Bottoms in the investment world don't end with four-year lows; they end with 10- or 15-year lows. - Jim Rogers
In the last week, we've seen a lot of headlines on how Robinhood traders have outperformed traditional hedge fund and money managers in the coronavirus drawdown and subsequent rally. I’m sure the $1,000 they made was really impressive, but for me, this is a warning sign that reminds me of the Odd-Lot Indicator. The theory posits that the small individual investor usually is wrong, and individual investors are more likely to generate odd-lot sales than institutional investors. If odd-lot sales are increasing, buy, and vice versa. Pretty simple. However, I think this strategy needs to be updated in our ever-changing environment to say when Robinhood & similar cheap or free trading investors are doing well, sell. And that’s precisely what has been happening lately and could be a significant contrarian signal here.
I’m not saying that these traders do not know what they are doing. But when you profit off a bankruptcy (Hertz (HTZ)), an alleged fraudulent Chinese-based company (Luckin Coffee (LK)), and insolvent or stock promotes (American (AAL), Genius Brands (GNUS),XpresSpa (XSPA), Cinedigm (CIDM)) that are not of solid businesses, you are throwing a dart at a dartboard in the worst way. Look, when a bankrupt company sees their stock spike, and immediately looks to the bankruptcy judge to try and raise $1 billion, why on earth would you want to own that stock? Props to the guy who brought that financial engineering to the table at Hertz though, I’d like to buy him a beer. I’m not saying Hertz won’t find a way to take advantage of this, and I’m not saying that these small traders are doing the wrong thing – they have won in the short term. But they are going to be taken advantage of by big institutional traders at some point. Has everyone forgotten about the pool shark? Lose small, win big. If you do not think algorithms are being made and big hedge funds aren’t looking to take advantage of this situation, you are naïve. There are much smarter people out there with much more money that want all of yours in this game. For me, the fact that Robinhood traders are doing so well is a big red flag of overconfidence, and it could lead to more conditions for a pullback in the markets. The pullback on June 11 was only a blip on the radar and was not supported by other conditions to continue downward. Markets might not get so lucky on the next leg lower.
The Shiller PE ratio still looks extremely expensive for the market, especially compared to significant excesses in market multiples in the past. That has to be concerning for investors. Also, when we start to see weird things in the markets (think bitcoin’s rally late 2018, Tesla’s (NASDAQ:TSLA) meteoric stock price rise, or a massive jump in bankrupt stocks), that's another flag the markets are trying to warn you about. Not to mention, we are trying to recover from one of the worst economic events of our time, and the Nasdaq recently hit all-time highs, breaking through the 10,000 level before spiking lower. These. Are. Warning. Signs. It does not mean we are done in a bull market – I'm constructive on the markets until the conditions tell me not to be. That can change rapidly, as we’ve seen this year.
As for recommendations with what to do here, I would suggest taking some profits off the table and making your portfolio a bit more conservative for US investments. We’ve started to see some USD weakness, which could mean there's an opportunity for emerging markets to play catch-up in the next melt-up higher. If you are a fixed income investor, it would be a good time to lower your duration as the long end of the yield curve looks to shoot higher on increased economic expectations. Above all else, make sure you’re following a financial plan and keep your risk tolerance and objectives in mind when investing. And please, don’t be the bigger fool on Robinhood. It's not going to end well for the vast majority, and algorithms don’t care if you lose your life savings.