The S&P 500 broke the 4000 points barrier for the first time on April 1st and hasn’t stopped rising since, trading around 4080 points at the market’s close today. While it looks like investors are ready to buy at every little sign of economic recovery, like recent announcements coming from the White House, reporting that 916.000 jobs have been added in March in the US, it looks like headlines are prevailing over the general picture, considering that the country is still 8.4 million jobs away from pre-pandemic levels. It can be very hard trying to make sense of what’s going on in the stock market these days, with the average P/E ratio of the S&P500 of over 40x and the Nasdaq100 doubling in value since the beginning of 2019. In fact, valuations in the stock market have been skyrocketing because of incredible amounts of liquidity and hysterically speculative behavior, especially on the so-called “meme stocks”: those that are the most popular on social media, especially among young traders. It has been reported that last month, during the “GameStop mania” events, Cindicator Capital has been trying to hire a WallstreetBets member with a “deep knowledge” of options for the job of “sentiment trader”, while VanEck created the VanEck Vectors Social Sentiment ETF: a “portfolio” of 75 stocks with the most positive sentiment and outlook among online/social media users. Viral images on social media have become a powerful weapon to artificially inflate asset prices and cryptocurrencies, as we have seen with GameStop and the birth of Dogecoin, a cryptocurrency currently worth over US$ 6 billion, that has literally been named after a meme. However, while all of this looks fun and games, it’s unquestionably a symptom of a sick stock market, where stocks are “just numbers” and valuations “can only go up”.
The official logo of the cryptocurrency "Dogecoin"
The causes
During the pandemic, more and more people have become interested in investing and the world of finance in general, especially millennials. Numbers show that both in Europe and the USA, the number of new signups for online brokers has grown exponentially, with Etoro reporting a 401% increase in its new users globally, between January and April 2020, compared to the previous year, while Robinhood has added another 3 million users in that same period (the average age of Robinhood users is 31 according to the New York Times). While this might seem good news as more market participants generally mean a higher efficiency of the financial system as a whole (at the expense of stability), this wasn’t the case because of many reasons, the most relevant one being the quality of information. In fact, millions of new young traders, eager to invest their money (or their fresh stimulus check) in a wild, highly volatile stock market, started looking for “information” on social media, where facts and fundamentals seem to have little or no importance at all. Instead, what happened with GameStop is the proof that emotions and greed have overcome common sense, when millions of users started buying the stock when trading at over 400 times its earnings, in an attempt to blow up short positions of hedge funds, without realizing the absurdity of their “investment”. High volatility on the stock shows that many traders suffered huge losses, but this didn’t stop the mass from buying more stocks of GameStop and other “hot” stocks, no matter the price. Another, less recent, sensational example of social media memes impacting the world of finance is the cryptocurrency Dogecoin, which was born in 2013 after a playful tweet of its founder, Jack Palmer, and is named after a Shiba Inu dog that went viral on the internet. The currency eventually boomed after another tweet of Elon Musk stating that “Dogecoin could become the official currency on Mars” and is currently worth US$ 6.3 billion. Bubbles are intrinsic to our economic system because they are a direct consequence of human behavior, and while certainly they always come with a combination of other factors including monetary policies, deregulation, and many others, there always seems to be a connection with the previous ones: greed, speculation and a lack of discipline. So, how can we control the quality of information and prevent opinions from replacing facts?
The importance of financial education
In an extremely dynamic world where every person, like it or not, has to inevitably deal with money and investing in order to live a better life, it has become more and more important to be financially educated. In fact, if we think at the case of GameStop, authorities halting trading is nothing but a short-term solution to a structural problem. The same is true for many other issues that have nothing to do with the stock market, like student loan debt in the US, which has hit a record high of US$ 1.56 trillion in 2020, according to Forbes. The point is that the world has changed much faster than education systems, which currently still do not include a quality program of financial education for high school or even college students. Meanwhile, online brokers have become the new normal, which is making markets more efficient but dangerously less stable. If governments around the world want to preserve the stability of financial systems and improve the well-being of their citizens, they must realize that education systems must be updated.
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