Gamestop, AMC, and a few other highly shorted stocks are melting up, soaring to giddy heights. The ten most shorted stocks are up 159% this year. By comparison, it took the Dow Jones ten years to rise 155%! At some point, these companies will correct and fall back to earth like Enron, Worldcom, and Iomega did several years ago.  

If you missed the launch or takeoff, be careful investing in these names because most of the returns have already materialized. An airplane requires major thrust to take off and reach its cruising altitude, and when it does, the pilot throttles back the engines and settles in for the long haul, and when it starts to run out of gas, it will land. Stocks, like airplanes, can’t maintain vertical lift for long.

During speculative phases, investors will sell good companies to chase returns. The ten most profitable companies are up a mere 2.25% this year. The NASDAQ is up 1.8%, the S&P 500 is down .97%, and the Dow Jones has fallen 1.82%. High-quality names are a source of funds to pay for margin calls or cover losses. In 1999, investors sold blue-chip names to speculate on dot.com stocks. It worked for a while, and then the market crashed. Do you remember pets.com? As quality names trade down, use it as an opportunity to add great names to your account.

Eventually, markets correct, and speculators will get torched. Shooting stars fade. Cycles of fear and greed have been around for thousands of years, and it is not different this time.

If you own a few of the dangerous names, take your gains and lock in your profits. If you want to join the party, limit your purchase to 1% to 2% of your portfolio. Do not use margin. Do not buy options.

Be careful and tread lightly.

“You know somethin’, Robin. I was just Wonderin’, are we good guys or bad guys?” ~ Little John

January 29, 2021

Bill Parrott, CFP®, is the President and CEO of Parrott Wealth Management in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level. PWM’s custodian is TD Ameritrade, and our annual fee starts at .5% of your assets and drops depending on the level of your assets.

Note: Investments are not guaranteed and do involve risk. Your returns may differ from those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren’t suitable for every investor.

Data Sources: YCharts