“Reddit investors” influencing stock market
[NOTE: this was written a week before the current stock market crash and scheduled to publish on 3/13/2020. I am running the article as is since it’s already written but“reddit investors” are the least of our worries at the moment :) ]
Bloomberg Business published an interesting read this past week: Reddit’s Profane, Greedy Traders Are Shaking Up the Stock Market. It’s clearly written to attract a casual reader’s interest with phrasing such as “a dingy corner of the internet … making bets with pennies for large gain”. But the content of the article resonated with the experience I’ve been seeing in the stock market.
True numbers and influence of crowds is hidden from an investor like myself. I am sure someone inside has a much better idea of whose influence is real and not real but here is how I can tell that part-time investors with a streak of gambling are onto the stock: huge option volume numbers.
If you are not familiar with options, they can be a bit hard to explain but at the core of it, for amateurs, they are a way to bet and profit (and of course lose) on the stock price movement without having to own the actual stock.
It attracts a reddit crowd because you can realize a profit in days if not hours while if you own stock you often have to wait years for it to give you even as much as 50% return, and that’s if you got the pick right. Low cost to enter, possibility of 1x, 5x, 10x+ returns in a short time and you have a very attractive breeding ground for a small fish to throw money into a pool.
I suspect majority of such bettors are on the losing side due to the nature of options and get wiped out eventually. Options expire, so if you don’t guess the price direction right or the price does not move and you don’t get out on time, you lose all the money you put in. But in a short term, it’s a ton of fun and generates myriad of posts that are described in the article where someone makes 400% return in a day. Crowd gets excited and jumps in.
Just to give you a sense of the influence of the casual gambler, let’s take a look at the option volume numbers. If you spend enough time on the reddit forums, several stocks start to stand out where the reddit crowd has selected and the numbers on them look ridiculous. My favorite example is AMD.
I remember learning about options and asking a question on the forums about them and almost all the examples I received back mentioned AMD or SPY (another crowd favorite). Right away I got pinged with private messages offering tips and strategies, and again AMD was a stock used in examples. So let’s take a look at the number of option contracts that are held for let’s say INTEL (INTC) and AMD. I pulled the numbers for the next 9 option expiration dates to cover several months out in the future. Here is INTEL, to ease you into it:
There are 23,000 PUT contracts and 19,000 CALL open contracts. Ignore the other numbers in there, basically we have a roughly 41,000 open contracts— it’s actually quite a lot and not normal but will give you a baseline. Now here comes AMD:
69,000 PUTs vs 92,000 CALLs(!!!) for a total of 161,000 open contracts!!! That’s 4x the INTEL volume and again, that INTEL volume is not typical. Notice also how the call/put strike price spread is tighter with Intel and closer to the actual stock price. AMD has bettors pouring money in lower end and some on the top betting on its drop. This is why that article resonated with me. The impact of forums like WSB is real. Once a stock there gets frequent exposure, option numbers shoot through the roof.
Oh, and just for fun, do you want to see what the option market looks like if it does not have the attention of quick profit seekers? At random, let’s take iRobot (IRBT):
For the same period of time, next 9 option dates going up to July, and you are looking at around 4,500 contracts that are open. That’s what a normal world looks like. 4,500 vs 161,000 of AMD. That’s a huge difference.
It’s a fascinating world out there and I am having a ton of fun following it along. I am hoping to share more of such numbers in the near future and also share my experiences playing the other side: selling the options to the bettors.
