- Manias come and go – usually quickly.
- Before considering jumping in on the action you should ask yourself, do you normally gamble?
- Fear of missing out is not a good reason to invest your money.
- Stick to Your Long-Term Investment Plan.
Get Rich Quick or Die (Financially) Trying
Mania’s come and go – usually quickly. This past week has seen the subreddit “WallStreetBets” come under the spotlight. This primarily resulted from a successfully organized (and rather unique) short squeeze opportunity on GameStop shares, a struggling brick and mortar video game retailer.
For a quick backgrounder to those unfamiliar, GameStop has been losing money. Hedge funds bet against the company by short selling (essentially borrowing shares to sell them, with the intention of repurchasing at a later date and at a discount, thus profiting on the difference). The only problem is that if the shares go up, the short-sellers are obligated to repurchase at some point, and the higher they go, the higher the potential losses. For a better in-depth explanation that I won’t dive into, check out Preet Banerjee’s GameStop Short Squeeze Explained – an excellent video on the subject.
So, WallStreetBets targeted GameStop and subsequently other companies, specifically knowing they had extremely high percentages of shares shorted – in some cases, over 100% (through derivatives and potentially shady trading practices. Again, reference above video).
The idea behind this ‘movement’ is that driving the share price up will essentially force Hedge Funds (rich guys) to lose all their money covering – and the small retail traders will chalk up some sort of victory.
But will they?
Recognizing a Mania or a Bubble
A good indication of a bubble or mania going on is when all of the people you normally interact with, who don’t care about stocks, for example, are suddenly talking about nothing else.
When the mainstream news is regurgitating the story all day long, it’s no longer new. It’s not the underground movement it once was and is no longer a surprise.
Before considering jumping in on the action you should ask yourself, do you normally gamble? Do you go to the casino regularly? How often do you buy lottery tickets?
Getting in late on speculative investments generally equates to just that – gambling your money. You are probably just as well off to hit the roulette table or play some online poker.
It’s similar to when there’s a big lottery jackpot; you hear the prize amount going up every day in the news leading up to the draw. People who don’t normally buy lottery tickets are happy to drop $20 or $50. Hopes and dreams fuel the inflation of the final prize amount, yet your odds of losing all of your money are the same. Well, perhaps they’re greater since you don’t normally play the lottery in the first place.
Fear of Missing Out
There is no doubt a few of the small guys will score a big payday on this, but you have to ask yourself how many, how much, and is it worth the risk?
Once crazes like this begin and they hit the news, the second wave tends to be fueled by FOMO (Fear of Missing Out). People see a few folks like the Reddit trader who turned about $50,000 in $22 Million and imagine themselves winning big. They end up betting more than they should and more often losing.
Fear of missing out is not a good reason to invest your money. I’ve had people this week tell me, “I need to get in now before this explodes!” The only problem is that if you don’t normally invest or follow the markets, you’re already late to the party. Buying late into a bubble doesn’t generally end well.
Now, if we set aside the short sellers and funds specific to GameStop, do you not think other funds, banks, professional traders aren’t aware of what is going on? They’re licking their chops along with everyone else, except with better knowledge, better tools, and better access to the markets than the general public. (That’s you).
Many miss that point. The same folks they are claiming to fight against are likely the ones who will profit the most from this unique trading opportunity. Yeah, a few lucky people will get rich in a short period of time, but most retail traders are usually hung out to dry on a normal day, so why should this be any different?
GameStop "Opportunity" Bleeding Over
When you see random people on Reddit begging others for a quick explanation on how to open a brokerage account, that’s a bad sign. I’ve seen posts inquiring, “How do I buy a stock?”, “Should I buy a Call Option?” If you’re asking these questions to expedite your newfound trading career, you probably shouldn’t be purchasing these stocks.
If, for some reason, you do decide to partake in buying GameStop ($GME), AMC ($AMC), Koss ($KOSS), Blackberry ($BB), Bed Bath and Beyond ($BBBY)… (see how ridiculous this is getting?) – don’t bet anything more than you can afford to lose.
As I mentioned, people have already realized that GameStop stock is now at ridiculous levels and are simply looking for new targets to make a quick profit. Which stocks can they potentially exploit temporarily, make a bet on, or pile into?
This craze also seems to have spilled over into crypto names such as Dogecoin, trading just a few months ago at around 0.002 cents per coin. Yes, that’s not a typo – mere fractions of a penny, with a float of only 127 Billion with a “B”, coins!
Don’t miss out…
I see people buying cryptocurrencies with a thesis along the lines of, “because it’s only $x.xx a coin, I can afford 100,000 coins! And if it goes to a dollar, I’ll be rich!”
There is no concept of how market cap works, total funds inflow needed to get to their price target or consideration that people who were in early will be selling for a profit on the way up. It becomes a giant pyramid scheme and eventually a race to see who can cash out first.
If you decide to chase these “meme stocks” or relatively new alternative assets, use your casino money! Allocate it from your sports-betting fund or your poker night stash, not your life-savings.
These are NOT good investments in my mind.
Stick to Your Long-Term Investment Plan
You don’t usually hear phrases like “CN Rail to the Moon!!!” In fact, investing responsibly can be extremely boring.
If you’re new to investing, take the opportunity to learn from the sidelines. Heck, open a practice trading account for now and follow along.
Normally I’m not a huge fan of practice accounts because they don’t factor in the emotional aspect of investing real money. However, it is a good way to learn how to buy/sell, allocate resources, and witness what can go wrong!
If you’re already an investor, hopefully, you have a plan in place. It’s ideal to have a specific time horizon, a particular asset allocation, overall strategy and long-term goal. It’s just as important to stick to your plan.
I would discourage you from changing course; capital preservation is a fundamental part of investing. Losses can really set you back if you aren’t careful when taking a flyer on one or two stocks in an attempt to get rich quickly or fast-track your plan.
I can’t emphasize it enough, stick to your plan, stick to your asset allocations. Try to use your fun money if you really want to partake in the craziness, but don’t risk damaging your portfolio.
There’s lots of talk of “YOLO Calls,” – but do you really want to use that rationale to risk your hard-earned money? You only live once, but if you’re young, you might be working an extra five years way down the road to make up for those brief YOLO moments while time was still on your side.
From a personal perspective, I look at it in terms of simple risk and reward. Even if I try one of these trades as a gamble, I’m not willing to put enough capital at risk that the returns are likely to make any meaningful difference to my overall portfolio or financial situation. If it were enough to make me rich, it would also expose me to way more downside risk than I would consider acceptable.
Maybe that’s Boomer talk? But I really think people looking up how short squeezes work would be better off spending their time researching how to value a business. A dying business like GameStop, losing millions every year before the compounding complications of a pandemic, shouldn’t be valued at 30 billion dollars. How many decades would it take you to recoup your initial “investment” if this was a private business?
Don’t set your financial plans back on a get rich quick gamble. Understand who and what you’re betting against, and more importantly, why you are risking your money.
Learn more about how markets work if you’re a new investor and don’t think you’re smarter than the market. Do your best to avoid the crazes and stick to your investment plan. If you decide to participate, know your limits and allocate your fun money only, the money you can afford to lose 100% of.
Original Article - January 29, 2021 - Family Money Saver
Analyst's Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
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