Today’s “Dash For Trash” Has Historical Precedent (And A “Sub-Optimal” Outcome)

Authored by Doug Kass via Seabreeze Partners,

• In nearly every market cycle, speculation in low-quality, virtually valueless and literally bankrupt stocks, marks a market top

• Statewide “shelter at home” orders coupled with the Fed’s liquidity injections and commission-free trading (on most platforms) have contributed to the boon in speculation this year

• Robinhood traders (and their ‘shiny object’ stock targets like Hertz) are symptomatic of this silly trading backdrop – its worrisome and could be symptomatic that painful market potholes lie ahead

“We don’t steal from the rich and give to the poor. We steal from the poor because they can’t fight back — most of them — and the rich take from us because they could wipe us out in a day.”

– Robinhood

Socially we may be in 1968 (“2020 Is Looking a Lot Like 1968, Without the Good Music“) but from a stock market standpoint things are looking a lot like the weird top in the first quarter of 2000 and/or like the top in the end of the third quarter/beginning of fourth quarter of 2007:

• The Early 2000 Top – In early 2000, the Dow Jones Industrial Average was the first major average to top out in January. Two months later the Nasdaq had its final move to the upside and while it took the S&P Index to a new high, the DJIA failed to make a higher high. The narrowness of the early 2000 move in the Dow Jones was so pronounced that the NYSE cumulative advance/decline line topped out in early 4Q1999, months before the DJIA recorded its top. Another feature of 2000 was the relatively few stocks guiding the Nasdaq higher.

• The Late 2007 Top – The weird part of 2007 was the absence of extreme bullishness. In that year, a sharp correction in July-August was followed by an abrupt rally to new highs by October. From there the S&P and DJIA dropped by about -55% each — it took about 1 1/2 years.

• The Early 2020 Top – Bewildering was the speed of the February-March drop and the rapidity of the recovery in April-June. This contrasts to normal bear markets that are between six months to two years. The -34% February-March decline and the 40%+ rally in April-June — neither was a bear market and the following rally was likely not a sustainable bull market. In terms of the historical precedent, today there is some similarity to both the speculative activity of 2000 and the lack of bullish investor sentiment in 2007.

If correct, we still have not had a primary bear market since The Generational Low in March, 2009. That’s a long time and the clock may be ticking.

As Stan Druckenmiller commented yesterday on CNBC, the breadth thrust of last week was impressive but if you look carefully at the Nasdaq, for example, you would be surprised to see how many stocks have underperformed – as a handful of large stocks coupled with a group of speculative (but valueless) equities have been carrying the weight of the Average.

I expect the market to now experience some wild volatility swings. I am even considering going long VIX, something I have avoided over the years.

Speculation

The is a place for speculative stocks in every portfolio.

But trading stocks that one knows is worthless (and that even has declared bankruptcy) because they are rising is a “fool’s errand” to me. Implicitly, the trader who buys something that has no value for $4, $5 or even $8 is basing his trading decision that another fool will pay higher for something that is worth nothing.

It proved sub optimal in 2000 – for those that “hung on” – and it will likely again in the time ahead.

But time after time, many will declare the efficacy of the approach.

Aided by the proliferation of free trading on most of the larger platforms, the new dominant day trader, Robinhood, has recently brought on a degree of speculation last seen 20 years ago – at the end of the dot.com bubble.

The setup for speculation in 2020 was unique: statewide “shelter at home” orders coupled with the Fed’s liquidity injections and commission-free trading (on most platforms) have contributed to the boon in speculation this year.

There are many glaring examples of chasing value less stocks these days – already bankrupt J.C. Penney (CPNQ), Chesapeake (CHK) (which closed at $69.92 last night and is now trading at $30/share – equities are the bottom of the capital structure) – its bonds (maturing in 2021) are at $0.04 on the dollar) , (WLL) , (NKLA) , and leveraged energy small caps – (XTEG) , Noble (NBL) , and so many others.

Perhaps the most conspicuous silly stage trading sardine is Hertz (HTZ) , which traded at $0.80 six days ago, opened higher at $3.37/share on Monday and closed +115% to $5.53 (+582% from last Wednesday), and traded close to $7 in after hours trading yesterday. The shares were back to under $5 this morning in the pre-market.

Finally, during periods of euphoria and speculation really stupid comments are made about how easy it is to make money trading bankrupt companies and declare how stupid the greatest investors of all time are.

Hubris, a late market cycle condition, has become contagious.

We did it. pic.twitter.com/HGTFj8g2MF

— Keubiko (@Keubiko) June 9, 2020

Bottom Line

The market is plain “goofy” and the recent advance has been accompanied by the worrisome amount of speculation in valueless securities.

Robinhood’s motto is “Investing for Everyone.”

Maybe not so much.

Today’s dash for trash has an historical precedent in participation and outcome.

History rhymes.

Caveat emptor.