4 Trading Lessons From GameStop, AMC and Other Meme Stocks

The market was acting very poorly Tuesday, but the losses in the S&P 500 and Nasdaq 100 QQQ were still fairly minor. Breadth is running two to one negative overall, and the Russell 2000 is back under its 200-day simple moving average.

Small biotech and mainly speculative names are being hit hard. There are only a dozen or so stocks that are up more than 10% as small traders give up on some of the more aggressive stocks.

Meme stocks such as GameStop GME and AMC Entertainment AMC have been back in the headlines recently primarily because a person going by the screen name "Roaring Kitty" posted ownership of a very large position in GME. This person was largely responsible for creating a wild short-squeeze back in 2021 that drove the stock to insane heights.

There are some questions about whether this really is the same person or not, but whatever the facts are, it has created renewed interest in these names. The action has spilled over to a few other stocks, but so far, it doesn’t look like the same sort of frenzy that occurred back in 2021 is going to develop.

Here are a few things to keep in mind if you are considering trading these extremely speculative names.

1. It Is Never the Same

The traders that are playing GME and other meme stocks are looking for a repeat of the conditions that created the giant short squeeze in 2021. The environment now is very different, and there aren’t substantial shorts to squeeze. Also, Roaring Kitty is now trading options, so the whole idea of using "diamond hands" to hold a stock with fundamental value is totally undermined. The stock is simply a trading mechanism without fundamental value to provide support.

Every trading environment is different, and if you think history will repeat in the exact same way, you are likely to be wrong.

2. Most Meme Traders Have a Gambling Mindset Rather Than a Speculative Mindset

Gamblers are hoping that good luck is on their side, and they are hoping to get rich quick. They tend to look at their "bets" as all or nothing. Either they win big, or they are wiped out. This is often referred to as a YOLO trade — You Own Live Once.

Speculative traders tend to use various strategies to reduce risk and will have a strategic plan in place in case a trade goes the wrong way. They don’t just sit and hope for luck. They will cut losses fast and try to preserve some capital.

3. Time Frames Are the Most Important Issue

If you are going to play the meme game, the most important issue is the time frame you are using. Far too often, a meme buyer will get stuck in a stock going the wrong way and then freeze and let the short-term trade turn into a long-term commitment. You have to be very clear about the time frame you are using and stick to your discipline.

The main attraction of meme trading for many traders is the high level of volatility, which allows them to make very quick day trades. That keeps risk limited, but it is very easy to get greedy and let your emotions push you to take on bigger risks.

4. Fundamentals Will Eventually Matter

Stocks can act irrationally for a very long time, but ultimately, their fundamental value will matter, and the stock will move in that direction. If there is no good fundamental case, the trade will have a limited lifespan.

Meme trading can be entertaining and lucrative, but a very large number of folks will suffer big losses if they don’t control their emotions and do not have a plan.

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At the time of publication, Rev Shark had no positions in any securities mentioned.