Concentrate Your Bets!

Do you know Theodore Johnson? He worked for UPS and never earned more than $14,000 per year, but he was worth more than $70 million when he passed! He invested consistently in UPS stock and rarely sold. In addition to his UPS stock, he retired in 1952 with $700,000 in savings.[1] He put all his chips on his employer’s stock. He concentrated his bet, and UPS delivered! He won.

Andrew Carnegie said, “Put all your eggs in one basket, and then watch the basket.” Concentrating your bets in a handful of stocks flies in the face of conventional wisdom to diversify your holdings, but if you want to get unbelievably wealthy, go all-in with a few stocks.

Peter Thiel, a Paypal founder, invested $1,700 in his Roth IRA and appeared to follow Mr. Carnegie’s advice. In 1999 he bought 1.7 million Paypal shares at a penny per share before it was publicly traded.  EBay acquired Paypal in 2002, and the value of his Roth IRA jumped to $28.5 million. His Roth IRA is worth $5 billion today![2] Mr. Thiel nearly doubled his money every year, producing an average annual return of 95% for twenty-two years!

Warren Buffett, Bill Gates, Jeff Bezos, Elon Musk, and numerous billionaires bet on themselves and won. They invested heavily in their company stocks, and it paid off – handsomely. If you bought shares in their companies from the beginning and held on, you made a considerable profit. For example, Amazon is up more than 174,000% since it went public in 1997. By comparison, the S&P 500 has risen 477% from 1997. So go big, or go home.

Amazon is a monster stock, but it lost 94% of its value from 1999 to 2001, dropping from $107 to $6. It would take more than ten years for Amazon to reclaim its previous high touched in 1999. Microsoft is another wealth creation machine, but after the Tech Wreck in 2000, Microsoft shares fell sharply, and it would take more than twenty years for the stock to recover. Finally, Apple is the “it” stock for a generation of investors. The iPhone and its ecosystem have changed the world. However, before Apple was Apple, it struggled. In 1985 it fell 75% from its all-time high, dropped 74% in 1998 and 80% in 2003. In 2009, it lost more than 50%.

Putting all your eggs in one basket is difficult. It requires courage, conviction, and faith, especially when you’re losing money. Investing in a few companies is not for the faint of heart. I doubt many investors remained invested in Amazon after it fell 94%, but those who stayed the course made big bucks.  

Of course, to become uber-wealthy, you need to own profitable companies. Moreover, you need to be in the right place at the right time, and a little luck doesn’t hurt either. Enron stock was once a high-flyer minting billions of dollars in profit for its shareholders before it imploded. If you invested your life savings in Enron, you lost it all – 100%.

Investing in a few select stocks also requires patience. For example, Mr. Buffett accumulated most of his net worth after age sixty despite becoming a millionaire at age 30. More than $70 billion of his net worth came after he qualified for Social Security benefits.[3] For the past thirty years, Berkshire Hathaway stock has trounced the S&P 500 by a ratio of nearly 6 to 1. At age 90, Mr. Buffett is now worth more than $101 billion.

Few people have the emotional fortitude or foresight to invest everything in a few companies and hold them for decades. Still, if you’re one of the brave souls willing to ride the market’s volatility, you can make it happen. Also, hindsight is 20/20. It’s easy to look backward at Amazon or Apple and say I could have done it, but trying to find companies that will grow exponentially for decades is like trying to find a needle in a haystack.

For the record, I’m a proponent for most individuals to invest in a diversified portfolio of low-cost mutual funds based on their financial goals. However, here are a few suggestions if you want to aim for the moon and hope to pick a few winners.

  1. Limit your trading pool to 10% to 20% of your investment capital. Mr. Thiel allocated a pittance of his net worth to his pre-IPO Paypal shares.
  2. Identify companies looking to change the world. Of course, this is easier said than done, but they’re out there somewhere. It might not be apparent at first, but you could find one if you do your research. Also, you can be a little late for the party. If you bought Apple stock after the iPhone appeared in 2007, you still made 3,000% on your investment![4]
  3. If you work for a company that offers an employee stock purchase plan, take advantage of it by allocating a percentage of your pay to buy shares. Also, you can probably purchase your company stock inside your 401(k). Automating your equity purchases through your payroll department is an efficient way to accumulate wealth.
  4. Does your company offer restricted stock or stock options? If so, consider receiving a portion of your compensation in the form of equity. After your shares vest, hold on to them for the long haul.
  5. Think long-term. You may catch a shooting star and make money quickly, but more likely, your wealth journey will take decades. Patience is required.
  6. Tune out the noise. Naysayers, experts, pundits, and family members will try to knock you off your perch, but if you have conviction in your strategy, stay the course.
  7. Regularly review your strategy and investment thesis to make sure you’re still on the best path.
  8. Watch your basket!

You probably won’t need billions of dollars to retire comfortably, so save your money, invest often, diversify your assets, follow your plan, and good things will happen.

If you chase two rabbits, you will not catch either. ~ Russian Proverb

June 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.


[1] https://www.orlandosentinel.com/news/os-xpm-1991-11-24-9111221103-story.html, Charles Fishman, November 24, 1991

[2] https://www.nbcnews.com/tech/tech-news/billionaire-investor-peter-thiel-has-5b-his-tax-free-retirement-n1272317, Cyrus Farivar, June 24, 2021

[3] https://www.cnbc.com/2020/09/08/billionaire-warren-buffett-most-overlooked-fact-about-how-he-got-so-rich.html, Morgan Housel, September 8, 2020.

[4][4] Ycharts June 29, 2007 to June 29, 2021

Fear the Fed?

The market dropped last week because the Federal Reserve hinted they may raise interest rates in 2023, two years from now.  The Dow Jones fell about 3% as the topic of rising interest rates covered the airwaves.  The Federal Reserve also published their dot plot chart, a chart of where their members expect interest rates to be over the next few years, and several members expect rates to rise above 1.5%. Should we be concerned?

In 1994 and 1995, the Federal Reserve raised interest rates seven times, from a low of 3.25% to a high of 6%. From February 4, 1994, to February 1, 1995, interest rates jumped 85%.[1] What happened to the stock market? In 1994 the S&P 500 rose a paltry 1.3%, but it did not fall. However, in 1995 the index soared 37.6%.

From 1999 to 2000, the Federal Reserve hiked interest rates six times from 5% to 6.50%. The S&P 500 rose 21% in 1999, but it dropped 9.1% in 2000.

From 2004 to 2006, the Federal Reserve boosted interest rates seventeen times! On June 30, 2004, the Fed Funds Rate sat at 1.25%, and on June 29, 2006, it swelled to 5.25%, an increase of 320%. Despite several rate spikes, the S&P 500 rose 10.9% in 2004, 4.9% in 2005, and 15.8% in 2006.

From 2015 to 2018, the Federal Reserve increased interest rates nine times, climbing from .25% to 2.50% or 900%. The S&P 500 rose 1.4% in 2015, 12% in 2016, 21.8% in 2017, and it dropped 4.4% in 2018.

Rising interest rates are a sign of a robust economy and, potentially, higher inflation. Rising interest rates and higher inflation spells trouble for stocks. If rates rise high enough, investors will sell stocks to buy bonds or park their cash in a money market fund. For example, some investors would prefer to earn a safe 5% from a bond rather than risk their capital in the stock market.

Lately, though, long-term interest rates are falling. The Federal Reserve can only regulate the Fed Funds Rate, whereas the market (investors) control everything else, including longer-dated bonds. For the past three months, yields on the US 10-Year Treasury Note and the US 30-Year Treasury Bond are each down more than 15%. If investors are nervous about rising interest rates or inflation, the bond market is telling us otherwise.

Wayne Gretzky once said he’s successful because he skates to where the puck is going, not to where it has been. He is the rare athlete who sees plays develop before others. But Mr. Gretzky is not on the Federal Reserve Board, and predicting the direction of interest rates is hard; trying to identify the actual rate is impossible.

Jamie Dimon, the CEO of JP Morgan Chase, said in 2019, “We’ve actually been effectively stockpiling more and more cash, waiting for opportunities to invest at higher rates,” Dimon said during a virtual conference held by Morgan Stanley. “So our balance sheet is positioned (to) benefit from rising rates.” At the time of the quote, his firm was sitting on $500 billion in cash, waiting for interest rates to rise.[2] What happened? The CBOE Interest Rate Composite Index fell 98.57% over the next two years! If Mr. Dimon can’t predict the direction of interest rates, who else can?

The effective Federal Funds Rate is currently .06%. The 67-year average has been 4.74%, so who cares if it rises a percent or two? I don’t.

When the market falls again because of rising interest rates, use it as an opportunity to buy great companies at discounted prices. Since February 4, 1994, the S&P 500 is up 797%, or 8.34% per year, despite several corrections. A $10,000 investment grew to $89,740!

Rather than waiting for the Federal Reserve to hike interest rates in two years, diversify your portfolio, follow your plan, save your money, and invest often.

“It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.” ~ Henry Ford

June 21, 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.


[1] https://www.federalreserve.gov/monetarypolicy/openmarket_archive.htm

[2] https://www.reuters.com/business/finance/jpmorgan-stockpiling-cash-waiting-interest-rates-rise-ceo-2021-06-14/, Jeenah Moon, April 9, 2019

Giving It Away

My family donates money through tithes and offerings, so I incorporated the practice into my business model when I started my investment firm. Giving is not a budget item because contributions come from the top – 10% of our firm revenue. At the end of each quarter, my wife and I sit down to pray over our offerings before giving any money away. It’s a joyful time, and it’s the best part of my job.

  • Each of you should give what you have decided in your heart to give, not reluctantly or under compulsion, for God loves a cheerful giver. ~ 2 Corinthians 9:7

Our charitable giving spans the globe from Austin to Africa. We help local groups like Partners in Hope, Candlelight Ranch, The Heart of Texas Pregnancy Resource Center, and International organizations like Arise Africa, Eagle’s Nest International, and the Nicaragua Resource Network. We also support organizations we met through serving and our travels, like Galveston Urban Ministries, Mission Waco, Wellspring Church, and Wind River Ranch. Giving is part of our DNA. It’s what we do, and I can’t imagine a time where we’re not helping others with our resources.

  • Bring the whole tithe into the storehouse, that there may be food in my house. Test me in this,” says the Lord Almighty, “and see if I will not throw open the floodgates of heaven and pour out so much blessing that there will not be room enough to store it. ~ Malachi 3:10

It was easy to commit to a giving program when we had no revenue, but our firm is growing, and so are our donations. My goal is to manage a billion dollars in assets to give more than $500,000 per year. At our current growth rate, we expect to reach this milestone in fourteen years. God willing.

  • Jesus sat down opposite the place where the offerings were put and watched the crowd putting their money into the temple treasury. Many rich people threw in large amounts.But a poor widow came and put in two very small copper coins, worth only a few cents. Calling his disciples to him, Jesus said, “Truly I tell you, this poor widow has put more into the treasury than all the others. They all gave out of their wealth; but she, out of her poverty, put in everything—all she had to live on.” ~ Mark 12:41-44

To be clear, we do not give to get. We’re not looking for quid-pro-quo relationships. Rather, we strive to be humble servants through giving, and it forces us to be sage stewards of our capital. When I launched my firm, industry experts and consultants panned my business model, saying my fees were too low and I can’t give away 10% of our revenue. They foreshadowed doom and gloom. However, five years later, we’re thriving, and we recently moved to the Securities and Exchange Commission (SEC) for regulation – a big deal for a small firm.

  • Give, and it will be given to you. Good measure, pressed down, shaken together, running over, will be put into your lap. For with the measure you use it will be measured back to you.” ~ Luke 6:38

Our giving has increased each year, but I’m not alone, thankfully. Americans gave $449 billion in 2019, and corporations added $21 billion – record amounts.[1] As stocks climb to new highs and real estate prices soar, I expect the amount people donate to charitable organizations will increase substantially this year. The wealth effect is in full force.

  • Do not neglect to do good and to share what you have, for such sacrifices are pleasing to God. ~ Hebrews 13:16

If you’re curious, here is a list of organizations we supported through the years.

https://www.parrottwealth.com/community

Give early, give often, and be well.

June 15, 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.


[1] https://www.nptrust.org/philanthropic-resources/charitable-giving-statistics/

Inflation?

Chipotle announced they’re increasing menu prices by 4% because of rising wages.[1] Likewise, Campbell’s Soup is raising prices this summer due to higher costs.[2] According to AAA, gas prices at the pump have increased 48%. The price of lumber jumped more than 32% in the past year. And there is currently a shortage of everything from computer chips to potato chips.

The Consumer Price Index jumped in May, and it’s up 4.93% for the past year – a hot number. The US Inflation Rate currently stands at 4.99%. The 107-year average inflation rate is 3.22%.

Despite the surge in CPI, inflation, gas, lumber, and burritos, the bond market signals a different story. If investors were anxious about inflation, interest rates would be rising, but this is not the case. The yield on the 10-year US Treasury Note is 1.53%, down from 1.74% in March. The 50-year average yield on the 10-year is 5.98%. Also, the yield on the 1-month US T-Bill is .01%, down 93% from last year!

The Federal Reserve said the current surge in inflation is transitory, resulting from the pent-up demand from COVID. Other words for transitory are brief, fleeting, or short-lived. I agree. I believe the surge in inflation will be transitory. If history is a guide, inflation spikes are ephemeral. If you traveled recently or dined in a restaurant, you know the economy is in full swing, but the pace will slow down at some point.

However, if you’re concerned about inflation, here are a few things you can do today to protect your purchasing power.

  • Buy stocks. If Chipotle raises prices, they’ll make more money, and when they do, its stock price will rise. If you’re a shareholder in Chipotle, you’ll also profit. For example, the price of a Disney World Ticket in 1980 costs $7.50, today it’s $109, an increase of 1,353%,[3] whereas Disney’s stock price increased 18,850% during the same time frame. Stocks are an excellent tool for combating inflation.
  • Buy real estate. Real estate prices have historically tracked the rate of inflation. Therefore, if inflation rises, real estate prices should follow.  
  • Buy TIPS. Treasury Inflation-Protected Securities (TIPS) will pay you more income as inflation rises. TIP bonds are up more than 7% over the past year. Long-term bonds, by comparison, have fallen 9.5%.
  • Buy commodities. Anything coming out of the ground can perform well in an inflationary environment. Commodities like oil, gold, silver, copper, wheat, soybeans, and sugar are short-term inflation hedges. For example, the Invesco DB Commodity Tracking ETF (          DBC) is up 57% over the past year, but it’s down 21% for the past fifteen years. I’m not a fan of commodities because they don’t perform well over time, but if you want to allocate a few dollars to this asset class, limit your purchase to 5% of your portfolio.
  • Invest in a money market fund. The yield on a money market can rise if interest rates go higher but don’t keep a large cash balance in a money market fund, checking account, or savings account because your purchasing power will fall over time. For example, a US postage stamp cost 10 cents in 1974, so you could buy ten stamps for a dollar. Today you can buy one stamp for one dollar.[4]

Don’t fear a steady rise in inflation. It’s healthy because it signals the economy is growing. A more significant concern is deflation, where prices fall as they did during the Great Depression. The moral of the story is to diversify your assets in stocks, bonds, and cash to take advantage of all market conditions.

There are two main drivers of asset class returns – inflation and growth. ~ Ray Dalio

June 10, 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.


[1] https://www.cnbc.com/2021/06/08/chipotle-hikes-prices-to-cover-the-cost-of-raising-wages.html, Amelia Lucas, June 8, 2021

[2] https://www.wsj.com/articles/campbell-says-inflation-weighed-on-quarterly-profit-11623245692, Annie Gasparro, June 9, 2021

[3] Money Guide Pro My Blocks

[4] https://about.usps.com/who-we-are/postal-history/domestic-letter-rates-since-1863.htm

A Balancing Act

The Wall Street Journal recently published a good article about rebalancing your investment portfolio. (Portfolio Rebalancing Is A Good Retirement Habit, June 4, 2021).  Rebalancing is a simple yet powerful strategy for managing your accounts, whether you’re retired or not. Additionally, it’s a risk reduction strategy that may improve your returns.

We rebalance our portfolios largely driven by the market’s action. TD Ameritrade’s iRebal platform is the means we use to manage several investment models, and we automate the process to facilitate our trades. In other words, we try to eliminate emotions and human error from our system. We let the models dictate our trades, and we don’t override them because of market conditions. Each Tuesday, iRebal looks for accounts that deviate from their set allocation, and when it finds one, it rebalances the portfolio back to its original allocation. It’s like mowing the lawn or getting a haircut.

Why should you rebalance your account? The primary reason is to keep your risk tolerance intact. For example, if your allocation was 50% stocks and 50% bonds on January 1, 2020, it’s now 56% stocks and 44% bonds – too much risk. Conversely, during the COVID correction in March 2020, your equity positions fell to 40%, while your bond holdings rose to 60% –  too conservative. Rebalancing allows you to be in the right place at the right time. If you don’t rebalance, you may be too aggressive during a correction or too conservative during a recovery.

Speaking of the COVID correction, our rebalancing models worked overtime as the market crashed. Our rebalancing software sold bonds to buy stocks counter to what most investors were doing at the time. We were buying growth stocks, small-cap stocks, and real estate holdings as the market fell. Investors like to buy low and sell high, but few do it, but our models did. When we sold bonds to buy small-cap stocks and real estate holdings, they were down more than 40%! I was hyperventilating as the models made the trades. However, it worked well as growth stocks, small-cap companies, and real estate funds recovered from the COVID lows. If we did not rebalance our accounts, we would have missed impressive returns.

As the market rebounded and recovered, the models sold stocks to buy bonds to maintain our asset allocation and risk tolerance for our clients. Rebalancing works both ways – buying and selling stocks and bonds based on market conditions.

Below is a chart for a few of our models: ninety-nine, seventy-five, sixty, and fifty. The number corresponds to the equity allocation. For example, the seventy-five model is 75% stocks, 25% bonds. The most aggressive model fell further and recovered faster than our conservative ones, as expected. Our rebalancing models adjusted accordingly, so the risk level for each portfolio remained constant.

If you want to improve your investment results, consider rebalancing and automating your process so you don’t become financially paralyzed when the market falls 40% or 50%. Automating your trading will allow you to rebalance your accounts when you can’t.

How often should you rebalance? If you don’t automate the process, then rebalancing your accounts once per year is recommended. January is an excellent time to reset your accounts after all the dividends, and capital gains have been paid. If you hold assets in your company retirement plan, you probably have a rebalancing tab that you can select. The link should give a few options like monthly or annually.

If you want an investment edge, rebalance!

Happy Rebalancing!

The beauty of periodic rebalancing is that it forces you to base your investing decisions on a simple, objective standard ~ Benjamin Graham

June 8, 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.

Fish On!

I recently returned from a fly-fishing trip with a few mighty men. It was a quick trip – one day, to be exact. We fished on private water in Colorado, and it was an epic day. We caught several fish in a pristine river under bright blue skies.

As the day progressed, we adjusted our flies under the watchful eyes of our guides. As we made the changes and the water warmed up, we caught more fish. As the flies got smaller, the fish got bigger. The tiniest flies produced the best results.

Most investors allocate a hefty portion of their portfolio to large-cap stocks like Apple, Amazon, or Microsoft. These behemoths have produced stellar returns for years, but, at one time, they were small-cap stocks started by a couple of guys with big ideas.

Why should you invest in small-cap stocks? Well, for one, they outperform large companies. For the past year, small companies and micro-caps trounced large-cap stocks. Micro-caps and small-caps are up 59% and 56%, respectively; large-cap stocks have risen 34%.[1]

Since 1995, micro-cap stocks generated an average annual return of 11.7%, small-caps returned 11.3% per year, and large-cap stocks averaged 10.8% per year.[2] A $10,000 investment in micro-caps grew to $189,000 compared to $151,000 for large-caps.[3]

Large companies are household names, and investors are comfortable owning them in their portfolios. The old saying on Wall Street is that you would never get fired for recommending IBM. But what about buying Atkore, Fabrinet, Exponent, or Itron? These names are not well known.

Identifying a diamond in the rough is challenging because we don’t know which company will become the next Apple or Microsoft. So, the best way to participate in this category is to buy a mutual fund or ETF. For example, Dimensional Funds small and midcap funds own more than 3,700 companies.

If you want to generate big returns, think small!

He put another parable before them, saying, “The kingdom of heaven is like a grain of mustard seed that a man took and sowed in his field. It is the smallest of all seeds, but when it has grown it is larger than all the garden plants and becomes a tree, so that the birds of the air come and make nests in its branches.” ~ Matthew 13:31-32

June 7, 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.


[1] YCharts

[2] Ibid

[3] Ycharts: 1/1/1995 to 6/4/2021 – DFSCX, DFSTX, VFAIX

Mama Meme!

Meme stocks are soaring to the moon as diamond hand traders place concentrated bets on a handful of companies. Meme traders scour the internet looking for stocks to buy and promote to more traders. The meme stocks are rising because, well, they’re rising.

My wife asked me what a meme stock was at dinner last night, and she rarely asks me about stocks, so I knew the trading frenzy has gone viral. I gave her a short answer with little detail, but I told her I would do a deeper dive to answer her question. So here we go.

A group of traders identifies meme stocks through social media sites like Reddit and WallStreetBets. Reddit describes itself as the front page of the internet, while WallStreetBets is a forum for stock and option trades to pump, er share, ideas. The traders typically target companies with high short interest, like Bed Bath & Beyond or SoFi Technologies.

Why would a company with a high short interest be an attractive target? When traders short a stock, they expect the price to fall, so they sell first, hoping to repurchase it later at a lower price – the short seller profits when stocks drop. Most individuals who short stocks are professional traders, whereas meme traders are primarily retail investors. It’s David vs. Goliath. When meme traders start pumping up a stock price, the short sellers must buy back stock to limit their losses, so trading volume explodes as retail traders and short-sellers buy stock. For example, the 10-year average trading volume for AMC Entertainment (AMC) is about 13.5 million shares per day. The trading volume for the last five sessions averaged 571 million shares per day, and it traded more than 750 million shares on Thursday!  AMC has 117 million shares outstanding, so it traded nearly five times the number of shares available every day last week.[1]

Meme traders use rocket emojis to inform other traders they expect their stocks to go to the moon. Another symbol for these traders is diamond hands. If you have diamond hands, you’re a strong trader with the courage to hold your stock while it’s falling. Diamond hand traders unite to try and hold the line as their stocks get battered. On the other hand, if you’re weak and sell your stock, you have paper hands, according to the meme traders. I own index funds, and I rarely sell, so I guess I have diamond hands.

However, it’s hard to argue with the meme traders because their stocks are soaring. AMC is up 2,160% for the year. GameStop is up 1,220%. BlackBerry and Bed Beth and Beyond are only up 109% and 78%, respectively. Several firms offer zero commission trading like Robinhood and Schwab, which added to the speculation, and the Federal Reserve has been accommodating with a near-zero interest rate policy. If we add COVID, boredom, and a lack of sports to the mix, then you have a perfect cocktail for a trading bubble.

Another characteristic of meme traders is they don’t care about a company’s financial statement, and it’s a good thing because the balance sheets for AMC, GameStop, BlackBerry, and Bed Bath and Beyond are horrible. Here are a few of their combined financial metrics.[2]

  • Return on Invested Capital = -43.4%
  • Annual Revenue Growth = -32.5%
  • 5-Year Revenue Growth = -12.2%
  • Profit Margin = -197%
  • Operating Margin = -104%
  • Employee Growth = -24%

I give credit to the meme traders because they’re leveraging the power of social media through Reddit and WallStreetBets to promote their ideas. As a result, social media has leveled the playing field. Before the internet, Wall Street firms like Morgan Stanley, Goldman Sachs, and Merrill Lynch used the press to promote their stocks and offerings. The analyst would promote their ideas on CNBC, Bloomberg, or Fox Business News. Likewise, money managers and professional traders regularly talk their book to sell their ideas. It’s not uncommon to watch a segment on CNBC where a trader tells the viewers they bought stocks or options during the show! I used to call this front running, but maybe the rules have changed.

Should you buy meme stocks? If you want to speculate with a small portion of your account, and you can afford to lose the money, then give it a shot. If you decide to trade a few meme stocks, limit your investment to 1% to 3% of your capital. And don’t use margin! If you currently own meme stocks, sell some shares to lock in your profits because this won’t last.

If you don’t want to believe me, here is what the management of AMC recently said about their stock:

“We believe that the recent volatility and our current market prices reflect market and trading dynamics unrelated to our underlying business, or macro or industry fundamentals, and we do not know how long these dynamics will last,” AMC said in the filing. “Under the circumstances, we caution you against investing in our Class A common stock, unless you are prepared to incur the risk of losing all or a substantial portion of your investment.”

Caveat emptor.

“The game of speculation is the most uniformly fascinating game in the world. But it is not a game for the stupid, the mentally lazy, the person of inferior emotional balance, or the get-rich-quick adventurer. They will die poor.” ~ Jesse Livermore

June 5, 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.


[1] YCharts

[2] Ycharts Comp Tables