The wild trade saga surrounding GameStop Corp. and other meme stocks targeted by groups of individual investors who ostensibly want to prove a point, instead of making a profit, could signal a major change in the way parts of the market function – or, more precisely, don’t work , an experienced market analyst warned.
“My concern is that this could lead to what academics call noise-trader risk, where rational traders leave asset classes dominated by irrational traders because the risk is too high,” said Owen Lamont, associate director of multi-asset research for Wellington Management’s Quantitative Investment Group, in an interview published in Goldman Sachs ‘Top of Mind’ newsletter Friday.
As a result, volatility would lead to volatility in certain markets, leading to massively mispriced assets, ”he said.
“Noise trader” is the polite academic term for market participants whose trading decisions are often erratic. But the concept may take on additional meaning after investors organized through Reddit’s WallStreetBets forum sparked a spike in the shares of video game retailer GameStop GME.
last month. The move, fueled by individual investors who wanted to punish short sellers who had driven short interest in the stock to 140%, caused the stock to skyrocket.
Some short sellers took painful blows and the resulting “squeeze” caused ripples in the stock market as hedge funds tried to reduce leverage. But other hedge funds also made a killing and took the ride higher. And some individual investors who joined late suffered severe losses when stocks fell.
GameStop, which finished close to $ 18 a share last year, rose to $ 483 in late January before falling and traded below $ 40 a share last week. GameStop and other popular stocks targeting Redditt are up again this week. GameStop had a choppy trade on Friday, finishing with a 6.4% loss at $ 101.74, but gained more than 150% this week.
Read: GameStop Round 2? How a frenzy over buying options gives new shock to meme stocks
The phenomenon has led to increased focus on a range of practices, including short selling; the gamification of online commerce; resolution proceedings; and payment for order flow, where market makers pay brokers to send orders to them, a practice that has contributed to the pursuit of zero-cost trading.
It has also sparked discussions about the role of individual investors, which have shown renewed interest in the market. Aside from the fact that many analysts view this new cohort of market participants as smarter than previous generations, they are less likely to chase returns.
Read: Individual investors are back – this is what it means for the stock market
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Lamont said it was unclear whether the trade raids organized through social media will be an enduring phenomenon.
“The internet has allowed decentralized groups of activists to coordinate their actions in both politics and finance, and it’s hard to say whether social media-induced trade will become or remain a fad like hula hoop,” Lamont said. For now, the trend appears to have led to a decrease in liquidity and greater volatility in the financial markets, he said, noting that it is difficult to say whether the lack of liquidity leads to higher volatility or vice versa.
Regardless, prices seem less and less like the result of an orderly process, Lamont said.
“The more traders are motivated by something other than profit, such as excitement, group loyalty or an anti-establishment sentiment, the more likely this will happen,” said Lamont. “I see a good chance of continued disruptions, especially in illiquid names or obscure corners of the market, as well as wider market flash crashes like the ones we saw in 2010.”