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Lessons learned from the recent GME surge.

Updated: Feb 7, 2021


I have always been a value investor with heavy reliance on solid fundamentals, but watching these stocks jack up without any reason whatsoever has led me to think whether the stock market is a reliable platform for prudent investing. The massive short-squeeze on GME that extended last week is a prime example of this (source: https://www.bloomberg.com/news/articles/2021-01-25/gamestop-melt-up-leaves-wall-street-price-analysis-in-shambles), and it really makes me wonder if any of the holdings that I have in growth stocks will retain in value for the years to come.

Looking back to the start of all this, the market was somewhat aligned with the analysts' perspectives with most retail investors being forced to stick with the fundamentals as institutional investors had more weight in moving the stock prices. Thanks to the massive reserves that the FED's have built after lessons in the past, the losses we had from COVID have remarkably reversed through multiple stimulants that have been injected to the economy. The resiliency boasted by the market made me fearless and increase my risk-appetite for my holdings, which I'm sure most retail investors would agree with me here since we are seeing an all-time high in retail trade volumes. We (the retail investors) single handedly changed the trading dynamics, and even caused some victims on the way with analysts posting absurdly optimistic views on some "hot" stocks: https://financialpost.com/investing/tesla-call-completely-wrong-rbc. Even if these stocks were to outperform previous valuations, it's still way too early to make these calls without a solid milestone reached by these companies.

The Main Catalysts

New Millennials of Trading

We have a new group of investors emerging from the high-tech driven work fields to the stock market. For now, this group shouldn't trouble anyone, but their roles have been rapidly growing with many followers to come in the next decade. Perhaps, the generous valuations offered to young tech-companies and startups have allowed the millennials to gain momentum with their high-paying jobs and million-dollar stock option plans. While the source of their income remains a debatable subject, there is no denying that this group is the main catalyst for the GME surge we saw last week. They have benefited from the highly accessible vehicles such as Robinhood (U.S. brokerage app) and Wealthsimple Trade (Canadian brokerage app) to drive the rally.

The Economist does a great job detailing the "what-if's" of this investor group:

https://www.economist.com/finance-and-economics/2020/10/20/wall-street-will-soon-have-to-take-millennial-investors-seriously


Rise of ETF's and lower fees of entry

In the late 1900s, the mutual funds business was great - perhaps, too great, as it caused numerous regulatory scrutiny and backlashes with SEC and OSC on the watch for any suspicious activities of consumer violations. That's right, we blindly gave them "free" money thinking that it was wise to put all our savings into a highly controversial investment driver. I mean we shouldn't really blame ourselves, as the hoard of information that we see today via the internet was not available to the public. Instead, the only source of information at the time was the "fund facts" documented and mailed by the issuing company itself. However, this industry took a hard turn by the early 2000s as retail investors got smarter with many discount brokerages on the rise to help initiate the financial revolution.

The result of this revolution is a downward trend in fees for mutual funds. Many jobs have been lost in the industry to offset the declining margins, which is still ongoing today. The biggest winners here are the discount brokerages and ETF distributors like BlackRock and Vanguard. While some of the o.g. mutual funds companies have transitioned to a ETF driven business model, many have lost their competitive edge. This is good news for us - it is getting ridiculously inexpensive to enter the market with a competitive portfolio.


So why wouldn't anyone invest at a time like this? This right here is another main catalyst of the volatility we see today. With many experts and non-experts online suggesting new investors to enter the market via all-in-one ETF's such as VGRO, we are witnessing the highest trading volumes in history.


Reddit.

The mob like mentality to investing was always apparent in the stock market - just not to this extent. Never have we witnessed a highly organized scheme like GME, BB, AMC, and KOSS from the retail side. Whether you like it or not, /wallstreetbets will likely be the headline of your preferred financial news portal for decades to come. While this does not pervasively impact the stock market, the emotional and psychological rollercoaster that they place onto our heads from stonks going up and down are bound to make behavioural finance more relevant in the future.

What this means for the average investor:

Fundamentals are becoming more irrelevant, holding long on some individual stocks may hurt you (financially)

We, investors, love talking about economic moats built into the company that we invest in. The chances are others are probably thinking the same about that company. Fundamentals will drive the growth of these stocks, but it may grow out of it.

One example of this is Intel - it once traded at the highest price of $74.88/share during the dotcom bubble, it has yet to reach that level of valuation today. While I am in no position to say there is a bubble in current market (even though this is probably the case), the price to earnings ratio in the total markets is near an all time high, which is a clear sign that we are paying a much higher premium for each stock than what fundamentals suggest us.

Beware of the heavily invested ETF's and their holdings (ARKK)

Like I mentioned above, mutual funds and ETF's means business. Just like how you would enter a convenience store to buy a pack of gum from a wide selection of brands, we have a variety of ETF's that are marketed to make us want to buy the funds. They use variety of tactics to exploit the financial consumers to buying their products, whether it's word of mouth, noise marketing, active social networking presence or YouTube ads. I'm not saying that you should avoid them, just tread cautiously when investing into a heavily marketed fund like ARKK. They have been taking advantage of the innovative marketing strategies like endorsing the god-like renowned fund manager, Cathie Woods, and making all active trades transparent on their website - this helps getting the traction needed to boost the underlying holdings they have, thus gaining more momentum and making more of that $$$.

Start looking at the "hated" investments

With many new investors jumping into the stock market, we should re-evaluate the risk in our portfolio and reverse the overly optimistic views in some of these hot stocks. It has become the norm to buy into a risky position hoping these stocks to go over the moon. If you are truly out on the hunt for value, you should start looking into "hated" stocks that have higher upsides than some of the more adored ones out there. Surely, there may be room for growth in highly coveted stocks like AAPL and TSLA, but it's difficult to justify their current valuation (even with future prospective earnings baked in). There are plenty of opportunities out there that doesn't require you to pay a hefty premium. If that's not your thing, investing in the total market/index may be a better strategy for this market.


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