Until a few days ago, I had no idea what YOLO trading meant, now I know that it means “You Only Live Once”, and this became the Reddit retail trading army’s cry of war.
YOLO is a risk management philosophy that caused on of the most interesting episodes in Wall Street in history, thanks to Reddit, Wall Street Bets and the GameStop saga.
The Game Stop Saga
This story has been massively covered by media and it’s the story of how independent retail traders (know as such, to differentiate from the institutional investors) generated a massive market movement through a Reddit sub-forum, massive use of financial derivatives (options) and low-cost trading platforms. Their goal was to inflict as much pain as possible to Hedge Funds who were shorting Gamestop. The created what is known as a short squeeze and their target was Mervin Capital and its huge ally, Citadel.
Behind these Reddit rebels, there were many whales as well, as they were accompanied by Elon Musk, who had a score to settle with Tesla shorter’s. In the following weeks many whales will turn up that also embarked on the short squeeze, time will tell.
This heterogenous group of speculators had the goal of pumping the Gamestop stock to inflict massive pain on the hedge funds while multiplying their profits due to the constant pump of buy orders.
So in the end, resented billionaires had fun, small investors who have been losing the trading war for ages won a battle against those they see as market manipulators. The book Flash Boys, explains very well who the retail crowd is facing. The most advanced algos in the fastest locations with predatory spoofing uses that regulators do not even understand.
The story has not finished, and it has brought together Ted Cruz and Alexandra Ocasio-Cortez only 10 days after the Biden inauguration.
This saga has various parts:
The casino scenario for mass retail traders
The brokerage industry has evolved in a way that has made low-cost investment possible for people with small accounts. These accounts offer buying power known as leverage, which basically puts a small account on steroids. The retail army has been buying massive amounts of options, what Warren Buffet called, weapons of mass destruction, the same that caused the 2008 financial crisis with banks and insurance companies begging for a lifeline from the FED. Thanks to Obama’s generosity and heavily influenced secretary of Treasury, these firms ended having a free pass thanks to the American public who assumed the bill in their national debt. Like the movie The Big Short tells us, no one paid a day of jail.
In the past I wrote some posts on these episodes:
The principal actor of this show is the online broker Robin Hood, who at 0% commission rate offered a trading for the people proposal who made all other brokers scramble and lower their rates as well.
And the hidden story is how Robbin Hood profited from selling its order-flow (its clients buy and sell orders) to Citadel, creating an obvious conflict of interest where the retails counterparty, or market maker, in this case Citadel who positioned their trading algos to beat the retail traders with their own game plan.
This perverse system where the broker sells its customers game plan or strategy to the market maker, is basically the story of having your own information used against you. A dirty industry secrets.
Trading apps for smartphones made trading as easy as playing Candy Crush, creating a generation of trading junkies addicted to speculation, with all the knowledge that the human brain is not the best at taking financial decisions as has been very well explained by Thaler, Kahneman and Ariely. All the artillery of behavioral economics was used to make trading a game where 95% of users lose to the house, but millennials and centennials feel like a videogame. Reading a 5 min chart with Japanese candles and two trend lines is all the learning required. There are more than 300 technical analysis tools you can add to your screen to give your decision more confidence.
Personally, I have found that accessing margin accounts to speculate in options and futures is way easier than getting a credit card for an established business. This says a lot about the gap between Wallstreet and Main street. There is liquidity for a certain kind of business but not for many others. This asymmetry encourages speculation.
I recommend for the best book on economics and finance of the year, the book by former WallSteetBets forum leader, Jaime Rgozinski, WallstreetBets: How Boomers Made the Worlds Biggest Casino for Millennials’. The book talks about the casino mentality that was developed in the Reddit forum.
Last Minute rule change
The second part of the story is the last-minute rule change that brokers started to establish when they started to limit the buying on certain stocks such as Game Stop. They say the order came from the White House through Wall Street friends who called the frenzy illegal.
At that moment, it became a political controversy where retail traders saw their conditions change just when they where winning. The answer did not take long, since their self-named leader, Dave Portnoy (stoolpresidente on twitter), did not save insults in qualifying the CEO’s of Robbin Hood and Citadel as thieves.
The anger comes from the game rule changes to benefit the Wall Street elites. The one battle they lost after always winning caused them to change their rules. The fight is moving to congress where both right- and left-wing populists have taken the banners of the retail traders, in a rare show of political unity.
Tomorrow will tell, but for the time being no revolution is going to happen nor will Wall Street suffer any systemic damage.
This is one of those wars in history that was lost, but in which an epic battle victory was celebrated.
Market psychology under QE: The end of price discovery
The third part is when you look at the episode from 10.000 feet. The market is irrational because there is no logical crossing of buyers and sellers. What is known as auction mechanism no longer functions, so the true price of the asset cannot be discovered.
This is happening due to an artificial condition, which is the fact that the FED has been printing massive amounts of dollars, which means that holding cash is a bad decision. Good assets have become very expensive and new asset classes such as Bitcoin and other crypto’s have surged in prices.
Economist Daniel Lacalle, calls this the monetary laughing gas effect. Everything inflates in an extraordinary way and prices distort. At first everyone is chilled out by the anesthetic effect, but then the hangover begins.
The following graph on monetary mass creation tells the story.
In layman’s terms: the more dollars are printed, the less they are worth, and since we all want to avoid losing the value of our assets, we buy things that may retain them better than cash, such as stocks, bonds, real estate, land, art, other currencies, precious metals, and cryptocurrencies.
Since we all want them at the same time, demand raises prices. We are trying to save the value of our estate, but dollar printing is making us poorer, unless we own good assets whose prices are refloating. Good assets are highly concentrated on a very rich majority.
The YOLO life: life under financial repression
Behind this panorama of massive monetary printing, ultra-liquid markets and record-breaking low interest rates, you can no longer see the financial markets as we once did, as there is no longer a safe product that yields something remotely similar to what we once knew.
Incomes are more limited with regards to raising living costs. What governments consider as inflation statistics do not concur with what families pay in rent, health and education.
For a young person, buying a house is nearly impossible in a good part of the world.
The YOLO trading lifestyle is the result of a world economy that has stopped creating benefits for many, has caused mega wealth concentration and markets where there is no space for a firm in second place, such as Big-Tech.
Manufacturing has disappeared from the west and will continue to do so thanks to the manufacturing concentration that occurred in Asia the last 20 years. These trends will not reverse, and as the pandemic showed, no country could produce medical supplies. The wests bet on being an only services economy is not turning out so great, and the onslaught of AI and robotics will hurt employment opportunities for the less educated or older generations whose skill base is obsolete. I beg to differ from optimists.
Not everything is negative, since excess liquidity is allowing Start Ups all around to innovate, but the message behind YOLO trading is the attitude that says that creating is no longer worth it, studying even less, and adapting to the system less still. There is a profound antisystem sentiment that is showing up not in occupy Wall Street tents, but in young people protesting in their places or parents’ places by playing with their savings in the markets as if it were a casino.
All the stories I read in Ragozinski’s book had a common theme: the speculator who feels he can risk it all. If he lost it he lost it all, if he won it was a home run. Nothing helped YOLO trading more than the 2,000-dollar check that the government sent its citizens due to the COVID pandemic. Instead of fueling real consumption, most where saved and a some were gambled.
The conclusion is that the world is not for prudent people anymore. Risk management is passe.
Banks did not have their risk management on in 2008, with Nobel prize theories such as Black-Scholes, VAR and modern portfolio theory, which have been failing spectacularly since LTCM in 1998 and disastrously with the Credit Default Swaps on mortgages in 2008.
Without the Yale/Harvard glamour and offices looking on the Hudson, the YOLO traders have copycatted Wall Streets risk management from their smartphones.
From their point of view, the world is stacked against them, so why follow the baby boomer establishment’s rules when they can’t buy a house, cover their student debt or save for a pension.
“Why the fuck should I care about the system?”
The best answer might be given by the artist 50 cent: «get rich or die tryin».
Where are we headed?
The systemic risk of these crowd trades multiplying is very probable, creating ripples in all sorts of markets. Last week it was silver, next week who knows.
The SEC won’t see this as anything other than a one-time event, while it may enforce tightening of guarantees for margin accounts and maybe even maybe, more vigilance over who is grated an account.
Trading is like boxing, and the key is to avoid getting hit, not so much as hitting the other one. Live to fight another day. YOLO is a full risk scheme of a generated and frustrated generation bored to death by quarantines that seem perpetual. There have been terrible stories of suicides and massive bankruptcies by novices who did not know their liability exposure due to derivatives.
In this story of billionaires, hedge funds, twitter, Reddit retail traders and the rest of us looking from the benches, there is a story about a monetary system that is not working, that is making richer people richer and generating a social malaise where many believe the future is no longer worth it.