Ok so look I know the world probably doesn’t need another article on this. Obviously you’d need to have been on Mars for the last week not to have seen the world lose their minds over the GameStop stock story, that became an iconic meme, that became a saga that turned into a real pop culture moment. This had everything, a David/Goliath story, an us/them populist & political moment, all shrouded in a bunch of technical details. And lets be honest we can all use a bit of light relief at the moment. This isn’t another piece on what happened, what might happen, or even the moral case one way or the other though.
I’m asking the question, what does this mean for long-term investors? Should they care?
I see at least three ways you could argue this: it undermines market function, and so negative for long-term investors; it’s purely entertainment and neither here nor there; or finally it’s actually improving market function by ironing out structural inefficiences (by invetors exploiting them).
Let’s dig into these three arguments –
- It undermines markets, it’s bad
Quite a lot to be said for this take. At this point I think we can say that there’s a misallocation of capital going on here, as well as market manipulation and this sort of activity can be destabilising and undermining to markets. Even the relatively thoughtful long-investors in GameStop (listen here for a great sense of that) admit that the stock got way beyond fundamental value. Misallocations of capital harm markets, making them more dysfunctional, and are likely bad for long-term investors if they get caught up – directly or indirectly -in the wild swings associated with these episodes. A high stock price can crystallise into real-world gains if the company is able to issue more stock, which can translate into actual (unearned) advantages over competitors. Equally it could harm the company if it causes all the genuine long-term value investors in the company to sell. Market manias and crashes create externalities that overal harm long-term investors through wild swings in volatility, the dot-com boom/bust being the most famous. Even if markets ultimately recover the volatility may have triggered long-term investors into bad decision making which could cost them. This argument would have that these episodes should be limited or prohibited perhaps through limits on trading volumes.
2. It’s just entertainment
Gamestop was, and still is, just a tiny percentage of global equity indices. Even active managers who believed in the stock probably only had small positions. One of the beauties of long-term, and especially passive investing is you don’t need to care if a stock goes up 1000% and then to zero, you don’t have to worry. A diversified global portfolio can ride these waves up and down and not get too het up about it. While individual mispricings and efficiencies might well exist, these more or less get averaged out at an overall level. Given current state of the world, we’re all for a bit of light distraction – this school of argument would hold that’s all this episode is for long-term investors.
3. By expoliting structural inefficiencies, this makes markets better
The more libertarian-leaning view probably tends this way. It would have that you want individual participants to pick up and exploit inefficiencies (and yes, profit from them) but overall this makes markets better and more efficient. This is often the argument that is used in defence of short selling (Which I personally do have a lot of sympathy for). Short sellers make markets more efficient overall by representing negative views on prices (and tempering optimism getting out of control). But that’s not the story here, the short sellers in this case are firmly on the losing side. So what’s the inefficiency here that’s been ironed out? That’s harder to pin down. Perhaps its the public disclosure of the short positions, the complex dynamics behind gamma-squeeze or the fact that somehow the market was able to get to net shorts greater than 100% of the market cap (which isn’t actually allowed, but anyway).
So what do I think? I probably tend to thinking the whole thing is negative to market functioning rather than positive, but then again I don’t take the view that insists on every aspect of markets be perfectly efficient. At the micro level there has always been, and will always be a tonne of human behavioral elements involved around stories, dramas, overreations etc. I don’t personally think that trying to squeeze all of this out of the markets in the name of proper functioning is both unnecessary and impossible.
I would say that as a long-term investor you’ll want to have a check on how your active managers are operating, as this does signal a change in market micro-structure, which matters for active portfolios. I would have thought any manager with shorts must be thinking twice right now, and it does raise questions over the viability of long-short portfolios. Markets are always in a state of flux, and one of the reasons for the popularity of this story is it’s bellweather as a change in the way market participants work. Another reason to favour passive portfolios perhaps. Overall I’ll settle on saying that on balance long-term investors should sit back, and enjoy the story.
Sidenote for the investment industry: if you are still sniggering at retail investors as “dumb money”, as so much of the industry is want to do, you need to read gmedd.com or listen to this podcast. The quality of the original Gamestop long these matches anything you will see from top instituional money manager. It’s very lazy thinking to still believe that retail investors are out there to get easily fleeced by the profesionals, it could just as easily be the other way round. But the real question here is, when the Gamestop traders take their new fortunes and turn to the investment industry where will they go? It seems unlikely to me they would just stick it all in a tracker fund and go do something else for the next 20 years, and they might well expect the sort of ease of use and instant communications that they’ve had – in many cases they will be disappointed. The fund industry was set up to cater to the Baby Boomer generation and has made spectactular fortunes for many in doing so pretty well. But the clients of the future probably do want something different, the industry would be wise to try and listen.
If you liked this check out my other recent post on why the term Emerging Markets is no longer relevant.
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