The stock market's rally could be partly driven by first time traders with very little commitment or understanding of investments.
As the U.S. economy plunges into recession, the big question on Wall Street is how the stock market can be pulling off such an impressive rally.
Maybe investors are betting on a V-shaped recovery; perhaps it’s because the Federal reserve has backstopped financial markets. But some analysts believe the S&P 500 is starting to resemble a casino, as small-time investors with too much time on their hands rush markets.
In April, the U.S. government sent stimulus checks to millions of American households. Some of those checks were a lifeline that went toward food and bills, but many also went directly into the stock market. Research by Envestnet Yodlee shows that people making $35,000 per year and above tended to use a large chunk of their stimulus checks to buy stocks.
Those earning between $35,000 and $75,000 had the biggest bump in trading activity. In that group, trading activity surged 90%. Those who make between $100,000 and $150,000 traded stocks 82% more often.
The influx of cash came at a time when people are stuck inside, with nothing to do and no sports to bet on. A lot of people, likely with minimal investment experience, flooded the market.
And it was easy to do—several investment platforms have made it easier for the next generation of investors to start buying shares. Robinhood kicked off a battle among brokerages that ended with most eliminating trading fees altogether. There are several platforms available in which small-time investors can buy “slices” of expensive shares.
Companies like Amazon (NASDAQ:AMZN), whose share price is well above $2,000, would be too expensive for someone using stimulus money to trade. But many platforms let investors buy increments of Amazon shares for as little as $5.
This phenomenon could explain some of the irrational trading taking place in today’s market. When big news regarding a vaccine or potential economic recovery hits the airwaves, the stocks seeing the biggest benefit weren’t airlines or hotels as you’d expect. Instead, companies like Netflix (NASDAQ: NFLX) and Amazon, which benefit from prolonged lockdowns, continued to outperform.
A lot of these people have never traded before. Robinhood said its daily trades rose 300% in March. The trading app also confirmed that more than half of its clients are investing for the first time.
Schwab (NYSE:SCHW), which recently introduced no-fee trading and low-cost investment options, said it opened 609,000 new accounts during the first quarter—a record for the firm.
While it’s good news that people are becoming more engaged with their money and that stocks have become available to more people, it does create a lot of uncertainty about where the market is heading.
What level of commitment do these supposed “FOMO” investors have to their investments? Are we going to see an avalanche of selling at the first sign of bad news?
Some proportion of these new investors could be Trump supporters, who’ve watched the president tout the rising stock market on Twitter for weeks.
Data from the 2016 election show that Trump supporters mostly fell within the income brackets that have seen the largest bump in trading activity.
For many, the performance of the U.S. stock market has become a political debate rather than a technical one. That’s a dangerous way to trade.
The quality of investors is an essential factor when it comes to sustaining a rally.
Jim Bianco of Bianco Research says many of these new traders could be sports betters, hungry for some action at a time when professional sports have been pulled from the airwaves. This type of trader, he noted, doesn’t just buy stocks, but has been buying options as well. Bianco believes that’s part of the reason that small-time options traders have taken a record number of bullish positions in recent days.
Now that sports are coming back, will the stock market continue to hold their interest?
Disclaimer: This article reflects the author’s opinion and should not be considered investment advice from CCN.com. The author holds no investment position in the securities mentioned above.
Last modified: September 23, 2020 1:58 PM