The Missing Wall

If your house was missing a wall, would you worry whether the front door was locked?

Well, the stock market is missing a wall. 

And yes, the image here is not a missing wall but the walls you can ski at Steamboat.

To our story, investors and public companies need to understand what it means to have a market with a gaping maw in its structure.  Imagine if you went around the house before bedtime shutting off lights, closing windows, locking the front door.

And a wall was missing.

That’s funny like The Truman Show.  Yet glaring structural flaws are no laughing matter.  For investor relations, the profession linking Wall Street to public companies, the job is keeping the house in order.

The lights and windows represent things long done to promote differentiators.  Earnings calls.  Non-deal roadshows (that means visiting holders without pitching a stock or debt offering). Analyst days.  Investor-targeting. Perception studies. On it goes.

You’d be surprised at the work and effort directed at these missions, you who are not in the profession.  We have an entire body of knowledge around the discipline of investor-communication, internally and externally.  Sums spent on tools and services and regulatory compliance and listing fees and so on total billions of dollars annually.

Keeping the house up is a full-time job. But the house is missing a wall. And too often the profession acts like everything is fine.

Evidence of it splashed again through the stock market yesterday. Rocket Companies (NYSE:RKT) slammed into at least three trading-volatility halts en route to a 71% gain.

It’s a great company.  CEO Jay Farner – I heard him on Squawk Box via Sirius Radio last Friday after results as I was descending from the Eisenhower Tunnel to Silverthorne off the Continental Divide – is so impressive. The cynosure of a prepared spokesperson.

And they’re a rocket, no doubt. RKT had $17 billion of revenue and $9 billion of net income, a 53% margin. Who knew selling loans was a more profitable business than selling data?

But.

That’s not what juiced RKT.  Sure, it was up Feb 26, up again Mar 1. But Active investment – the money focused on fundamentals – was 6.8% of RKT volume Mar 1.  So 93.2% of it was something else.

What’s more, Short Volume exploded at the very time rumors surged across the media that we had another Gamestop (GME) here, another “short squeeze,” now in RKT.

I’ll explain everything, so stay with me.

On Feb 19, Short Volume, the percentage of daily trading representing borrowed stock, was 29% of RKT volume.  By Feb 26 as the stock began to jump, it was 55%.

This is the draft you feel, public companies. This is the missing wall leaving you utterly exposed to what’s outside your control, no matter how much you spend, no matter the windows and doors you lock.

Investors, we’ll get to the meaning for you too.

There is only one way for a stock to rise.  Somebody sells stock at a higher price.  Not what you expected?  You thought I’d say, “Somebody must be willing to pay more.”

Yes. That’s true.  But suppose no owners want to sell, because they believe a mortgage company growing more than 100% year over year with 53% margins is a stock to hold.  And suppose the shorts don’t react.

Where does stock come from then?

Answer: That explosion in Short Volume we saw before the stock skyrocketed.

Somebody SHORTED the stock to make it available for sale at a higher price.  Sound cognitively dissonant?  It’s not. It’s called a “market-making exemption.”

We’ve written about it often before.  Read what we wrote on GME.

Truth is, most of the time when investors buy stock, somebody shorts it first and buys it back for the buyer.  At any moment, this can happen to any of you, public companies. And it doesn’t require high short interest – that 1975 measure still in use like a Soviet relic.

No, it can happen on belief. It can happen on nothing more than a machine-driven updraft.  And it could as easily be a downdraft.  What’s to stop market-makers from creating stock to SELL instead of buy? Correct. Nothing.

No matter what your story, your fundamentals, Fast Traders sitting in the middle can create shares out of whole cloth, because regulators have given them leeway to do so, and your stock can behave in unimaginable ways.

Public companies, if you directed 10% of what you spend on story and compliance to targeting Congress for a solution, we might shore up structure.

A solution starts with understanding the problem. And we do.  We can help you (and your board and c-suite).

Investors, your turn.  Market structure is to me the most important trading factor because it trumps everything else.  If you were modeling RKT market structure, you’d have seen the entry point Feb 22.

How many more situations like these will it take before we start looking at the missing wall?