November 11, 2020

On the Skids

If electoral processes lack the drama to satisfy you, check the stock market.

Intraday volatility has been averaging 4%. The pandemic has so desensitized us to gyrations that what once was appalling (volatility over 2%) is now a Sunday T-shirt.

Who cares?

Public companies, your market-cap can change 4% any given day. And a lot more, as we saw this week.  And traders, how or when you buy or sell can be the difference between gains and losses.

So why are prices unstable?

For one, trade-size is tiny.  In 1995, data show orders averaged 1,600 shares. Today it’s 130 shares, a 92% drop.

The exchanges shout, “There’s more to market quality!”

Shoulder past that obfuscating rhetoric. Tiny trades foster volatility because the price changes more often.

You follow?  If the price was $50 per share for 1,600 shares 25 years ago, and today it’s $50 for 130 shares, then $50.02 for 130 shares, then $49.98 for 130 shares, then $50.10 for 130 shares – and so on – the point isn’t whether the prices are pennies apart.

The point is those chasing pennies love this market and so become vast in it. But they’re not investors.  About 54% of current volume comes from that group (really, they want hundredths of pennies now).

Anything wrong with that?

Public companies, it demolishes the link between your story and your stock. You look to the market for what investors think. Instead it’s an arbitrage gauge. I cannot imagine a more impactful fact.

Traders, you can’t trust prices – the very thing you trade. (You should trade Sentiment.)

But wait, there’s more.

How often do you use a credit or debit card?  Parts of the world are going cashless, economies shifting to invisible reliance on a “middle man,” somebody always between the buying or selling.

I’m not knocking the merits of digital exchange. I’m reading Modern Monetary Theory economist Stephanie Kelton’s book, The Deficit Myth.  We can talk about credit and currency-creation another time when we have less stuff stewing our collective insides.

We’re talking about volatility. Why stocks like ETSY and BYND were halted on wild swings this week despite trading hundreds of millions of dollars of stock daily.

Sure, there were headlines. But why massive moves instead of, say, 2%?

The stock market shares characteristics with the global payments system.  Remember the 2008 financial crisis? What worried Ben Bernanke, Tim Geithner and Hank Paulson to grayness was a possibility the plumbing behind electronic transactions might run dry.

Well, about 45% of US stock volume is borrowed. It’s a payments system. A cashless society. Parties chasing pennies don’t want to own things, and avoid that by borrowing. Covering borrowing by day’s end makes you Flat, it’s called.

And there are derivatives. Think of these as shares on a layaway plan.  Stuff people plan to buy on time but might not.

Step forward to Monday, Nov 9. Dow up 1700 points to start. It’s a massive “rotation trade,” we’re told, from stay-at-home stocks to the open-up trade.

No, it was a temporary failure of the market’s payments system. Shorting plunged, dropping about 4% in a day, a staggering move across more than $30 trillion of market-cap. Derivatives trades declined 5% as “layaways” vanished.  That’s implied money.

Bernanke, Geithner and Paulson would have quailed.

Think of it this way. Traders after pennies want prices to change rapidly, but they don’t want to own anything. They borrow stock and buy and sell on layaway.  They’re more than 50% of volume, and borrowing is 45%, derivatives about 13%.

There’s crossover – but suppose that’s 108% of volume – everything, plus more.

That’s the grease under the skids of the world’s greatest equity market.

Lower it by 10% – the drop in short volume and derivatives trades. The market can’t function properly. Metal meets metal, screeching. Tumult ensues.

These payment seizures are routine, and behind the caroming behavior of markets. It’s not rational – but it’s measurable.  And what IS rational can be sorted out, your success measures amid the screaming skids of a tenuous market structure.

Your board and exec team need to know the success measures and the facts of market function, both. They count on you, investor-relations professionals. You can’t just talk story and ESG. It’s utterly inaccurate. We can help.

Traders, without market structure analytics, you’re trading like cavemen. Let us help.

By the way, the data do NOT show a repudiation of Tech. It’s not possible. Tech sprinkled through three sectors is 50% of market-cap. Passive money must have it.

No need for all of us to be on the skids.  Use data.  We have it.

-Tim Quast

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