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Zach Scheidt

Helping families build wealth so they can focus on what really matters

Reddit Killed the Short Sellers (Just When we NEED Them!)

February 3, 2022 at 9:48 am by Zachary Scheidt

short sellers

In a real-life ecosystem, nature needs both predators and prey.

If you take all of the lions or wolves out of a habitat, deer, rabbits and antelope will flourish (for a short time).

But then resources will become scarce, entire herds will be malnourished, and disease can set in. It’s a terrible situation for ALL!

Short sellers — traders who profit when a stock drops — serve an important role in markets.

Just like predators in the wild, short sellers pick off the weak stocks. They expose fraudulent situations, bad business practices, and over-priced investments that are vulnerable to a decline.

These traders help keep equilibrium in the market. And not just by short-selling stocks they hope will go down.

You see, after these traders place bets on stocks (or entire markets) they expect to fall, they eventually have to cover those bets. And the only way to do that is by buying back the shares they originally sold.

So when short sellers are active in the market, it means there’s an entire group of buyers just WAITING for a pullback. And once that pullback occurs, short sellers have an incentive to buy back their shares helping to support the overall market.

Short Sellers are Curiously Absent, Thanks to Reddit

With the market pulling back, and some big-name tech stocks under severe pressure, it would be helpful to have short sellers ready to hit the “buy” button this morning.

But over the last two years, traders following “Wall Street Bets” and other channels on Reddit have targeted short sellers. These traders have intentionally manipulated stock prices higher in order to “punish” short sellers and cause them to lose money.

I’m sure you saw the dramatic surges in stocks like Gamestop (GME) and AMC Entertainment (AMC).

These stocks are now settling back towards more “reasonable” prices (compared to company earnings — or prospects of earnings). But many of the short sellers who used to play a vital role in the market are gone.

Take a look at the chart below which shows the relatively low amount of short selling activity.

(Hat tip: The Daily Shot’s excellent weekday chart roundup)

Without these “predators” in the market, there are fewer potential buyers with an incentive to support today’s market.

This is part of why we’re seeing more volatility so far in 2022!

Bottom line: Be careful what you ask for, and always think about the long-term implications of today’s decisions.

It may be that the market needs those pesky predators after all!

Now, let’s shift gears and take a look at some of the important links crossing my desk today:

Jobs, Inflation and Consumer Spending

  • BI: Labor shortage shows no sign of slowing down.
    • Job openings increased to 10.9 million – above 10.3 million forecast.
    • 4.3 million Americans quit their jobs in December.
    • There are roughly 0.6 unemployed people for every job opening.
  • MW: US Jobless claims drop 23,000 as omicron recedes.
    • New requests for unemployment benefits fell for second week.
    • Investors expected a larger number of unemployed workers.
    • Coronavirus cases are falling fast – employment should rebound in Feb.
  • WSJ: Consumers pivoting to spend on dining and travel.
    • During the pandemic, consumers stayed at home and bought “stuff”.
    • Spending on goods is now challenged by supply chain problems.
    • Early indications point to strong travel, dining and other services.
  • Reuters: Inflation expectations are stabilizing according to Fed data.
    • The fear of sustained high inflation appears to be easing.
    • Some weak data on the job market could change Fed’s outlook.
    • If the economy slows, inflation could ease with less help from the Fed.

Short Sellers Needed: Stocks Sell Off

  • CNBC: Facebook shares plunge 20% on weak earnings.
    • Inflation, supply chain disruptions for advertisers, competition in play.
    • Facebook 1Q sales will range from $27 and $29 billion versus $30 expected.
    • Daily active users came in below what Wall Street forecasted.
  • CNBC: Merck to sell $5 – $6 billion of its new covid treatment pill.
    • Merck (MRK) beat earnings and revenue expectations for the quarter.
    • The company will deliver 3.1 million treatments to U.S., 4 mil internationally.
    • MRK’s beat was largely driven by its cancer treatment & prevention drugs.
  • Morningstar: Why sector funds are a bad bet.
    • Funds focusing on one specific sector have become increasingly popular.
    • But performance for sector funds has been particularly bad.
    • As areas fall in and out of favor, investors buy and sell at the wrong time.
  • CNBC: Tesla recalls 800k vehicles for seat belt chime problem.
    • For some vehicles, the seat belt reminder doesn’t chime when the car starts.
    • the recall covers versions of all four Tesla models.
    • Federal vehicle safety laws require the chimes to sound.

Online People… Online Money…

  • BI: Metaverse mortgages issued to buy virtual land.
    • TarraZero Technologies is one of the first lenders for “metaverse mortgages”.
    • No financial terms such as interest rates were disclosed.
    • TerraZero holds the virtual land as the registered owner until the loan is paid.
  • CoinDesk: Bitcoin bounce pauses on low volume.
    • Indicators such as volatility and trading volume remain low.
    • This shows a lack of conviction for buyers and sellers.
    • $40k resistance and $30k support are key levels traders are watching.
  • Pew Research: Tech / Internet usage surges across all age groups.
    • 96% of adults between 18 and 29 own a smartphone – 61% for age 65+.
    • Virtually all adults now use the internet
    • Half of adults ages 18-29 say they are almost constantly online.

(Trade procedure: 5 minutes after this notification posts, I will enter the trade on my brokerage platform. Once filled I will edit this post to include execution prices.)

Please note: I am placing these trades in my own account. And while I notify the group of all trades 5 minutes before I place my own personal trades, this creates a conflict of interest. Please review all disclosures and agreements included with your subscription packet.

Filed Under: Markets, Public Tagged With: Bear market, links, risk management, short sellers, stock market

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