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Stock Market Frenzy

There has been a lot of interest in the stock market over the past week after investors from the Reddit message board managed to give shares in GameStop a huge boost and send prices of a few struggling companies (GameStop, AMC, BlackBerry…) soaring.

Jeff Powell, CIO, Managing Partner & Founder of Polaris Wealth & Jeremy Witbeck, Partner at Polaris Wealth, discuss story so far, with an explanation of stocks, short-selling and what has been happening with GameStop.

Jeff Powell

Jeff Powell

Jeremy Witbeck

Jeremy Witbeck

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Jeremy Witbeck
Welcome, everyone to our Polaris Podcast. I am Jeremy Witbeck a partner of Polaris Wealth advisory group. And we have Jeff Powell, our managing partner and chief investment officer with this as well. How are you doing?

Jeff Powell
I’m doing well, Jeremy, how yourself?

Jeremy Witbeck
Yeah, doing excellent. It’s certainly been an exciting last couple of days. Maybe not in the way that we like it to be exciting. But there’s been a lot of talk and some turmoil caused by some of the movements of a few stocks that, quite frankly, have really had a couple of rough quarters or even longer in some of these cases. And then last couple of days are stock prices seem to go to the moon. I’m curious if you can share with us what is actually going on with these stocks, like GameStop is probably the one that’s being the most talked about, but AMC and a few others. Yeah,

Jeff Powell
I mean, the names that pop up to me when you’re talking about Bed, Bath and Beyond. AMC GameStop. But yeah, GameStop seems to be the one that’s making the highlights, because I think it’s been having a little bit more price fluctuation. But what I think we really need to do in order to truly understand what’s going on in this particular circumstance is kind of take a few steps back to understand really what’s going on, I mean, very, very cursory level, what’s happening, and there’s buying pressure going on, on a stock by a group, you know, actually, there’s a couple of groups playing around with it right now, rather than is the first one that came out. And now we’ve got Robin Hood, that’s also kind of playing around with a little bit of price manipulation as well. But really, what they’re trying to do is force what is called a short squeeze on a stock. So we didn’t really hit on that in our previous two, podcast about financial terminology. So it’s definitely one that we probably need to take a couple steps back and set a baseline. So let’s start off by just first of all talking about what a hedge fund is. Because I don’t think that nearly everybody really fully understands what that terminology means. So if you think about a hedge fund hedge fund, that term is about as is specific, a single mutual funds. I mean, if you were going out to buy a mutual fund, you know, I said, Hey, Jeremy, here’s here’s a mutual fund to buy, you know, what is it investing on? You know, is it a large gap? Is it a small cap? Is it growth companies, dividend companies, is it an all market isn’t international as a bonds, I mean, there’s 100, different ways that you could be looking at it, you know, even sector specific or commodities. I mean, there’s a lot of things that that mutual funds can be investing on. And the same thing is true with hedge funds. I mean, there are funds that are long only, and they just use leverage, there’s traditional, there’s companies that are going out that are opportunity funds meeting like that they’re looking for specific turnaround situations. But your traditional hedge fund, now the whole concept of hedge funds actually goes and dates back to the 1940s. Gentlemen, over the last name of Jones was the one who came up with a whole ideology behind that, and the Jones theory of of investing long and short, you can imagine, I don’t know, let’s say you want 120% long, meaning that you’re using margin to go long in the markets. So you’re buying companies you like, and you’re buying more than what you actually have money for. And then let’s say that you were to short 80% of the market, you know, and again, we’ll get into what short means for just a moment. But basically, you got 80% short, which means that you’re betting on the stock going down. So you’re selling a stock that you don’t own, and you got 120% long, so you got 200% of your money working for you, but you only have 40% market exposure. So really, when you talk about like some of the risk in a portfolio, some of it is just simply market risk. So we have individual stock risk, but we also have just, you know, a rising tide lifting or dropping the level of the ships that are on the ocean. And so that’s one of the things that Jones was trying to remove, was that you know, so again, you can actually have a hedge fund that’s market neutral, or, you know, 100%, long 100% short to take. Now again, if as long as our Long’s are going up, and our shorts are going down, they’re gold. So, you know, from their lists, you know, let’s talk about short sells, maybe Jeremy rather than me just ranting and raving on maybe you it would be better for you to kind of tell our audience here. What exactly is a short sell?

Jeremy Witbeck
I’m guessing that most people are familiar with when your longest stock where you just buy something, hold it and if it goes up, then you make money. If it goes down, you lose money and theoretically the most you can lose when you buy a stock long is the stock going to zero? So there’s a cap as to how much you can lose. If you buy a stock for 100 and it goes to zero then you lose $100 can’t It was more than that the price can’t go below zero. When you’re short of stock, the opposite is true, where you are now borrowing the stock from someone going and selling it into the marketplace with the hope that you can go back, buy it on a lower price and return the stock back to the individual that you borrowed it from, which in this case is going to be a brokerage. And so with the shorting stock example, let’s say that you have that same stock, it goes, are you buying at 100, it goes down to zero. And so the max gain that you can make in that transaction is $100. Because the stock went down, zero. Now, what makes shorting so risky? And one of the things that people point out is that what if the stock doesn’t go down, but it goes up? What if it goes up from 100? To $200? Well, then you lost $100. What if he goes up to $500? What if it goes up to $1,000 $10,000 100,000. And the The point being is that the risk when you’re shorting is unlimited, and, or very, very significant. And that’s certainly played into what happened here. That’s what shorting the stock does, and, and why there’s oftentimes safety protocols around shorting a stock where you’ll set a limit order, because since that loss is unlimited, you’re going to draw a line in the sand saying, I will not lose more than this. And that line in the sand can sometimes be the Achilles heel on strategies like this.

Jeff Powell
Yeah, I think one of the other things to note out of short selling a stock also, you brought up the the statement that you’re borrowing. So again, when you’re short selling, and that is a form of margin, you are paying a margin rate in order to actually short sell a stock. On top of it, if you are short selling a company that pays a dividend, you are, you know, you have to pay the dividend to the person that you borrowed it from. So it’s not only that it’s an infinite risk. But you know, it’s also very hard to make money. I mean, if you think about like, the average person out there is trying to make 9% on the long side of the market. That’s what the historical numbers are for the s&p 500 as well as for the Dow Jones. If you’re looking at it from that context, you need if you got margin, he’s gonna cost you another three 4% there. That’s that’s a drag on performance. Plus, you’re absolutely right. And right at the right time.

Jeremy Witbeck
Yeah, absolutely. I don’t know that enough people realize or understand that, that the bar is really stacked against you, when you start adding in the dividend and the margin that you have to cover, where if the market, let’s say up or down average is 10% per year. That means on the short side, you’re looking at an expected return of, say, five or 6%. So it’s a much, much more difficult side to be on for sure.

Jeff Powell
Yeah. And so really, I mean, to take our conversation one step further here. I mean, what you’re looking at is, you had a group of people that said, here are these hedge funds, and, you know, hedge funds have been given a bad name, you know, this is predatory there are selling well, this is one way. So what they’re doing is they’re going out and saying, Okay, well, if we buy enough of the stock, we’re gonna sell, we’re gonna scare that person and a short selling that stock. And again, so they’re going to go out and buy, buy, buy, it forces the price up. So, you know, let’s, let’s use $100. And let’s remove names of companies out of the situation. So all of a sudden, you’ve got a bunch of people that are buying a smaller company, where the buying pressure would be influenced by a bunch of people coming in and buying, it starts to force the price of the stock up, the short seller starts to panic, the way that they close out their transaction, is by buying a back, which adds more buying pressure to the situation, which forces the price up even more. So if you remember, you know, again, Jeremy to your executive, you’re selling first. And you’re hoping that the stock drops in value, and you’re gonna buy it back in the future at a lower price. So if it’s working against you, you’ve sold that it’s going up in price and you’re buying it, you’re exacerbating the losses.

Jeremy Witbeck
Yeah, and that’s that Achilles heel that I was alluding to earlier, where because they call it a short squeeze, because you have those limit orders in place to limit the amount of the loss, they started triggering, which then forces the buyback of those short positions, which added additional buying pressure in cause stocks that you mentioned previously, just shoot up dramatically. Now, one thing that’s interesting, Jeff, is that the dust is settled, the stocks are coming back down to reality, and we’ll probably end off near the same place that they started. So the question is, well, who cares then it goes three four days volatility, what does it really matter? So, why do people care about this? Why is it such a big deal? Well,

Jeff Powell
it’s a few things. The first thing I said, if if you and I were manipulating the share price, it would be considered illegal. And so the fact that a bunch of people that were on a newsletter, were able to do that. It’s a big issue, it compromises the integrity of the broad based markets. And so when you’re looking at it from this kind of context, and you’re looking at it and saying, Okay, well, you know, is it okay for me to go out and buy something, you don’t want a group of people that are rogue in nature, being able to manipulate a stock or two stocks, or, you know, the most recent one was, the silver ETF was being manipulated by Robin Hood and a bunch of other investors. I mean, you lose the overall integrity of investing. And so that’s, I think, gonna be really one of the bigger takeaways from this. And where I do think everybody complains about regulation. Well, regulation, in some cases is good. In some cases, it’s it’s, you know, puts restrictions on companies in unnecessary ways. And the situation like this, there needs to be more out there to protect the average investor. I mean, everybody’s like, Oh, well, you know, it only hurt hedge funds Well, okay. But there are individuals that are investing in those hedge funds. And those individuals could have gotten hurt very badly by, but went on. And so we really do need something that’s not giving the edge forms a competitive advantage, or anything else along those lines. But really, I mean, it’s a third group, to make sense to them.

Jeremy Witbeck
Yeah. And I think what’s also interesting Jonathan Jones talking about is that the people that got into this trade early probably did quite well if they had the insight to sell out. But what about the people that got into the trade late and bought game stock at 303 50? I don’t think anyone’s talking about those because those could be the same individual ambassadors, but just didn’t know about this going on early on, had a little bit of greed second, and now are here with GameStop, I think it’s down back to the 80s or low 90s, where literally, the stock price dropped almost 250 points. And that’s the other side of to your point that I don’t know that people really think about is that there’s always going to be someone on the other side that just didn’t get in at the right time.

Jeff Powell
Well, the craziest thing to me, sure, man, and again, this is just something I read. So I really don’t count validate. But the thing that I heard was that the average person out there was holding their position for under a minute. I mean, that’s just crazy to me, when I think about it, in my context, that the average person was trading so quickly, they got to where they were day trading, and a level that it just really made no sense whatsoever. So I think that there’s definitely the average person out there that maybe was the last person and that person, certainly, I mean, again, when you’re talking about the stock price being at 350, at its high. And to your point, it’s sitting at 90, you know, somebody was holding the bag there, you know, and obviously, it dropped dramatically The next day, and I popped back up above 300. And, you know, again, somebody had to be buying those. So, you know, for every person that laughing, saying that they made a ton of money on it that was talking to 30s 40s, maybe 50s. And then now the price ran up, there’s got to be five times as many people that lost money or save money on.

Jeremy Witbeck
Yeah. And in to your point earlier, just the other thing that’s concerning is that now the spread to the silver ETF, right, and I don’t know if that actually influenced the price of the commodity itself, although that’s certainly a factor that can be used. And so now, we’re not just talking about a single stock or a handful of stocks. But now there’s manipulation on commodities. These are inputs that companies use to build different types of equipment, this now starts to impact other countries that use that commodity. And so it’s a very slippery slope that has started to be propped up on here where manipulation like this has far reaching impacts. And so even if people want to have that attitude was just taking from the rich and giving to the poor the and it’s ironic that Robin Hood was one of the upset did this because knowing the story about Robinhood that’s exactly what he did. He took from the rich to give to the poor, but the financial integrity of the markets and the fate that we have in the system is built on the premise that the participants are good players and that they don’t break certain codes of ethics. And it’ll be interesting to see how this ends up unfolding because that’s certainly been challenged with the behavior that’s

Jeff Powell
taking place. Well, as I said, Jeremy mimic, you know, I know I mean, for my serving on boards and a number of other things I know, hundreds of business owners in our world, imagine I sort of coin several of them up until then, okay, let’s, let’s have some fun. Let’s start messing around with the markets. And we’re gonna go ahead and buy collectively, you know, starting tomorrow morning, we’re going to just start buying XYZ stock, and we’re going to buy it, we’re going to push the price up, and we’re going to push it up, and we’re going to shorts, you know, we’re gonna force these short squeezes to go away. You know, we’ve concluded that’s illegal. And, and the fact that it’s just been made, you know, you know, was put out on a website, for people to kind of work together on how is that better? You know, so if it’s not okay for regulated firms like ours to do that, and why is it okay for a website to be collecting the people that are their investors to mess around like that, it just isn’t, there’s gonna be a she’s gonna fall here. And I don’t know that they will necessarily, you know, legally go after the investors that invested in GameStop, or AMC or, you know, playing around with the silver market or whatever. But I think they’re gonna put a stop to, to the actual websites themselves and say, You can’t mess around like this, you know, you can’t sit there. And you know, flop from one thinly traded high short sell stock to another because that’s basically what they were doing was going out and saying, Okay, well, here’s the top 10. Companies with short sell interest. And okay, these are the ones that are most thinly traded. So let’s go after these. And I mean, and they were publishing that stuff, just, again, it’s, it’s not me going, gosh, I’m jealous that we didn’t make, it’ll go from 3040 $50 to 350. Sold out, because, you know, we just don’t invest in that way. But I mean, it’s really the integrity of the overall markets and people’s confidence that their individual investments are not gonna mess with. Now, the one thing that I can also add to that, Jeremy is that the kind of investments that we make within our portfolios of Polaris, they’re just far too large to be being able to be manipulated in that way. It would require billions upon billions of dollars to be able to have somebody kind of mess with a price in either direction. So I’m not really concerned about our individual but more the overall arching, you know, issues with what’s going on with integrity with with markets.

Jeremy Witbeck
Yeah. And Jeff, that’s going to be my follow up question is, should we as investors be concerned about what’s going on here. And to your point, the types of securities that firms like us, and a lot of people are investing in are far too large party liquid to be manipulated in this manner. But to your point, the underlying, just threat on the integrity of the overall financial markets, I think, are something that we’re going to have to get cashed out, and we’re gonna have to, we’re gonna have to find ways to recognize the fact that social media gets forces and powers that just never existed before. And so we need to have rules and regulations that keep those powers in check, because unfortunately, there’s always going to be a few bad players out there that push the envelope and see how far they can go before they get their hand slapped. So any last, any last comments on this? Before we wrap up for today?

Jeff Powell
You know,

Jeff Powell
there’s really nothing that really comes to mind for me. I mean, obviously, you know, some of what we saw in the markets over the last week, people were kind of questioning if that was the tie into it, you know, I don’t think that three or four stocks being manipulated was enough to really make the markets drop. Really, what I was looking at is, you know, the thing to keep in mind with any market any movements, is that bull markets climbing Walker, right, we’ve written about that we’ve talked about it before, it’s kind of a fun phrase they’re talking about, but the markets don’t go straight up. And so what ended up happening over the last week, 10 days is that the markets have taken a breather, they’ve, they’ve sold off a little bit, they rotated a little bit more back into tech and kind of more that growth. And then the last couple days, we’ve seen things start to renormalize. And going back to dividend payers and the companies that are you know, showing him considerable value. And so we believe that that’s going to be on for 2021. Things got very hot in that area for a very short time period, we think that it will come back again, and we saw that over the last couple of days with seeing the markets pop back up, but there’s not going to be a huge push one direction or another. We just have to be patient understand that this is definitely gonna be a stock for stock pickers market, and that we feel like we’re well positioned to take advantage of these things.

Jeremy Witbeck
Well, and certainly something to be excited about with Like God’s word, this opens up a lot of opportunity for us to really do what I say that we do best, which is to understand whether there is a strength and to really embrace and capture those within the portfolio. Just like Yeah, I just like to throw out there for anyone that has questions or if there’s any follow, lingering concerns about what took place last few days. Please make sure to reach out to your wealth advisor, reach out to your sales director or reach out to Jeff and myself be more than happy to talk to you about some of the things that went on. But just one thing to note is that we’re always watching these things, and we purposefully take steps so that we’re not vulnerable to short term events like this when they occur. But as always, Jeff, thank you so much for your time and insights been a pleasure talking to you today.

Jeff Powell
Thank you.

Jeremy Witbeck
So until everyone out there, hope you’re being safe and as always be safe, be happy, be healthy and be happy.

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