February 5, 2021
In recent weeks, amateur speculators have gathered on message-board website Reddit to orchestrate squeezes on beleaguered stocks – like GameStop, AMC, Blackberry and others – that are targeted by short-selling hedge funds. Many of them are young people relatively new to investing, often introduced to it through the online free brokerage app Robinhood.
Some of these stocks have shot up by 1,500% and more in a matter of days, as bloodied short sellers have had to buy back shares to avoid going broke. (Short sellers position themselves to gain from a decline in a stock’s share price by borrowing a stock, selling it, and then buying it back at a lower price to return it to the lender. A short seller loses money as a share price rises.)
Now, many have applauded these Reddit investors, and news stories cite them as embattled in the latest war of Main Street versus Wall Street. But I’m calling this latest craze “kamikaze capital”… They’re out to get even. And even as this trend is blowing itself up, it’s also changing the world we invest in.
Like the World War II Japanese suicide pilots, kamikaze capital, with the all-in, do-or-die attitude of the Reddit crowd, is prepared to use their last penny of COVID-19 stimulus capital for a cause, and to make a point… even if, like the kamikaze pilots of World War II, they lose their (financial) lives in the process. Investment fundamentals don’t matter… YOLO (you only live once) ignores fact.
It’s a twist on economist John Maynard Keyes’ classic warning (“markets can remain irrational longer than you can remain solvent”) about the danger of holding too firmly to principle in investing. Kamikaze capital defies the most basic goal of investing – that is, to make money – just like the kamikaze pilots who deliberately suicide-crashed defied the most basic goal of life – that is, to live.
But even as kamikaze capital blows itself up – on Thursday, GameStop shares were down 86% from their recent peak, and AMC shares have fallen 61% – there’s plenty more capital where that came from (see below).
And in the meantime, kamikaze capital is creating new paradigms for investing where fundamentals don’t matter… only the might of money does.
Recommended Reading: Prepare for a ‘Cash Panic’
We’re at the very beginning of a mass financial panic – but not the kind most people expect. The words “mania,” “euphoria,” and “frenzy” are all over the press… while fund managers are STAMPEDING out of cash at record levels – and pumping billions of dollars into a specific corner of the markets. A dramatic financial event over 20 years in the making has finally begun. Here’s what it means for YOUR money.
The ‘Stick It To the Man’ Investment Thesis
The “dumb money” is out for revenge.
Dumb money refers to the mostly mom-and-pop investors who buy stocks when prices are rising… and sell when prices are falling. Whipsawed by emotion, the dumb money makes all the wrong moves. They’re who the fancy-pants hedge funds sell to at the top.
The mirror image – the so-called “smart money” – isn’t all that clever either, though. Over the past 26 years, according to fund analyst Mark Hulbert, a broad index of hedge-fund performance trailed the S&P 500 Index by 2.2 percentage points (the index returned 7.8% per year, compared with 10.0% for the S&P 500). Still, though, there’s a lot more money to be made in delivering investment products than in receiving them (Where are the customers’ yachts?)… so even dumb smart money can do well.
And the gang on Robinhood, which says its mission is to “democratize finance for all,” is out to get hedge funds, the aircraft carriers of kamikaze capital. They want to stick it to “the man” – the rich, the powerful, the hedge funds – by using the power of numbers and taking the opposite position.
The most visible casualty has been Melvin Capital, a hedge fund that was short shares of GameStop and had to be bailed out with $2.75 billion from Citadel and Point72, two hedge-fund blue bloods.
As an investment approach, doing the opposite of the smart money – not on the basis of any analysis, but simply for the sake of it – sounds like something that a petulant three-year-old going through a “No!” phase might do. Contrarian investing is about going against the crowd – but with a more specific premise than just “the opposite of the smart money.”
But sticking it to the man has so far worked for kamikaze capital – both to stick it to the man and to make money along the way. That doesn’t mean it will continue to work. But from now on, we’ll have to consider that it just might.
The Conspiracy Theory Speculator
A conspiracy theory aims to explain an event or situation where a small group of powerful people – the conspirators – are secretly doing something to advance their own ends, at the expense of the common good.
The Earth is flat… dinosaurs never existed… the “Deep State” is running everything… John F. Kennedy was shot by the CIA… Bill Gates and George Soros want to inject you with a microchip… Conspiracy theories don’t have to withstand even the most basic stress test of fact or logic to spread like pinkeye in a preschool.
People stray into the dark land of conspiracy theories when they feel vulnerable and threatened. It’s easier to listen to QAnon than it is to do a bit of brain work to separate fact from fiction yourself. Blaming the Illuminati (a secret global cabal that 15% of Americans believe runs the world) for why you can’t make your mortgage is easier than grappling with the real causes of your cash-flow constriction. And the currency of conspiracy theories is social proof – if someone else believes it, it’s a lot easier for you to believe them, too.
Much of the time, investment ideas are nothing more than conspiracy theories dressed up in the clothes of money. Whether the source is a shoeshine guy, a neighbor who knows someone who knows someone, or a stock market analyst with a hunch, wild speculation can enjoy a veneer of credibility when someone else passes it along.
(Hedge funds – and short selling, a particular target of the kamikaze capital – are almost custom-made to be conspiracy theory breeding grounds. They exist solely to help a small group of powerful people (that is, the rich people who invest in them) to advance their own ends of making even more money. And they do that at the expense of others – specifically, dumb money. They’re intentionally opaque and secretive. Conspiracy theories are a convenient way to explain the vast wealth of hedge funds. And that makes them all the more attractive to the world of Robinhood speculators.)
Conspiracy-theory investing, in a world where fact is increasingly viewed as subjective, doesn’t rely on fundamentals, valuations, or analysis. Speculation like that isn’t new… But the mass of hundreds of thousands of speculators, harnessed by Reddit and riding Robinhood, is a new wrinkle. And it’s one that’s not going away.
Everyone’s An Expert: The TikTok Investor
Your car, not long ago, was making a funny noise. You didn’t know much about cars. So you took your vehicle to the body shop, where a friendly mechanic pops the hood, tut-tuts a bit, and declares that your carburetor lower incisor has a myocardial fibrillation, and that he’ll have to drain the accelerator abscess and replace the dynamical half plug.
You’re suddenly out $2,000. Since you don’t know the first thing about cars, and you don’t want your car to melt down on the highway, you pay.
This is what I call the car-mechanic syndrome: You’ve been fooled by an “expert” into overpaying for a service that you think should have been a lot simpler and straightforward and less expensive.
The financial-industrial complex – private bankers, “financial advisors,” investment funds, brokerage houses, and (of course) hedge funds – are the car mechanics of the investment world. They dole out overpriced (and often wrong) insight to people who don’t know better, with the objective of confusing them in order to charge them as much as possible.
But the Robinhood crowd is tired of the game… Weary of being treated like dumb money and reared on a steady diet of toxic conspiracy theories, they don’t trust the experts… They’re not even going to visit the body shop.
Instead, they’ll find a YouTube video that explains what’s wrong. In an Internet world, the threshold to be an expert is low. Got a cough or a rash? Visit WebMD, and skip the doctor’s chilly waiting room. Have a financial problem? Go to your local Reddit chat to find the answer. Or check out the financial advice on YouTube or TikTok, and leave (15 seconds later) an expert.
Homemade advice shrunken to the length of a few deep breaths is as useful – or dangerous – to your financial health as a YouTube video that explains how to replace the brakes on your car. Both open the door to potentially fatal (or at least very expensive) mistakes by ignoring people who know what they’re talking about.
But if there’s enough kamikaze capital behind it, expertise doesn’t matter. In markets, money makes right, even if there’s no coherent reasoning behind it.
They’re Not Going Away
These new paradigm investors, the kamikaze capital that wants to stick it to the man, who have difficulty distinguishing between conspiracy theory and reality, and declare themselves experts after watching a few TikTok videos… are about to get rich. Today’s stimulus cash speculators ramping up against short sellers are tomorrow’s trust fund children.
As the Economist explained in October…
… a profound shift in the ownership of investment assets looms [in the United States]. Millennials, typically defined as those born between 1981 and 1996, still hold a tiny share of total wealth… But savings and inheritance windfalls mean that millennials’ share will rise rapidly. And shifts in technology and pension policies will allow them to exert more control over their assets than their parents did.
If fundamentals – the yardstick of investing, the foundation of the entire investment industry – don’t matter anymore… what does? Kamikaze capital isn’t concerned. It’s not going away… And it’s going to wreak as much havoc as it can along the way.
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Executive Editor, American Consequences
With P.J. O’Rourke
February 5, 2021