Remember the good old days of the 1990s? Back in the day, you could drive your Saab 900 to Bed Bath and Beyond to get some towel racks on your way to the AMC movie theater to watch “Toy Story," all the while being connected to work by the snazzy BlackBerry clipped onto your belt. Maybe later, if the kids behaved themselves, you could swing by the GameStop store to buy them a game for their Sony PlayStation.
Those days seemed well in the rearview until COVID hit and the Robinhood-Reddit-Wall Street Bets monster rose up—seemingly out of thin air—to turn asset valuation on its head by snapping up equity in stocks referred to as “meme stocks.” Now, also-ran companies that many of us thought were already on the ash-heap of history have become juggernauts steamrolling professional traders on the wrong side of the new reality.
This piece may sound like a frustrated old-school investor acting like grandpa Simpson shaking his fist and yelling, “You rotten kids!” And maybe that is right, but I’m really not sure we’ve seen a break from reality this large before. Perhaps the “dot-com” bubble, but back then we were transfixed with all the new technology and its possibilities. Of course, there were many crazy start-ups that had no business being public companies, but many of the “dot-com” stocks were just too early, as they had not figured out how to monetize many good ideas. What we are seeing now, however, is stocks like Blackberry being driven up seemingly for nostalgia’s sake.
We have just witnessed a broken business model, near-bankrupt company, AMC, rise over 2000% in five months to catapult itself to a $25 billion valuation, putting it squarely in the middle of the S&P 500 rankings by market capitalization. The one thing that we can be sure of is, in the next year or more, is AMC will not put three consecutive profitable quarters to actually land in the S&P 500. While there are many companies out there that have similar valuations or greater without net profits, at least many of those companies are on the cutting edge of technology. Meme stocks, on the other hand, are the companies that recent-past or current technology has already replaced!
New retail investors are now a serious market participant that must be respected. Their “You Only Live Once (YOLO)” mantra is like the proverbial bull in the china shop. However, many of these new investors are thinly capitalized and rely on margin leverage. Furthermore, many of these investors use the leverage of options to enhance their potential returns. If we look at option activity on AMC last week, out of the money June 2021 calls as of the close Friday carried over a 400% implied volatility. Similarly, out of the money calls on S&P E-Mini contracts had implied volatilities of approximately 15%.
For example, this past Wednesday, a June 18 2021 expiry, 73-strike call traded at a price of $25.60 (up from a price of $1.64 Tuesday, a 1,460% increase day-over-day!) or an implied volatility of 573%! For this trade to be profitable, AMC would have had to rise approximately 58% in a little over two weeks. Anything is possible, especially in the new order. However, as AMC management offered its new saviors a lifetime of free popcorn, it also announced that it was going to take its new valuation to issue up to 11.5 million new shares to pay down debt. This development caused AMC to drop about 23% from its high of $62.55 set earlier in the week. With that, the 73-strike call option price dropped 60%. That is quite a big drop in a position, especially if it is in an investor’s account that has relatively high margin balances.
In 1986, economists created The Big Mac Index. The index was a fun way to measure purchasing power parity amongst different countries. From one corner of the globe to the other, nearly everyone loved the decadent pleasure of McDonald’s Big Mac. The Big Mac index was created to show, in U.S. dollars, how much a Big Mac would cost in every country. Perhaps it is time for a reality index for meme stocks. The index could back what the price of a movie ticket AMC would have to charge to give credence to a multi-billion valuation. Maybe the index could show how many trips to the theater each American would have to make in a year, along with how many Raisinets and Mike-and-Ikes they would have to purchase at a 300% markup per visit. Or perhaps how much would a time machine cost to build in order to go back to the 1990s to justify the approximate $8 billion valuation of Blackberry, the $25 billion valuation of AMC, or the $3 billion valuation of Bed Bath and Beyond!
It is a meme stock world and we are just living in it, for now.
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John Tuohy is CEO of SWBC Investment Services, LLC, a Broker/Dealer and SWBC Investment Company, an SEC Registered Investment Advisor (RIA). In his role, John is responsible for identifying, developing, and executing the division's strategic plan and all business development, sales, and marketing activities.