If 'Don't Fight the Fed' Were a Picture
Meme stocks and leveraged ETFs are telling us something. Traders and investors should focus on hedging price risk.
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We are generally optimistic and know it pays to be bullish on equities far more often than bearish. Yet, we have a sneaking suspicion that we are on the eve of a risk event in which the piper must be paid for all of the creative and aggressive economic stimulus that has occurred since the financial crisis.
Market manipulation and almost complete removal of the business cycle have generated the most prosperous equity market ever, but can the House of Cards survive time? Maybe, but probably not.
That doesn't mean we see complete Armageddon tomorrow or even in 2024. Perhaps this is more of a 2025 event. Even so, it is essential that we get our minds right going forward.
Is 2024 the New 2007/2008?
I'm old enough to remember life before the Financial Crisis. From 2004 through 2006, stocks and real estate only went higher. Flurries of merger-and-acquisition deals led analysts to believe the party would continue indefinitely (when big business is willing to make big moves, the assumption is they see a strong economic outlook).
At the same time Wall Street was hitting the gas, so was Main Street. Financial advisors pushed aggressive tactics such as taking home equity loans to purchase stock at a higher "expected" return than what they were paying to borrow funds.
Further, money managers were knee-deep in the carry trade (borrowing yen to invest in U.S. equities, forcing the yen to highly discounted levels). If some of these things sound familiar, it is because they are.
Meme Stocks and Leveraged ETFs Are Telling Us Something
Money flowing into meme stocks such as GameStop GME and AMC Entertainment AMC (mostly worthless companies seeing their share price manipulated higher by a group of colluding traders referring to themselves as animals) suggests to us that something is amiss.
Further, the inflows into leveraged single-stock ETFs are stunning. For instance, assets under management for the long 2x Nvidia NVDA stock have grown nine times at the end of the first quarter. The Nvidia share price is up over 200% from a year ago. Apparently, that isn't enough...investors are opting for the double-long derivative of the stock, which is up over 400% in the same time frame.
Kudos to those who have achieved massive gains through these products, but these returns are abnormal and often come with severe consequences to anyone who overstays their welcome. Even worse, if the bandwagon traders run for the exits in a disorderly fashion, it could easily take the entire market down with it.
Traders and investors should focus on hedging price risk. That said, we will likely see 5450-ish before running into resistance.
