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US Stock Market vs Internet vs Retail Investors

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E C O N O M Y – I N T E R N A T I O N A L


Rabab Rayan


2020 had been a rollercoaster year for investing in the U.S stock market, with the market crashing in mid-March because of Covid-19 fears and then there was that infamous Bill Ackman interview on CNBC where he proclaimed everything is going to hell. He is a billionaire investor with quite the following and haters in the investing world due to his activist investing strategies. He stated that the US was underestimating the severity of the Covid-19 and the impact that it would have. He noted that the virus would kill millions of people and devastate the global economy.

Following the interview, the stock market tanked. The Dow Jones Industrial Average, a stock market index that measures the stock performance of 30 large companies listed on stock exchanges in the United States was down 1000 points at the time when news of his interview and rant started spreading the Dow collapsed further, which triggered “circuit breakers”, intended to halt massive turmoil with the market closing for 15 minutes. By most people standards, 15 minutes may not seem like much, but it is a lot in the investing world.

2020 saw record volatility in the US stock market. Vix, which is the ticker symbol for the CBOE Volatility Index, a popular measure of the stock market’s expectation of volatility based on S&P 500 index options, kept rising during the year 2020. Soon after the 2020 stock market crash, the US Federal Reserve took unprecedented steps by immediately cutting rates, which means the rates at which bank’s borrow. The rate cut brought the rates near the zero percentile range. The plan was to decrease the cost of loans for banks. The Fed showed up with unlimited support in the money markets. It employed a very controversial strategy known as Quantitative Easing, which means the Fed bought large amounts of treasury securities and bonds to keep their rates low. The actions taken by the Fed stabilised the market, but it also created fears of hyperinflation among concerned investors with all the money printing that was going on.

Record valuations from tech companies were seen as the year progressed, not to mention Tesla Inc., whose stock price went up near 700% in 2020. Currently, Tesla Inc.’s valuation is higher than all the vehicle manufacturing companies’ valuations in the rest of the world combined. Different people have come up with different ideas behind the rise, with some calling the rise signs of a market bubble, specifically Michael Burry, who believes it is wildly overvalued. He predicted the 2007-2008 financial crisis and made 100 million dollars in personal profit by betting against the housing market at the time.

Tesla’s surge in stock price happened after the company started posting profits each quarter and was nearing the requirements needed to be met to enter the S&P 500. It has also received much support from retail investors. Critics of Tesla Inc. call the company overvalued because it operates at a massive Price-Earnings ratio while car manufacturing companies usually trade at lower P-E ratios. However, the supporters say Tesla should be valued as a tech company in its growth stage by taking the income into account Tesla generates from the software it sells to Tesla car owners. The massive bet on Tesla is the belief that Tesla will win the electric vehicle race and dominate the market. They also believe Tesla’s other divisions are also not taken into account by the critics. As Tesla price rose, its critics started to decrease, with short-sellers covering their shorts. However, the sudden surge in Tesla shares has also resulted in the surge of renewable energy stocks. Investors want to find the next Tesla, with some fearing that it may result in a bubble in the overall renewable energy market.

A record number of IPOs or Initial Public Offerings took place, a process through which privately traded companies go public on the stock market. 2020 was also the year of the SPAC, a way for companies to go public without much of the issues associated with traditional IPOs and almost all the benefits. SPAC existed before but never was utilised on such a large scale, with the number of SPACs in 2020 crossing the combined number of all SPACs in previous years. Market Analysts kept warning that SPACs could cause more harm than good to retail investors. Despite all this, we saw institutional investors and Venture Capitalists introduce a new SPAC each month and gained colossal interest from the retail investment crowd. Who knows, maybe WeWork, the infamous real estate company that pretended to be a Silicon Valley tech startup and also got valuations like those from private investors despite all the controversy surrounding the company, it could probably have pulled off an IPO if they had chosen to merge with a SPAC to go public instead of going the traditional path. SPAC (Special Purpose Acquisition Company) is a blank check company formed for the express purpose of IPO. It collects money from public investors selling shares at 10 dollars a share usually and later merges with a private company liked by its investors.

2020 was shaping up to be a year for the bulls. But financial analysts and sceptics were the naysayers who kept saying this could not be kept up for long and that all the companies are overvalued, and the stock market was in a record bubble and that the market was going to crash soon. Warren Buffett, the greatest investor of our time, signalled that the stock market was highly overvalued. Still, the markets kept going up, with the S&P 500 reaching record highs in 2020. Charlie Munger, VP of Berkshire Hathaway and right-hand man of Warren Buffet, shared the same opinion as Buffet in a recent interview. With others saying the stock market rise is not dependent on fundamentals anymore but instead on FOMO.

Following Covid-19, the US, like many other countries, went into lockdown; at the time the number of users of the Robinhood app, which makes investing accessible, saw their user count rapidly increase as most people were bored at home. Some blame Robin Hooders for all the shit shows going on in the market. But others believe the volatility in the markets is due to near-zero borrowing rates, slack in the bond and commodities market. Since most investors were not gaining much profit if they invest in bonds or CDs, investors started to horde in the stock market. According to Barrons, the rise in stock prices is related to financial technology connected to innovation in the market. In contrast, innovation in the mobile sector does not impact the overall stock market. Still, innovation in the stock market can cause volatility with investors needing time to adjust to the changes and new mediums of investment.

The hosts on investing related shows on CNBC like Jim Cramer kept blaming the retail investors for all the volatility in the markets specially the Robinhood crowd. Apparently, participation from the non 1% in investing could upend the whole investing world, which was later argued by several market experts as false; months before the Reddit and Gamestop fiasco took place, when the world didn’t have any idea about how powerful the retail investors would become when they come together.

Robinhood is an investment platform that provides a simple way to invest to its users and innovated the free trade system which is now fairly common among most investment platforms, most of their users are retail investors with small amounts of cash in their accounts. Robinhood made the US Stock market easily accessible for most ordinary people by providing a simple UI and gamifying their entire process which attracted a large number of users. They also made complicated trading practices easily accessible to their users. When the US went into lockdown like most countries in the world due to Covid-19, a lot of bored American citizens became attracted to the Robinhood platform in the hopes of getting rich by investing in the stock market. They were blamed for the volatility in the market, as apparently they were not educated enough about how the stock markets work. Stocks that seemed popular with the Robinhood crowd were also scrutinised by the media.

To add to all the drama that was going on in the US Stock Market, a trader by the name of Keith Gill aka DeepF—ingValue revealed to a subreddit by the name of ‘r/wallstreetbets’ a screenshot of his owning 50,000 shares and 500 call options in Gamestop Corp. (NYSE: GME) worth 53,000 USD as of September 2020 when the screenshot was first posted. Keith using his YouTube channel by the name of “Roaring Kitty” and further posts on Reddit spread his belief that Gamestop Corp. was highly undervalued and its financial situation was not as bad as the hedge funds were making it out to be. His belief was supported by the research he had done, both fundamental and technical analysis on the company. He found out that Gamestop Corp. shares were being short 140% on the public float, and if enough people buy the share, it will result in a short squeeze, something he talked about on his YouTube channel months before the actual short squeeze even took place.

One thing should be noted that Keith is not an average retail investor, as the media tends to portray retail investors of any standard, he is a Chartered Financial Analyst and registered member of FINRA, a US based self-regulatory organisation. He was able to convince a horde of retail investors to invest in Gamestop Corp. and when they did the price quickly started increasing hedge funds that were betting on the bankruptcy of Gamestop Corp. had to quickly buy the shares of Gamestop Corp. to quickly cover their position and limit their losses, which resulted in a more rapid increase in the share price, and caused Gamestop Corp. stock to rally more than 1900% in YTD calculation (as on 28 Jan 2021). Several Wall Street firms that were shorting Gamestop Corp. were taken aback by this and had to suffer huge losses. The loss is estimated to be in the billions overall.

One of the biggest GameStop Corp. short-selling “victims” is Melvin Capital, a hedge fund that started the year with $12.5 billion in Assets Under Management and lost almost 30% (yeah, calculate the loss), according to The Wall Street Journal. This is probably the greatest insult and harm ordinary citizens have ever been able to do to Wall Street and its titans. Since the financial crisis of 2007-2008 ordinary citizens have held a grudge against Wall Street for all the chaos that they caused, it feels as if Wall Street were given a taste of its own medicine. Most financiers and billionaires and financial news organisations have taken the side of Wall Street portraying them as the victim but Chamath Palihapitiya, a Canadian-American venture capitalist, and investor who has been known to be a huge critic of his fellow venture capitalists and other large investors in Wall Street, to show public support to the retail investors.

Investment in the stock market has always been a risky game. To be able to achieve exponential levels of profit, one has to be very careful or analytical with their research. People like Warren Buffet, Ray Dalio, Jim Simmons, and others have had huge success in the stock market and made billions in the process. Investing in the stock market can lead to either profit or loss just like in any other businesses, if we are not careful with our actions. But even the surprising speed with which the SEC and other regulatory bodies reacted to protect Wall Street and hedge funds from suffering loss, cannot be discounted.

Investors in the stock market are usually people with a lot of assets, during the economic onslaught that Covid-19 brought with it, the rich and powerful didn’t suffer much, but the middle class and working population suffered badly due to job cuts and lack of customers coming to their businesses. The US government response to help the 99% or non-rich people is less than negligible, with the Fed also not providing much support to small businesses, if any.

#Socialism for the rich and rugged capitalism for the poor.

 


Rabab Rayan is a Business undergrad trying to excel academically but failing spectacularly.

 

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