In this month’s edition of “Money Matters,” Scott explains how mass financial speculation can influence the markets and cause financial volatility, while also discussing which factors to consider before engaging in market or investment speculation.

Money Matters: Market Speculation and Your Portfolio Transcript

0:00:00.0 CJ: WTIP is pleased to bring you another edition of Money Matters, a monthly feature intended to help us understand more about managing our finances. Scott Oeth is a Certified Financial Planner, an adjunct professor, and he's taught retirement planning and wealth management strategies to hundreds of financial professionals. And Scott joins us now by phone. Welcome, Scott.

0:00:23.0 Scott Oeth: Hey, good morning, CJ.

0:00:24.1 CJ: Good morning. I almost hesitate to bring this up because of all the frenetic stock market stuff that's been going on, but maybe you could clarify what's been happening lately.

0:00:37.2 Scott Oeth: Yeah. Well, things have been interesting. There's been a lot of headlines that... I think the technical term is things are “weird” in the markets right now. I guess one thing that really caught a lot of attention over the last week or so is this major movement where we had a group of what appears to be small-time traders from a Reddit forum, betting and putting on a big coordinated rush to buy up companies, going against some large professional hedge fund investors that had been betting against these companies. And so it was a very interesting drama that has played out very quickly with huge up-runs and tremendous crashes all in a matter of days. And I have no doubt there will be a movie made about this before too long.

0:01:29.0 Scott Oeth: But as I see it, both sides of what we're looking at here are playing a very dangerous game, financially. These big hedge funds, they were betting against companies. And granted, they're out-of-favor companies that didn't have very good prospects…their future didn't look very promising, but still, they're betting those companies are gonna go down. They're betting against all the employees who are working to build up those companies, the executives there. They're working... They're betting against the market and the economy's natural upward rise that could lift even struggling companies. Same thing with inflation. And when they're placing those types of bets, what's called short selling, those hedge fund managers are putting themselves in a position for unlimited losses. If you buy a company and it goes to zero, your loss is your initial investment. But when you are borrowing shares and selling them with the thought that you're gonna buy them back at a lower price, but the upside is unlimited, these companies could go to the sky. And that's what happened when these Reddit-based traders threw all this money against them, the hedge funds lost money very quickly. Dangerous, very dangerous on the short selling side.

0:02:41.0 Scott Oeth: And then on the flipside, you had folks, apparently, from a Reddit community, probably a lot of others, I really suspect, when the dust settles on this, we'll find out that there is also a lot of professional traders on the bullish side or the upward side. But they were knowingly pumping money into companies that didn't look very promising, that had poor outlook, and nothing had changed with their financials and their situation. They were knowingly betting against massive, well-funded professionals, really speculating trying to make money on short-term upswing.

0:03:16.8 CJ: Yeah. It seemed like a very aggressive move just to prove a point, but they were doing it with companies that their value didn't increase, but their stock price increased by, what, 3000% or something like that?

0:03:33.3 Scott Oeth: Yeah. It was incredible, CJ. And something you said there, "doing it to make a point," there definitely seemed to be a political bent, sort of a “little guy sticking it to the big guys” bit to this is playing out. And I think that's a dangerous bit too, something to be aware of as an investor. Emotions and investing don't mix very well because it can lead to the fear and greed cycles that we've known about forever, and you don't wanna get on the wrong side of that. It helps, I think it's... You wanna come into things with a clear mind and a long-term focus, and try to be as rational as possible when making big financial decisions.

0:04:12.3 CJ: Yeah. Maybe you could explain the difference between investing and speculating.

0:04:19.0 Scott Oeth: It's somewhat maybe in the eye of the beholder. The terms vary and differ, but I saw a quote from Jason Zweig, who's a Wall Street Journal writer, excellent financial journalist, in my mind, and he said, "You can't invest without trading, but you can trade without investing. Thinking you're investing when all you're doing is trading is like trying to run a marathon by doing 26 one-mile sprints right after another." [chuckle] So, it gets us a little bit, but investing, you're... Usually what you're trying to do is you're looking at the value of the company or the piece of real estate that you're buying, or whatever it is that you're putting money in. You're looking at the asset value, you're looking at its future earnings potential, you're making your purchase decision based on what analyst... That company's intrinsic value or its fair market price, and you're taking it with a long-term outlook, really viewing yourself as an owner in the company.

0:05:20.1 Scott Oeth: And speculating or day trading, or some of these other more rapid swings, like you mentioned, what we saw a week ago, those companies, by all accounts, their prospects didn't look great. [chuckle] And there was nothing that was changing. There was no news saying, oh, all of a sudden things are gonna turn around for them. It was really based on trying to capitalize on investor psychology, bidding up the price, thinking that someone is gonna come along after you and pay a higher price. And it's speculating or trading like that is really trying to make money based on the transaction itself and short-term movements, not really having concern or thought given to the underlying value of the company or the investment.

0:06:07.0 CJ: Wow, what a volatile beginning to the year.

0:06:13.3 Scott Oeth: Yes. We saw a number of companies that, I think, people were somewhat familiar with and thought, "Oh, that's interesting, they're getting run up like that." But it wasn't just out-of-favor, failing companies. We're seeing this in cryptocurrencies, where there's a lot of interesting ideas about what role cryptocurrency may play in the future, but there is no underlying asset there. There is no earnings to cryptocurrency. It's a digital marker that you're hoping someone else will pay you some valuable rate in the future. And there's some really, I think, interesting companies doing very exciting things, sending rockets into space and building great products. But still, even with excellent companies, they can be bid far above what most people, most professional analysts would consider their fair market value.

0:07:10.8 Scott Oeth: So, speculation or the trading can happen in many areas, and I just think it really... To reiterate, it's a great time to analyze your position, reconfirm your strategy, and decide is this a game you want to play? It's like there's a playing field, the financial markets, a lot of people playing many different games using different strategies. You don't have to take part in all of those to be successful. And it's a great time to seek professional advice, get your own guidance, really do your own deep research, and take a deep breath, try not to get caught up in the panic and decide what you really wanna be doing with your serious money.

0:07:49.9 CJ: If someone is really interested in day trading or trying to win by playing the market, what do you recommend, besides the research and advice that you just talked about?

0:08:04.8 Scott Oeth: That's a great question. If you're really intrigued by this and you want to take part, I think, two things. First of all, self-examination. CJ, we're talking, almost a year ago, a lot about fear in the markets and panic as markets were crashing last spring. And that's very clear, people are fearful of losing their dollars. Now, we're facing a different type of fear, and that is the fear of missing out, or “FOMO,” as my teenage girls would say. And there are old sayings, many funny ones, like no one likes seeing someone else get rich quickly, especially one of their friends. And there is a powerful draw on the upside and that fear of missing out, seeing other people making money or at least appearing to, because these are very headline-catching when someone does well on the upside. But we know, we can look historically.

0:09:00.8 Scott Oeth: There are so many memories here of the late '90s, when I was getting it going with the business and the day traders and tech stocks then. But there was... Congressional studies examine that, and very few people actually made money. The type of trading and speculation is not a proven long-term strategy. It might work for a few people; it doesn't work for many people. First, just acknowledging the natural impulses and what's probably brewing inside of you and that urge to participate in this, I think, is important. And if you decide that, hey, you really wanna do it, I think... What I recommend to clients, if they wanna participate or they do want to put money into something that might be riskier just in general, or it's a concentrated stock position, maybe a company that they own, is insulate that position from the serious money in your portfolio. Do the financial planning exercises, try and take a look at how much money do you really need to fund your future goals. And those dollars should be in a high probability, no-nonsense, maybe a bit boring, prudent portfolio. One that, if you do the right thing, you stick with it, it'll perform over time and get you to accomplish your goals.

0:10:16.4 Scott Oeth: If you have excess, maybe even set up a separate account to insulate those dollars, the risk dollars or the speculative dollars, your risk budget. Maybe you assign a certain dollar amount, maybe it's a certain percentage of your portfolio. But like I say, to really help firewall things, I prefer people to set up a separate account, and maybe that's their trading account. And then it's known, like, "Okay, some people enjoy going to Wall Street or... Freudian slip there, going to Vegas and gambling. I think if they're smart, they give themselves a budget. They put a certain amount of cash in their wallet, they say, "This is it. We're not getting into the credit cards, we're not writing checks, we're not drawing on other funds. This is our budget. And if we do well, fantastic, it was a fun ride." But at least if things go south, you've insulated that from the serious money.

0:11:06.0 CJ: Very good advice. We're talking with Scott Oeth. We'll be talking finances with Scott on the first Wednesday of the month on North Shore Morning. Anything else you'd like to add, Scott?

0:11:17.8 Scott Oeth: I really enjoyed the conversation, and just to encourage people again to... I think it is a good time. There has been a lot going in the markets to get a portfolio analysis, consider talking to a professional, take a serious look at your serious money, and check your exposure on these types of things.

0:11:38.9 CJ: All right. Well, thanks so much for talking with us today.

0:11:41.9 Scott Oeth: Thanks, CJ.

0:11:42.5 CJ: All right. Bye-bye, Scott.

0:11:43.6 Scott Oeth: Bye.