Hedge Funds

 30 Jan 2021

Dear Fellow Investor,

The January world market gains in stock markets have been erased by GameStop a small insignificant company selling computer games  . More than 80 billion US dollars were lost by hedge funds who had short sold the company. Short selling is a bet that a share will collapse. The short seller borrows a  share anticipating it will drop and can be bought back at a cheaper price at a later date. The ratio of GameStop shorts compared to outstanding shares was 88.5 % . In comparison the amount of short selling of Microsoft shares is less than 1% of outstanding shares.  Microsoft is obviously a quality blue chip company and not a target of shortsellers.

One of the hedge funds was Point 72 a 20 $ billion hedge fund who was wiped out. They initiated short sales at US 16 per share  based of negative research reports on the company. Other hedge funds joined in. On the other side of the trade were small traders who dealt with Robin Hood and other low or no cost  on line brokers. Because of the pandemic there are tens of thousands of traders staying at home who trade on line to earn extra income. Millions of these traders subscribe to Reddit, a social media platform where users can post stock market information.  A large syndicate of users conspired to post positive news on GameStop and the news spread like wild fire. Massive orders came in and drove the price  from USD 6 a  share to over USD 500 at the high.   Those who were quick to take their profits made instant fortunes. To initiate a short sale one must have a margin account and place a deposit. There is unlimited risk if the shares go up unlike a share purchase where the risk is limited to the price of the share. When the price goes up, the broker asks for more margin. If the short seller does not meet the margin call the broker will force sell the share which drives the share even higher.

Desperate to meet margin calls, the hedge funds last week were selling popular quality highly liquid  shares such as Pay Pal, Apple and Microsoft. This was happening in all markets

Luckily for us our shares were not much affected as they are not the popular crowd following shares.   They are also high quality companies  not as susceptible  to manipulation as GameStop. As there are  more Game Stock type shares shorted by hedge funds we might see more volatility going into February. Stubborn hedge funds who hold on and do not cover their losing shorts will need to sell more of their quality shares, gold and bitcoin  to meet margin calls.

I do not forecast a market collapse. The background is positive. Interest rates remain low. The USD 1.9 trillion stimulus is making its way through the US congress and there is progress on the vaccine front.  Millions of people are getting vaccinated. Once the dust settles, this is a buying opportunity of quality shares. It is very rare for hedge funds to lose especially against small retail traders. I do not think they anticipated the power, the network effect and scope of social media.  

Keep safe
Bill

Singapore year of the ox gold coins. With the pandemic recovery it could be a good year for Singapore.