When doing investing research on publicly traded companies, sometimes the bad reviews tell you more than the good reviews

We’ve often pointed out that conflicts of interest are the biggest risk you face as an investor—mainly due to the frequency of the conflicts, rather than the cost to you of any single one. You could say something like that about fake product reviews.

On Black Friday of 2023—November 24, the day after U.S. Thanksgiving, which is the traditional start of the U.S. Christmas shopping season—the Wall Street Journal ran an interesting article entitled “You’re Probably Falling for Fake Product Reviews.”

The Journal quoted a University of California at Los Angeles professor, Brett Hollenbeck, who has studied the subject. He found that sellers use Facebook listings to solicit fake reviews on Amazon. Providers of the fake reviews get free products or cash payments, typically $15 per review.

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“Last year, Amazon filed a lawsuit against 10,000 Facebook group
administrators who it said were soliciting fake reviews. But as old groups
get closed down, new ones are created. Many of the sellers are overseas,
and continually use new aliases and ‘sock-puppet accounts’ (accounts
operating under a false name). Hollenbeck’s research finds that
Amazon eventually deleted many of the fake reviews, but often with
a lag of 100 days.

“Though the researchers studied solicitation on Facebook and
reviews on Amazon, the behavior isn’t limited to those websites. In fact,
sites where users can leave reviews without being verified purchasers
are thought by some researchers to have an even worse
fake-review problem.

“The products’ average rating jumped from 4.3 stars before
solicitation to 4.5 stars after. After the Facebook recruiting ends,
the rating gradually falls back to 4.1 stars. That might not sound like
a huge amount, but even a 0.2-percentage-point increase can
dramatically improve how high a product ranks in an Amazon search.
While the boost might be short-lived, the increase in the total reviews,
sales rank and search position persists.”

Incidentally, Prof. Hollenbeck says he’s “always cautious about those products that are one of four or five nearly identical search results. They’re just the sort of product that would benefit from a tiny ratings bump that a fake review can deliver.”

When shopping on Amazon, by the way, I always start by looking at the most-recent one-star ratings. I assume bad reviews are mostly sincere, though complaints may be over-blown or written by somebody who doesn’t know what to expect.

Restaurants have been known to post fake bad reviews against nearby competitors, especially when they are new to the neighbourhood. But it would cost most other businesses too much to compete by posting fake reviews on all their competitors.

Keep in mind that it’s good to be wary when you hear a lot of bad things about publicly traded companies in your investing research—the equivalent of one-star Amazon ratings.  Negative gossip by itself is a poor reason to sell. But it’s worth a Google search to see how much if any of it might matter to a company’s long-term prosperity.

Bonus tip: Our Successful Investor approach helps you make good investing decisions

When you try to pick a handful of stocks that will all beat the market, you are asking a lot of yourself. No one, not even people that devote their entire lives to it, has ever been able to consistently pick stock-market winners over long periods.

On the other hand, it’s relatively easy to acquire a balanced, diversified portfolio of stocks.

First, invest mainly in well-established companies. When the market goes into a lengthy downturn, these stocks generally keep paying their dividends, and they are among the first to recover when conditions improve.

Second, avoid or downplay stocks in the broker/media limelight. That limelight tends to raise investor expectations to excessive levels.

Third, spread your money out across most if not all of the five main economic sectors (Manufacturing & Industry; Resources & Commodities; Consumer; Finance; and Utilities). This helps you avoid excess exposure to any one segment of the market that is headed for trouble.

How will you use this advice during your next phase of investing research?