Tuesday, 2 February 2021

 

Reddit Isn't the Real Financial Danger

The power of the social-media crowd to really take on the system is wildly overstated. Limitless QE is the bigger problem.

Fizzling out?
Fizzling out? Photographer: SOPA Images/LightRocket

It's been an exciting distraction while everyone is working from home but the actual ability of the Reddit mob to move markets, become a systemic risk or justify the absurd amount of column inches wasted on them (to which I am about to add) is about to fizzle out.

The power of the social-media crowd to really take on the system is wildly overstated, a point emphasized by JPMorgan Chase & Co. analysts. It’s a blip compared to what the world went through in March last year, as market volatility indicates.

A Storm in a Teacup

The Vix fear index has not even reached October's levels let alone March

Source: Bloomberg

The real issue here is the extraordinary amount of stimulus pumped in by central banks and governments to counteract the economic effects of the pandemic: It has to go somewhere, no matter how undeserving. Small wonder that it feeds through into asset prices in sometimes barely controllable ways. While the regulatory authorities play Whac-A-Mole on the GameStop phenomenon, it’s notable that the U.S. Federal Reserve has barely lifted an eyebrow. Their focus is on the bigger economic picture, not a localized dumpster fire.

Nonetheless, any investor short any stocks has had all the warnings they need and the Securities and Exchange Commission has moved swiftly. With Robinhood Markets Inc. — a leading platform for retail stock traders — able to raise $3.4 billion swiftly to sort out its collateral issues, the system is working.

Some hedge funds have lost money but none has gone out of business (yet). More important, we haven’t seen any clearing-house distress. Yes it’s been a bumpy ride, but with valuations overstretched anyway it’s no bad thing that “value at risk” — the assessment of how much risk is in a portfolio when all positions are netted out — has been dialed down as a result of the last few days’ gyrations. Hedge funds haven’t only been cutting their short exposure, they’ve been curbing their long risk as well, so leverage as a whole has been reduced.

Not even 2% of the $43 trillion U.S. equity market is accounted for by short sales, and I’d wager it has reduced substantially after a healthy shakeout of squeezable shorts from hedge funds caught napping. Volatility rose in U.S. stock markets but that hasn’t been mirrored elsewhere. Currencies, bonds and European equities are all relatively becalmed. Jim Reid, Deutsche Bank AG’s macro strategist, says just three of the 43 asset classes he monitors moved more than 5% last month, the least since November 2019.

All Else Is Calm

Neither currency, bond or European stock vol has been perturbed

Source: Bloomberg, ICE BoA, Deutsche Bank

U.S. small-cap stocks are much easier to access and are more retail-driven than most other international equity markets but so far the Reddit phenomenon hasn't travelled well. Despite some fears about a squeeze on silver, this doesn't really bear much scrutiny. Sustaining gains over $30 a troy ounce seems to be a struggle, as my Bloomberg colleagues David Fickling and Eddie van der Walt have written. A margin raise by the CME, the world’s largest exchange, seems to have ended the party. 

Several investment banks and hedge funds were already bullish on silver, with analysts from Goldman Sachs Group Inc. calling it their “preferred precious metal.” But that favorable outlook is due largely to an earlier expected end to the pandemic and massive stimulus contributing to a weaker dollar (which tends to benefit commodities), rather than any discernable short base that can be squeezed. The Reddit crowd shouldn’t be in the frame for this and it seems other hedge funds may be riding on retail coattails. The excitement appears to be fading as the biggest hullabaloo this week is some favored crypto plays unwinding, including Dogecoin.

The financial system is far from perfect, which is why short-selling hedge funds have proliferated as a necessary disinfectant. But stability isn’t in danger — unless you think, like me, that trillions of dollars of quantitative easing are the real risk out there.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

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