Rusty and I are thrilled to announce that Brent Donnelly will be joining us as a guest contributor to Epsilon Theory.
Brent is a senior risk-taker and FX market maker at HSBC New York and has been trading foreign exchange since 1995. He is the author of The Art of Currency Trading (Wiley, 2019) and his latest book, Alpha Trader, hits the shelves in Q2 2021. Brent writes a daily email focused on FX markets that is my go-to source for understanding that enormous corner of the market, but in truth his writing is applicable to every aspect of investing. You’ll see what I mean when you read his latest post below!
As with all of our guest contributors, Brent’s post may not represent the views of Epsilon Theory or Second Foundation Partners, and should not be construed as advice to purchase or sell any security.
What is off-Wall-Street and off-off-Wall-Street?
In New York City, there is Broadway, where the lights are bright and the famous plays like Hamilton, Rent and The Lion King run. Then, there is Off Broadway, venues with seating capacity from 100 to 499 that show some fairly well-known but obviously less epic productions. Third, there is Off-off-Broadway, which began as a “complete rejection of commercial theatre”. These are the sub-100 seat venues that show experimental drama and theatre.
Similar, but different, is the information ecosystem for trading and investing. While we tend to focus on the highbrow outlets like FT, Reuters, The Economist and others, there are other less highbrow outlets that carry useful information and market-moving clout.
The point of this note is to do a medium-deep dive into a few off and off-off Wall Street joints that you may not know about and may find useful.
Here’s a diagram that shows my best effort to classify the major investment and trading information outlets according to the year they were founded and whether they are highbrow or lowbrow. This classification is subjective and was not as easy as I thought it would be. For example, which is more highbrow … The Economist, or The Wall Street Journal ?
I hope no one is insulted by my choices and just to be 100% clear: lowbrow is not synonymous with bad! Some of my favorite things are lowbrow. To me, lowbrow just means something that is not highly intellectual; something that appeals to the median person on the street. For me, that can be good (movies like Old School, music by Post Malone, and quality chicken wings) or bad (American Pie sequels, music by Pitbull and boiled peanuts). The matrix is inspired by those New Yorker matrixes from the 2000s. Here it is:
The curvature of the chart over time is interesting. The only publications that survive in the long run are highbrow. This makes sense to me intuitively as parody and lowbrow tend to be more faddish and fashionable while intellectual rigor is timeless.
But before we get into the discussion of FinTwit, Reddit and TikTok, you may wonder: Why does any of this matter? There are four reasons:
1. There is interesting and unique analysis on Twitter and Reddit that you won’t see anywhere else.
This is true whether you trade macro (best stuff is on Twitter) or single names (craziest stuff is on Reddit).
2. Retail opening new accounts and gambling with stimulus checks is the rocket fuel driving bubblicious, crazy moves in single names.
You cannot fully understand this until you witness the amount of overconfidence, indiscriminate buying, straight up silliness and outright gambling going on. In 1999, I belonged to a bulletin board called The Underground Trader. When a stock started to trend on there, it might rally 3%-5% in a few hours. Now, when a stock starts to trend on r/wallstreetbets, it can go up >100%. See GameStop (GME) in recent weeks, for example.
The chart at right shows the rocket ship formation in GME as the massive short interest ran head on into the r/wallstreetbets hype machine. There are other factors behind the rise in GME but even Jim Cramer has been talking about the subreddit’s influence on this particular single name.
These next charts from Bloomberg and FinTwit give you another indication of the explosion of interest from retail. Note that retail investors tend to prefer things that are cheap and things that have significant leverage.
This stuff matters hugely at the penny stock level as retail interest can completely overwhelm supply. There was a day last week where 20% of all US equity volume was made up by five microcaps and 6 of the top 10 most active stocks were priced under $1. Obviously it’s easier for cheaper shares to trade higher volumes but this sort of activity in microcaps is highly unusual. To quote from this Bloomberg article:
“I thought it was pretty odd,” said Saluzzi, co-head of equity trading at Themis Trading. “I’ve been around for a long time, I’ve seen people in chat rooms and retail investors saying ‘we can make some money – it’s easy.’ There’s a risk it may not end well.”
3. Retail is an important driver of the bull market / bubble in financial assets.
While retail is the dominant player in many single names now, there is most likely an impact at the index level as well with TSLA, AAPL and other index members attracting much of the new long-only money. You cannot go short in a Robinhood account and very few people seem to buy puts so the money is either long or levered long with some multiplier above 1. Every stimulus announcement sees a massive inflow into crypto and retail equities and there is no reason to expect that to change.
Poorly-targeted stimulus (See Scott Galloway here, for example) and ultra-loose monetary policy are driving assets higher. The more you understand the retail story, the more you will be prepared to take the other side of the bubble when it comes crashing down. As I have said many times, but would like to say again: It’s easier to make money long a bubble, not short. The two recent USA bubbles (internet 1999 and housing 2005) both popped well after the Fed’s first rate hike. Even if you think this bubble is crazier and that markets learn from the past, the bursting of the current bubble is still somewhere way, wayyyy down the road. Here’s a Bloomberg story:
Here’s what happened in the market around the time the government sent people $600 earlier this month. Penny share volume mushroomed. A company that sounds like a word Elon Musk tweeted rose 1,100%. Tesla added $130 billion, IPOs doubled and options trading exploded.
Coincidence? Maybe — though a lot of people doubt it. They can’t help notice how tiny traders with money to spend keep turning up in the vicinity of almost every market spectacle these days. Now, more federal aid may be on the way, and Wall Street pros are bracing for what comes next.
“If the additional $1,400 goes to the same income levels it did before, we are highly likely to see additional speculation in stocks, which could continue to inflate an already-existing bubble,” Peter Cecchini, founder and chief strategist of AlphaOmega Advisors LLC, said in an interview.
4. It’s fun!
The fourth reason to spend some time on FinTwit and Reddit is that there are a ton of smart and funny individuals posting hilarity. Recall the fun and games around Davey Day Trader in April and May. Here are a few examples from one of my favorite follows on Twitter, a parody account called Dr. Parik Patel.
So what are these things anyway?
What is FinTwit?
Let’s talk briefly about Twitter, then move on down the spectrum. I am finding more and more in recent years that FinTwit can be a source of unique and super smart information. (In case you don’t know: FinTwit sounds like a putdown but it’s just short for “Finance Twitter”). Writers like Jon Turek, Lyn Alden, and Nathan Tankus rose to prominence on FinTwit and are among the gurus that share in-depth writing on the site. Jens Nordvig publishes great stuff all the time, and you can get a view of what pre-eminent thinkers like Ben Hunt, Tim Duy, and Scott Galloway have on their minds. Hard to say if FinTwit is lowbrow or highbrow: It’s both.
It takes a while to properly curate a list of Twitter handles to follow and it’s not as simple as just cutting and pasting someone else’s list because it’s a matter of taste and preferred topics. That said, next week I will send out a survey and try to aggregate everyone’s favorite Twitter handles and see if we can come up with a nice master list.
As you drop down the highbrow axis, you eventually get to r/wallstreetbets.
What is r/wallstreetbets?
Let’s start from the top level and work down. Reddit is a community-curated message board where posts of value are upvoted and content deemed unworthy is downvoted. The result is a marketplace of ideas that is nearly impossible for marketers and corporations to infiltrate and a system where quality mostly rises to the top. The culture is smart, snarky, funny, self-referential and full of in-group lingo. Reddit is broken into over one million topic-based communities called subreddits. One of those millions of subreddits is a beautiful and amazing cesspool of intellect and degenerate financial market gambling called r/wallstreetbets.
The main screen says: “r/wallstreetbets: Like 4chan found a Bloomberg terminal”. Members of the community are called “degenerates”. The r/wallstreetbets subreddit currently has 1,888,019 members.
If you go into r/wallstreetbets (WSB for short), you will find a community of funny, rude, self-deprecating and reckless speculators riffing on various market-related activities. The focus tends to be one or two stocks and the primary investment thesis is almost always to YOLO as many calls as possible in the thing that is about to…
There is a lot of despicable and sophomoric language but mixed in there are some good ideas and some well-informed speculators. For every dumb post, there is (for example) a quality analysis of the SEC uptick rule and how its enforcement or lack thereof can impact a stock with more than 100% of free float outstanding.
In WSB lingo, strong hands are called “diamond hands” and weak hands are called “paper hands”. Profits are called “tendies” as in chicken tenders, as in the ultimate luxury food. One sample post I just scrolled to reads as follows: “TSLA – Best $100K I’ve ever spent. When do I hop off the tendie coaster???” and then shows a screenshot of an absurd gain on super low delta calls in a Robinhood account.
A lot of the memes and posts and culture are self-effacing, self-deprecating and traders brag just as much about huge losses as they do about huge gains. It’s ridiculous but much of what is on there is clearly real and it’s serious money being wagered, much of it borrowed money or entire 401ks.
Under the fun headlines and silly posts, you will see some impressive deep dives usually under the flair: “DD” for due diligence. Every post is headed with a “flair” or heading. The most popular flairs are: Meme, gain, loss, YOLO, and DD. At right you see a DD post that then goes into some CFA type analysis that you might otherwise have read on Seeking Alpha or some similar site.
The community is heavily invested in hopes for a continuation of the GME short squeeze right now, so there are many posts like the one on the left below (turning the $1,200 stimmy check into more than $10,000) and random cheering:
Obviously some of the screenshots could be faked but overall it seems to me that many, many young traders have a majority of their net worth ($25k to $100k) invested in one or two stocks or a few OTM calls with hopes that those stocks will continue to rocket. So far so good for them!
Bull market, dude.
You can have a look for yourself, just Google r/wallstreetbets.
As you follow the y-axis lower and lower on my original “investment information ecosystem” chart on Page 2, you will notice way down in the corner, down below zero on the 0-1o lowbrow/highbrow scale is: “TikTok Finance”.
What is TikTok finance?
TikTok Finance is generally an extremely hype-heavy cringey place where inexperienced traders pump questionable strategies to an audience of inexperienced investor-trader-gamblers.
A CNBC story explained it this way:
TikTok for financial advice? Young people are turning to the video app for tips to weather the recession. Amid TikTok’s surge in popularity, a growing number of users are turning to the app for personal advice. As of mid-June, the #investing tag on TikTok had racked up 278 million views. Experts caution that accounts offering guidance may be skipping important lessons and hawking get-rich quick schemes.
If you are brave, watch this clip where two TikTok influencers describe their stock market strategy. If you are easily triggered, just read my abridged excerpt below. And keep in mind as you read it, that these two TikTokkers have 115,000 followers. Here is an excerpt:
We get this question all the time and honestly the answer is very simple… How do we make money from home? So basically, we just trade stocks on Robinhood. It’s free to sign up and they actually give you a free stock to sign up … so they’re paying you to sign up.
I know trading sounds intimidating…
Here’s my strategy in a nutshell: I see a stock going up and I buy it … And I just watch ‘til it stops going up. Then I sell it and I do that over and over and that’s how we pay for our lifestyle. What I like about this is … the fact we don’t have to go to a 9-5 job. We can focus on things we actually enjoy doing.
This month I turned $400 into $14,000 (see screenshot at right)…
The terminology! “You get a free stock when you sign up” makes me cringe and it comes up all the time in the TikTok, Robinhoodie world. Here it is again at 7:34 of this video from a poker vlogger looking to sign up new Robinhoodies and WeBulls via an affiliate link. Key quote: “Last time I did this, I got an Apple stock, which is ka-razyyy!?”
You get the idea, but here are a few of the comments below that TikTok influencer video:
It’s not as funny as it seems
While much of what I have posted above is comical and good clean fun (and certainly something I would have been actively engaged with in my 20s!), it also points to a less funny issue: the ongoing gamification of stocks and the lack of seriousness with which many now view financial markets.
As asset prices decouple further and further from the real economy and a rising percentage of unprofitable companies come to market, a new generation buys a stock not because they believe in the company and its products and want to share in its future profitability. They buy stocks as a substitute for sports gambling or to stifle the unending boredom of the pandemic. They bet their entire stimmy check on deep OTM options in a YOLO move to bragpost @ their online friends.
In 1999 the main overriding thesis was “internet gonna change the world”. Now the overriding thesis is “stonks only go up”. The market is turning into a meme machine, a cartoon of its former self, as Neb Tnuh might say.
Brain science shows the prefrontal cortex is not fully developed until age 25. Young men crave novelty and risk-taking as their prefrontal cortex develops and this risk-taking is a healthy part of growing up. Now the real world is shut down and does not offer much risk. There are no cliffs to jump off, or skate parks open, or places to drive way too fast to. So the risk-taking happens on a stock betting app fueled by extreme and experimental monetary policy geared toward higher asset prices. Funded with stimulus checks.
I am not claiming superiority here, I took more than my share of unnecessary and excessive personal risks from ages 18 to 25. It’s what you do at that age. But there were better things to do at that time then play the stonks game on my phone.
The orthodox view of financial markets (or “the boring Boomer view” as they would say on Reddit) is that the stock market is where companies go to raise money for investment and expansion in the real world. Now, the cynical view is the majority view: the market is a place where founders and insiders cash out and executives turbocharge stock-based compensation via buybacks. That’s not good. When capital markets are a source of ridicule, not respect, it hurts capitalism and it inevitably hurts America. It’s all fun and games until someone loses their 401k.
Anyway … As this bubble takes on more and more air and I witness most of the exact behaviors that defined the euphoria in 1999, I feel more and more like an old man yelling at clouds.
Until the Fed reacts, just keep on dancing!
Brent Donnelly is a senior risk-taker and FX market maker at HSBC New York and has been trading foreign exchange since 1995. He is the author of The Art of Currency Trading (Wiley, 2019) and his latest book, Alpha Trader, hits the shelves in Q2 2021.
U.S. Global Markets Sales and Trading Commentary Disclaimer