Wall Street: The Revenge of Main Street
Market Manipulation. This is what the movie "Wall Street" was demonstrating in the clip. This movie demonstrates many ways Wall Street has manipulated the market in the past. Market manipulation is illegal and is covered in the Securities and Exchange Act of 1934. In fact, Gordon Gecko, the fictional character shown in the movie, later goes to prison for committing these types of crimes.
The definition of Market Manipulation is the deliberate attempt to interfere with the free and fair operation of the market and create artificial, false, or misleading appearance with respect to the price of, or market, for, a product, security, or commodity.
A paper entitled "Market Manipulation and the Exchange Act" by James Wm Moore and Frank M Wiseman breaks down this relationship in three principles:
1) To curb excessive speculation
2) To give the public adequate financial information concerning the securities traded in
3) To prevent illegitimate manipulation of security prices and protect the public against unfair practices.
Due to the SEC (Securities and Exchange Commission) it is more difficult than ever for wall street to successfully commit these crimes. And when they are committed the individuals are almost certainly caught.
Now move to the last week with stocks like AMC and Gamestop. These are stocks that, fundamentally, are considered by many to be poor investments. It does not take a wall street analyst or financial profession to see that the movie theater industry is struggling. Even before the coronavirus theater chains everywhere were struggling to compete with in online streaming. The same is true with Gamestop. The prevalence of the ability to download the games and movies you play has hurt the business model of this company, leading to the closure of numerous stores.
We now have what seems to be a collaborative effort to manipulate the market on the part of main street investors, and they are taking their toll on wall street. To call this effort insider trading would be difficult has insider trading means you are trading on information that is not public information. So the reddit forum, being public, appears to be off the hook for insider trading. Briefly on January 27 this forum was reportedly made private, only to be restored public that very night. Had they kept the forum private, and continued in their actions with these and other stocks, this group would very well have been guilty of insider trading.
While it would seem they are not insider trading. Are they guilty of market manipulation? Is this event the revenge of main street? Looking at the definition of market manipulation, and the three principles outlined in the quoted article:
We have a large amount of the public jumping into highly speculative and risky investments because of the actions and advice of a small group of investors (excessive speculation). The price of these investments would seem to be wildly inaccurate based on common measurements of the market. (lack of accurate information to the public) Take Gamestop. The price to book ratio is 72.96. This means that the price of one share of Gamestop stock is 73 times the fundemental value of the company. Based on this number Gamestop would be valued on $4.76 per share. Right now it is $347.51 per share. Additionally Gamestop's debt is 2 times there equity (think assets). Finally, They have admitted that they are attacking the hedge funds. There whole strategy was to artificially increase the price, forcing hedge funds to cover their short position (AKA buy the stock) further increasing the price of the stock at which point they can sell and make a big profit (illegimate manipulation for the personal gain).
Lets also look at AMC, which is an interesting case, for differing reasons. The price to book ratio is .51 meaning that the price per share is theoretically still less than the fundamental value of the company, yet this company is operating with 2020 free cash flow of -728.70 million dollars. Yes, Negative. Also remember that the price of a stock is a future valuation of a company. The price to book ratio is less than one indicating that the value of the company is more than the stock price, but is that because the business is doing well, or is it because they own a lot of assets such as movie equipment, etc. They likely have no cash, a lot of assets, and a business that has been dwindling for years.
"The Intelligent Investor" by Benjamin Graham is an interesting book on investing that discusses the valuation of stock. In it he discusses a price to book ratio of 20 as the highest he prefers to buy. This is because stock price is, once again, a future valuation. Much higher than 20 and he feels there is to great a risk that the growth has already occurred. With a low price to book, the question must be answered as to why the price to book is below 1. Usually the answer is because the business is failing and no one believes it will be around in the future to actually grow. Selecting a stock to purchase is a careful balance between fundamental value today, and likely growth tomorrow.
If you have gotten involved in this recent trading of particularly Gamestop and AMC Theaters be careful. This circumstance was brought upon by actions that are likely illegal. If there is no illegal action, it is dangerously close to being illegal.
Stock trading is not a game. Stock trading is not supposed to be fun and exciting. Stock trading is supposed to be boring. We are witnessing the Revenge of Main Street and it will very likely lead to increased regulation upon social media companies regarding investing as well as increased regulation on organizations like Robin Hood. In fact, it would not surprise me if these events prompt an end to the fee-free stock trading.