Stonks investing stinks ?

Gaurav Rastogi

4 years ago

Table of Contents

People who don’t have time to learn always find time to make the same mistakes over and over.

They go fast but they never get anywhere.

: Shane Parish

Yeah, the subject got out of hand a little bit. But just like the rocket emoji ??? can justify any bullish stock thesis on the web, I hope the ? emoji can salvage any subject line!

Down to business then.

The revolution will not be televised, they said. But who would have thought that it would start on subreddits with anonymous handles sticking it to wall street?

Whether you believed in the mission of the little man finally getting their comeuppance or you got on the bandwagon for a little bit of harmless fun, $GME took the world by storm in the last week of January. We, however, are going to look at the $GME saga from a different lens, a lens that we have spoken about many times before – the lens of behaviour gap and how it leads to lower returns.

If you are hearing the term for the first time, then the behaviour gap is the difference between the return a security would earn in a fixed period, and the return an investor, in reality, earns from trading that very security. This is caused by the inability of the investor to time the market. Simply put, investors buy after good returns and sell after bad returns. So even though the underlying security has good returns, investors miss out and have sub-optimal returns compared to a simple buy and hold strategy.

If the chart below looks familiar, then you know what we are talking about.

Of course, everyone believes that they can avoid the behaviour gap. But mostly they remember and talk about only their winning trades!

Let’s see how the above chart looks for $GME investments through Kuvera – to remind for one week in January, $GME was the third most watchlisted stock on Kuvera and had the highest trading volume of all US stocks.

Let’s spend some time on the chart above. The green dotted line is the intra-day high for GME on that particular day. The blue bars mean that investors net bought GME on Kuvera while the orange bars means that investors net sold GME on Kuvera. The length of the bars is normalized to the highest inflow day to make them easy to compare.

What do you notice immediately? As prices rise, the inflows go up with the intraday high and net inflow peaking on the same day i.e 27th Jan. The buying continues for someday, but once GME crashes below $150, 50% of the held stocks got sold. The net outflow on 2nd Feb was 50% of the net inflow on 27th Jan – after the intraday high had fallen over 70%.

In my investing career of over a decade, I have not seen such an egregious and clear example of a behaviour gap before. It also makes us wonder about this: brokerages clearly should have had this kind of data. Why are we then the first ones to publish this to educate retail investors?

By our estimate, 2 out of 3 retails accounts have closed their GME position with a loss and 3 out of 4 retail accounts still holding GME are in a loss. The average capital lost is ~50% of the invested amount… ouch!!!

Research has shown that the more volatile a security or an asset class, the more money is lost due to the behaviour gap. How does an investor then avoid this? We have written in details about the behaviour gap with tips on how to avoid it here, but here is a quick and handy list –

1/ Don’t overtrade. As the saying goes, “I helped put two children through Harvard—my broker’s children.” Most brokers will nudge you to churn as that’s how they make money.

2/ Don’t chase performance.

3/ Discuss with 2 – 3 non-vested people before you invest. Friends will agree easily, so they don’t qualify.

4/ Do not check your portfolio daily. It will lead to over-trading. New trading apps are designed like that.

5/ Whenever you feel itchy for action invest a small amount. This is my favourite. I invest Rs 100 in an index fund. Satisfies my urge for action and doesn’t make any difference to my long term goals.

6/ You Only Live Once is false urgency It can be used to justify both doing or not doing something. For example “YOLO, buy $GME.” or “YOLO, why bother with $GME” – both sound compelling and are equally bogus!

Happy investing,
Gaurav
CEO | kuvera.in | @rustapharian

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