Beginners Education: The two sides of a share price

A week after a dismal IPO in the US, the online trading platform called Robinhood (HOOD.O listed on the NASDAQ) was deluged by retail investors on 10x the usual volume with the share price doubling. From discarded lemon one day, to Superhero stock the next.

The week before it doubled HOOD.O had an underwhelming IPO debut at $38 - on the day of the IPO they closed the first day at $34.82. Why then should it double a week later? What changed?

It is a good lesson that highlights the two sides of a share price - FUNDAMENTALS and SENTIMENT. They are two very different sides of the share price equation but are both equally important - SENTIMENT dominates in the short term. FUNDAMENTALS dominate in the long term.

Back to Robinhood. Why did it suddenly take off? Couple of reasons, none of them fundamental. (1) Cathie Wood, the very capable and now high profile CEO of fund manager ARK Investments, added it to their Innovation ETF. No suggestion ARK are doing this but it's standard fund manager practice to buy a stock then tell everybody about it. Nothing wrong with that. Standard industry practice going on in every conference, webinar and website frequented by fund managers.

...and (2) because yesterday HOOD options started trading allowing retail investors (the Merry Men) to make geared bets on the share price. Punters love gearing.

The observation here is that nothing fundamentally changed for the company in the last week but the share price more than doubled. This is a great example of something I know you all know, but let’s make it clear, that there are two parts of a share price. Fundamental and Sentimental.

The fundamental assessment last week was that Robinhood, as a company, had listed at its peak, in the middle of a pandemic led boom in small-time trading.

But the volatility in the HOOD share price overnight is a clear example that investment in shares is not all about fundamentals, it is about supply and demand, sentiment, ‘advertising’, delusion, marketing, fantasy, emotion, greed and fear, and these days, a new one, social-media manipulation.

Of course, there is a core of fundamentals to the HOOD.O share price that will no doubt assert themselves eventually and will no doubt dictate the long-term trend. But in the short term, it is not about fundamentals, it is about the herd passing around a hot potato hoping they can pass it on again before it goes cold. It is not “investment” in the Warren Buffett sense, it is something else.

This Robinhood volatility and volte-face, from Dud IPO one week to doubling the next, teaches you that all sorts of changes in the share price will ‘happen to you’ without fundamental, scientific or analytical justification. Spock would be at a loss trying to make money out of these share price moves. Unless you are the King of the Castle controlling the illusion/delusion (Ark Investments, or someone influential on social media in this case) these flips and flops will defeat/confuse any traditional investor.

To consistently/successfully exploit this short term volatility you would have to know/learn how to read these ‘ethereal’ short term drivers. Almost none of us can. Hopefully, that makes you feel better, knowing that you are not alone in feeling stupid for not knowing in advance that a stock would double in a week. You couldn’t know, there is no ’Smart Money’ here, just a lot of short term “Dumb Money” that will leave as many losers and winners as they ‘gamble’ on the next short term move. Without being the King of the Castle, without manipulating the short term sentiment, you had no edge, no logic, no control and no ability to exploit this short term opportunity.

Luckily sentiment is almost always shorter term than the long term. Logic will assert itself in the long term. But in the short term, as a normal, long term, risk-averse, total return ‘investor’, have simply to accept the sentiment changes, logical or not. You can even learn to expect them. If happiness is expectations met then learn to accept the unexpected/unexplainable.   

To do otherwise, to get in touch with the short term, to expect to exploit these short term non-fundamental price movements, would require a very time consuming intense analysis of sentiment, of supply and demand, of the collective illusion/delusion, of crowd behaviour. Either that or, as most people do, a reliance on a lot of luck.

If you can’t read sentiment in the short term then you only have one option. Do what all the institutional fund managers do, analyse and invest for the long term only and ignore (or exploit) the highs and lows in the short term. After a while, that’s what we all end up doing. It's too exhausting to do otherwise, too time-consuming. Which is probably why most of the people trading on Robinhood and playing these social media manipulation games are younger than you or I. Because they are the only ones with the energy and time to do it (!)

Bottom line - If you have no interest in gambling (which 99.9% of invested money isn’t) then when short term non-fundamental stuff happens you have two choices. Ignore or exploit. It's just sentiment changing. Fundamentals will be back one day. Rely on that.