Friday, 5th of February 2021
“Without data, you’re just another person with an opinion.”
– W. Edwards Deming
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Price volatility has returned to equity markets in the past two weeks, as retail investors active on online message boards took on major equity hedge funds and triggered an unprecedented short squeeze in numerous out-of-favour names. Fearful that the ‘Reddit army’ would come for their positions next, the extraordinary share price action for GameStop, BlackBerry, AMC, and other such companies spooked these seasoned investors and caused a rush of short covering and portfolio de-leveraging; this then precipitated a sharp correction at the index-level such that by the close of trading on Friday 27 January, the S&P 500 Index had sunk -3.3% for the week, while the Euro STOXX 600 had fallen -3.1%. This was the largest weekly drop for either index since Pfizer announced its positive coronavirus vaccine test results at the start of November. The drawdown in the MSCI Emerging Market Index was even bigger: it shed -4.5% (in USD) during the week – the most since March. Meanwhile, GameStop was up c.400% over the same five-day period (and c.1400% since 12 January).
This was quite the recovery for a company whose business model was a relic even before the pandemic (and whose stores remain closed up and down the US), turnaround story or not. It was also a win for those retail investors who managed to exit their positions before Robinhood (a popular low-cost trading app) restricted trading in affected stocks at the end of last week. With users unable to make even cash purchases of GameStop (but still able to sell) demand evaporated, and the share price has since plummeted -83.5% this week. The price fall was surely a relief for those hedge funds that have since taken the opportunity to cover their shorts – data provider S3 reported that short interest in GameStop has gone from 140% at its peak in January to c.40% today – but less so for the retail investors who were left holding the bag. Robinhood’s decision to protect Wall Street over its users, has left many feeling cheated. But the company relies on a complex web of financial institutions to offer commission-free trading (and last week’s events will have left many feeling uneasy). Unsurprisingly, the internet is now alive with wild theories about what ‘really’ happened. For example, a significant portion of Robinhood’s revenues come from selling order-flow data to high-frequency trading firms like Citadel Securities; and, on 25 January, their affiliate hedge fund together with Point72 bailed out crisis-hit Melvin Capital (which had lost 50% of its $8bn asset base from shorts in the likes of GameStop). Was there a conspiracy? It would certainly make for a good story. However, we prefer to focus on what is obvious from the historical record; namely, that jumping on bandwagons rarely works in finance… and all bubbles ultimately end in tears.
This week, most analysts have downplayed the idea that contagion from the GameStop saga is likely to precipitate a broader market sell-off. And the S&P 500 (+4.2%), Euro STOXX 600 (+3.9%), and MSCI EM (+4.4%) have all re-established their prior positive trend. However, we have not previously seen a coordinated speculative attack (of this magnitude) by retail investors; and no one knows if bearish hedge fund bets will be targeted again. Irrational exuberance, lockdown boredom, a wash of market liquidity, and ‘free cash’ in the form of US stimulus cheques are all likely to have played a role. But as investing is democratised by low-cost apps (and regulation is forced to play catch-up) populist campaigns like the one we just saw are likely to reoccur in our mind. Make Markets Great Again has a certain ring to it… time to make the hats.
Europe’s disastrous coronavirus vaccine rollout has also had a lot of airtime in the past fortnight, as the sclerotic Old World lives up to the name. Having promised citizens of member states that the EU’s heft (and collective approach to negotiating contracts with suppliers) would give it an advantage when it came to escaping covid-19, the Commission’s procurement process turned out to be so flawed that it will now receive just a fraction of the vaccines ordered. By delaying the rollout, the costs of this blunder will be huge, and it has caused uproar across the continent. Embarrassingly, the UK (which Brexited in full less than one month ago) is way ahead of the EU when it comes to leaving lockdown. Flailing around (and obviously jealous of Britain’s success), Commission President Von der Leyen then decided to make matters worse by imposing vaccine export controls and invoking controversial Articles in the so-called Irish backstop (part of the UK’s Withdrawal Agreement with the EU). She did this to ensure that the EU could pirate vaccines made on the continent which are currently destined for other markets, thus boosting its limited stockpiles; and, in one fell swoop, she made the EU a world leader in vaccine nationalism. Moreover, by creating a border in Ireland, the decision has highlighted the limited stock that the Commission places by one of the central moral issues in the Brexit debate. A rapid U-turn followed her kneejerk decision, but for Unionists in Northern Ireland the damage is done. They are now pressing for the UK to tear up the backstop to deal with a plethora of issues which are currently affecting trade across the Irish Sea. Meanwhile, militant elements have promised violence if the UK government does not take action. What an ignoble end to the high horse that the EU sat on for the past five years…
From an investment perspective, EU incompetence highlights that even with the Biden Administration pushing for more taxes and regulatory action in America, there are very few quality developed market alternatives to US assets and the dollar. Additional fiscal stimulus, the relative success of the US on the vaccine front, and a much larger pool of dynamic corporate winners than in Europe (as shown by solid tech earnings out this week) suggest that Uncle Sam remains relatively handsome in the global beauty contest, if a little bruised. That said, there is one country that we are positive on this side of the Atlantic – the UK. The consensus view on the UK has been downbeat for many years now, but we believe that there is considerable investment value to be extracted from post-Brexit Britain. Indeed, the vaccination success story, underlined by the Bank of England’s bullish 2021 forecasts released this week, might be just what Mr Market needs to get interested in Blighty. We suggest you get ahead of him.
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