more liquid stocks with more pronounced imbalances. Lerner focused on the larger 50% of the stocks listed on the Russell 3000 index, then narrowed that down to the 33% with the most retail interest and the highest 20% of buy and sell imbalances.</p><p>Lerner says retail traders have been most interested in consumer discretionary, tech, and communication service stocks, especially with companies they've interacted with. Historically he says retail has used a "barbell" approach, targeting huge and highly liquid stocks worth $13 billion and up, and tiny companies worth $2 million to $915 million. </p><p>Recently they've started to buy more stock in materials, industrials, and energy companies.</p><p>While the data supports the predictive power of retail buying and selling, Lerner says retail selling is an especially strong indicator. </p><p>"Most of the alpha seems to be on the short sidestocks in the bottom quintile (high sell imbalance) tend to underperform the market by a larger margin," he wrote.</p><p>In general, retail investors are predisposed to buying rather than shorting and are adopting bullish positions today, Lerner says. They have tended to prefer high-momentum and high-growth stocks that get a lot of attention, although they are also substantial buyers of those illiquid micro-cap stocks.</p><p>That might be expected. But Lerner says that in some ways, they are diverging from those preferences. Based on order imbalances, he says they're especially enthusiastic about buying the highest-quality stocks and selling the lowest quality.</p><p>"Current order imbalance suggests that retail investors are net buyers of <strong>High Quality</strong>, <strong>Defensive</strong>, <strong>Low Volatility</strong>, <strong>Low Momentum</strong>, <strong>Low Short Interest</strong>, and <strong>Value</strong> stocks," he said. "They are net sellers of Small Cap and Junk."</p><p>He explains that there's much less participation among defensive, low volatility, and low momentum stocks, but the imbalances in those sectors are strong, meaning the investors who are buying in those sectors have a lot of conviction in the calls they're making.</p><p><a href="https://www.businessinsider.com/meme-stock-investing-how-to-profit-from-day-trading-patterns-2021-7#comments">Join the conversation about this story »</a></p> <p>NOW WATCH: <a href="https://www.businessinsider.com/doomsday-prepper-million-dollar-condo-converted-missile-silo-2019-3">Inside a $3 million doomsday condo that can sustain 75 people for 5 years</a></p>
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