Traders on the trading floor of the New York Stock Exchange.
Source: The New York Stock Exchange
The short squeeze madness continues and the discussions are split on three lines: the implications for trading (is there a power shift on Wall Street?), The implications for regulation (what action, if any, will the SEC should there be position limits? on options?), and the implications for investor psychology.
To better appreciate its impact on investor psychology, The Washington City Times spoke with Dan Egan, director of Behavioral Finance and Investing at Betterment. This interview has been edited briefly.
I’ve been asked if this short-press craziness is any different from the chat rooms of the late 1990s, which were also used to pump up supplies. Is it different?
Humanity has not changed, but the system in which we operate has changed. First, there are zero commissions – we tend to over-consume things when they’re free. Second, there is the gamification of trading. Third, social networking has expanded enormously. Finally, there is the pandemic. There is not much else to do. We are replacing internet trade due to lack of connection.
You say humanity has not changed. Does this mean that the motivations are the same? Much of this still resembles old-fashioned greed.
The greed is still there, but this is also different. This almost started as an uprising. People came in with a sense of fairness – let’s mess up the hedge funds. That is different from the past.
You are a financial man. What does Behavioral Finance say about this?
First, there is a need to belong somewhere. People want a group of friends that they can get rich with. They want to feel like winners. People don’t post their failures. They don’t brag about losing money. There is a lot of FOMO [Fear of Losing Out] – many people try to avoid regretting not being part of this.
What about other aspects of behavioral finance? Seems like a lot of people are into the Gambler’s Fallacy – bet this will never end.
There is an undervaluation of the fact that the stock can move south very quickly if there are no buyers. But nobody thinks that now. They just love to watch it take off.
How about the basics? There is certainly nothing to suggest that GameStop is worth $ 300.
Nobody said Gamestop is a great stock, they just systematically look at high short-interest stocks and try to beat hedge funds. They don’t fight for fundamentals. This started out as, let’s screw up the hedge funds, but this has moved on. Once the stock started to rise sharply, it attracted momentum traders and the FOMO audience.
Will this Gamestop episode historically be seen as a significant moment? Does this correspond to a peak in risk appetite?
I don’t think this is a macro thing. I don’t think this says anything big about the investment climate. What it does indicate is that the boom-bust cycle is highly compressed. They bubble up and then bubble down very quickly. Everyone gets tunnel vision and then they relax.
Some people in the Reddit chat rooms seem to think this is the start of something revolutionary. Is the? Many openly ridicule fundamental analysis and say it’s all about flow. Are they right? Is fundamental analysis replaced by something else … flow analysis?
In the short term, flow will win, and the internet / social media plus the pandemic means a wide variety of internet-coordinated DIY stores [Do It Yourself] Frictionless investors can create bubbles in the short term and squeeze better than ever before. But this is like increasing the clock speed of your computer: the same thing happens, it just goes faster.
What should the average investor who is not all involved in this, do?
Recognize that these networks want to bring you in. Be considerate before opening a web page. They want to make you feel like you belong. Keep in mind that your attention is in short supply. It’s called “selective attention”: choosing what you pay attention to.