Welcome to the Capital Note, a newsletter about business, finance, and economics. On the menu today: GameStop’s rally, Andreessen Horowitz’s new media venture, Biden’s renminbi policy, and how Reddit rallies around stocks. To sign up for the Capital Note, follow this link.
Investment vs. Consumption
Value is subjective. Different people ascribe different value to different goods and services. Some people spend a great deal of money on sports cars and expensive dinners, while others save for retirement or their children’s college tuition. One of the key functions of a market economy is to aggregate the preferences of many millions of individuals into a single price for a good or service, set by supply and demand.
Financial assets are technically priced the same way. Buyers bid on stocks and brokers accept those bids if they consider the price fair — supply meets demand. But stock valuation is different from that for goods and services because the value of a stock — future cash flows — is fungible. When you buy shares in a company, you’re spending money now to receive money in the future. Your personal preferences matter as far as risk appetite is concerned, but all else being equal, everyone prefers higher risk-adjusted returns, so stocks and other financial assets should tend toward a certain “intrinsic” value.
Preferences come into play only when the investor has exited the investment and proceeds to spend his earnings. As a general matter, then, there should be significantly less heterogeneity in the prices of assets as in those of goods and services.
But what happens when the line between investment and consumption is blurred? The big financial stories of the past few weeks — skyrocketing prices for Bitcoin and a handful of stocks favored by the denizens of Reddit’s “Wall Street Bets” forum — give a taste. Professional money managers have screamed bloody murder at the astronomical rally of GameStop, a struggling retailer handpicked by an army of Reddit day-traders as the next “YOLO” trade.
You might buy GameStop shares in order to receive its future cash flows, but you might also buy it because your friends on Reddit own it and it seems fun to go all in on a random stock, no less so because of the nostalgia you feel for your childhood trips to buy Halo. You might even screw over some short-sellers in the process, and why not?
Many people enjoy patronizing casinos despite the widely known fact that casino gamblers are certain to lose money over a long enough time period. But for most gamblers, especially amateurs, the casino is less an investment product than a consumption good. If you go to Mohegan Sun with a few hundred dollars and waste it away at the blackjack table, you will probably be worse off than if you’d made money, but you will have gotten to have a generally pleasant time spending a few hours drinking free cocktails and sharing stock picks with the dealer.
My half-baked explanation of the crazy retail activity in stocks such as GameStop, Express, AMC, and Blackberry this week is that the rise of online day-trading is turning certain stocks from investments into consumption products. As with casino gambling, the possibility of a financial gain is part of the appeal, but the process of trading in and out of stocks with online friends is about more than making money. It’s an experience; it’s a lifestyle.
The difficulty is that the financial system relies on the efficient pricing of stocks to facilitate capital allocation, a process that can be disrupted if enough people decide that they want to consume a stock rather than invest in it. While retail-driven movements are still limited to a handful of names, and should revert to the mean over time, they can upend certain corners of the market.
The bailout of Melvin Capital Management by Citadel and Point72 is a case in point. Gabe Plotkin, a professional capital allocator working on the assumption that adjacent market participants view stocks as investments, suddenly found himself in a casino, where investment and consumption commingled to produce a meteoric rise in GameStop’s valuation. The retail rally hit Plotkin with margin calls and squeezed many other out of their short positions.
If you’re a hedge-fund manager, you can reasonably assume that you’ll stay in the rational world of investments 99 percent of the time. But the 1 percent of the time that you’re not could put you out of business.
People want to learn about the future. If Software really is Eating the World, there needs to be a place that is dedicated to explaining and tracking it.So we are doing just that: we are building a new and separate media property about the future that makes sense of technology, innovation, and where things are going — and now, we’re expanding and opening up our platform to do this on a much bigger scale. We want to be the go-to place for understanding and building the future, for anyone who is building, making, or curious about tech.
China’s currency notched its best six months on record in the second half of 2020 as investors bet that Mr Biden would unseat Mr Trump, whose tariffs on Chinese goods hit the renminbi.
“The Biden administration is likely to be a lot more balanced in its approach” to China, said Mansoor Mohi-uddin, chief economist at Bank of Singapore.
But further strength in the renminbi would require more positive developments in US-China relations, he added, such as the removal of tariffs imposed by the Trump administration, which at one point designated Beijing a currency manipulator.
Bloomberg’s Bailey Lipschultz dug into the events that led up to GameStop’s eye-popping rally:
GameStop’s 83% gain through Friday comes after it more than doubled the week before and marks the most volatile 10-day period on record, data compiled by Bloomberg show. The stock was halted at least four times in New York trading on its way to a record close. The stock surged 51% Friday to $65.01.
At one point, the video-game retailer was the most actively traded U.S. company with a market value above $200 million, data compiled by Bloomberg show, as millions of shares exchanged hands every few minutes . . .
GameStop’s parabolic rise, which has come amid steady and elevated short interest and increasing volume, has showcased the divide between retail bulls and bears betting on a quick return to reality. More than 193 million shares were traded on Friday, marking the most active day for the company since it went public in 2002.
GameStop became a “cult stock because of Ryan Cohen’s success with Chewy” and retail investors “appear confident that he can implement omnichannel initiatives that will materially grow their earnings,” Wedbush analyst Michael Pachter said in an email.
For the company to be worth $50 a share it would have to quickly double their growth, Pachter, who has a $16 price target which is the second highest among analyst tracked by Bloomberg, continued. In order to give GameStop credit for higher earnings power, Pachter, who rates the stock at neutral, wants to see Cohen’s strategy . . .
Wall Street analysts have largely stayed quiet amid the stock’s recent bout of volatility. CFRA Research analyst Camilla Yanushevsky reiterated her sell rating on Jan. 15 and credited the bulk of last week’s gains to a short squeeze after activist investor and Chewy Inc. co-founder Ryan Cohen was added to GameStop’s board.
Bearish bets have remained steady with 140% of available GameStop shares currently sold short, according to data compiled by S3 Partners. Bears have seen more than $3.3 billion mark-to-market losses this year, according to the financial analytics firm.
“While older existing shorts have been covering some of their positions due to a profit-loss based short squeeze, there is a queue of new short sellers wanting to get short exposure in GME after its recent run-up,” Ihor Dusaniwsky, S3’s managing director of predictive analytics, said by email.
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