Malt Liquidity 14
Operation Menu, but it's just /OJ with ICE
Perhaps stick to LARPing as a hobby
Just yesterday I wrote about markets mispricing compliance risk in Chinese stocks traded by American Depositary Receipts. Well…
The New York Stock Exchange reversed its decision to delist China’s three largest telecommunications companies, after consulting with regulatory authorities about a recent U.S. investment ban.
While NASDAQ encroaches on the SEC, the NYSE realized that perhaps there’s a better competitive strategy than encroaching on the Treasury Department. While I will never feel bad for the essential monopoly that is being an exchange, I do find the task of selling future growth projections pretty daunting. After all, retail trading isn’t that beneficial to the exchanges’ bottom line - $ICE (yes, it’s publicly traded) makes money primarily through very expensive data agreements on their listed products. While increased demand for liquidity in their products obviously helps their negotiation leverage, it isn’t exactly befitting of a richly compensated CEO to just say “Going forward, we’re going to charge more for the same products that we have a theoretical monopoly on.” If the modern iteration of the venture-backed CEO is any indication, the job demands behaving as a visionary and selling a pie-in-the-sky vision even if your business model really is just providing data at ever-increasing prices. If Adam Neumann can raise so much capital playing a vaporware Elon Musk, who can blame the NYSE CEO justifying their job by playing a combination character of Henry Kissinger and Hank Paulson that has no actual enforcement power?
A Little 20/20 Perspective
When I have talked about the retail trading boom of 2020, I have focused pretty broadly on how retail is ‘pumping’ (read: paying premiums which wouldn’t otherwise exist to get into positions just because a ticker is popular), but I never explicitly stated the scale of how much money has flowed in apart from a few passing comments on how Tesla’s OI has exploded. However, we can do a little bit of back-of-the-envelope math with this data:
Individual investors opened more than 10 million new brokerage accounts in 2020, JMP Securities estimates, a record…
On peak trading days in 2020, individual traders are estimated to have accounted for nearly 25% of U.S. trading activity, Citadel Securities estimates. Overall, their share of total trading volume doubled to an average of 20% from 10% in 2019, Citadel said.
Traditional brokers like Schwab and Fidelity tend to have higher account balances than Robinhood accounts. If we assume all new Robinhood downloads in 2020 (about 500k) hold around $2000 and the rest average a modest $40-50k (for context: the average Schwab account is around $200-300k, although legacy clientele generally has been nearing retirement age), we get roughly $350-400 billion in net inflow. Perhaps that contributes to this?
Yesterday I touched on the untethering of asset prices to reality in part due to government manipulation of the very definition of currency, but this phenomenon is also due to a higher rate of realization of the principle that something is worth solely what someone will pay for it. This is as true for bitcoin as it is Hertz shares and any other ‘inflated valuation’ equity - the rationale behind buying any of these has little to do with the fact that the entire world’s financial system is based off of government backing of money, the fact that Hertz declared bankruptcy and explicitly stated that its shareholders would be wiped out, or any fundamental reason at all, but rather the pure market assumption that someone will be willing to pay more for the same asset, reasoning be damned. However, this kind of speculation is always predicated on new money flowing in, and as prices rocket up, more and more inflow is required. It is part of why I think stimulus checks will act as an indirect pump to the aforementioned ‘hot’ markets:
As these assets become more and more ‘expensive’ (Bitcoin having crossed 30K, for example), the bids become less stable. The people trying to get in on the action are able to purchase smaller and smaller fractions of a whole coin or lots (read: 100 shares = 1 lot) of TSLA shares while legacy positions from longer term holders will have swelled far beyond what this small bid can support with minimal slippage. Thus a single large sell - say, 40 BTC (in fact, I think this would knock the price down about 20-30%), or a large block (maybe around 40k?) of TSLA shares - could have a much larger price impact than one would expect in a currency with a 350 billion market cap or a stock with 700 billion market cap. Just because something has a high volume or is a popular name doesn’t mean that it’s particularly liquid - a good indication of the liquidity of a stock is its option chains. Keep in mind that for each option sold, the market maker that fills your order will hedge with stock. Thus, the option spread will reflect how much slippage the market maker expects to incur when hedging off the price movement of the option they’ve filled you on. While this isn’t a big deal for the 1 or 2 contracts that retail speculators are buying, a single large trade could eat through a lot more liquidity than those few retail speculators are offering with limit orders, creating outsized price movement.
The overall concept is highlighted in a paper I was reading about stock market inelasticity, which is worth a read, but essentially revolves around exploring the impact that net flow alone has on price, and finds that just the inflow and outflow of money into markets - not including any other fundamental or speculative reason for aforementioned flow - has a noticeable effect on prices, an effect which goes unnoticed by a vast majority of retail market participants.
What does this all mean? Well, a common metaphor I use for trading is roulette, but a more apt one in this case is “musical chairs” - priming yourself for the music stopping would be apt right about now.
On that note…