Markets have become a minefield

When I was at university, a depressingly long time ago, students had different ways of marking the end of exams season. 

Most of us did the sensible thing and drank tequila in the garden, but a certain group engaged in a game that involved soaking each other with water pistols or balloons full of water. The aim seemed to be to drench other players and emerge as the only one left.

This meant that players were never safe. They could be going about their business, buying food or heading to the computer room to send newfangled “emails” and could be assailed at any moment.

Something similar is now running through markets. With alarming frequency, and little to no warning, individual stocks are getting soaked.

In markets, the game, for want of a better word, started in earnest in April with Netflix, which tanked by close to 40 per cent in a day after it said it had misjudged the trajectory of subscriber numbers. The most recent dousing victim was Snap, owner of social media platform Snapchat, which dropped by a similar amount this week after it blamed everything from inflation to the war in Ukraine for a tougher earnings environment. The previous week, it was retailer Target getting soggy.

Just in the Nasdaq 100 index, which does not capture Snap or Target, seven stocks have plunged 20 per cent or more in a single day so far this year, almost as many as in the whole of pandemic-struck 2020. Others this year have included PayPal and Meta (Facebook to you and me).

To put it mildly, this is quite weird. Outside full-blown crises such as in 2020, 2008 or 2002 after the dotcom bubble popped, it is highly unusual to see such a pronounced series of huge lurches lower. This tells you investors are in an extremely unforgiving mood.

Of course, the broad market environment is grim. The benchmark S&P 500 is down 15 per cent on the year so far and is hovering on the edge of crossing the arbitrary threshold of 20 per cent below its latest peak that would mark a recognised bear market. The Nasdaq Composite is down a quarter in 2022 and double-digit losses on exchanges across Europe and Asia are common as investors adjust to red-hot inflation and the rapid withdrawal of central bank support (bucking the trend: the UK! The FTSE 100 is up this year, thanks to its preponderance of lumbering commodities companies that fund managers have warmed to while more exciting modern stocks take a beating).

It makes instinctive sense that the riskier stocks with high valuations pinned on the prospect of strong future earnings, largely in tech, are taking the most heat in this downbeat market regime.

Not everyone has jumped out, of course. VandaTrack, which monitors retail trading flows, notes that small investors are continuing to buy. But Salman Baig, multi-asset investment manager at Unigestion in Geneva, points out that other usual tech enthusiasts are now shying away. 

“The thing is, why do markets move? What makes them fall?” Baig says. “It’s not just more sellers. They can fall just because there’s not so many buyers any more.” That gives sellers more clout. Meanwhile, liquidity — the ease with which trades get done without budging prices around — is flaky, exacerbating the moves.

Right now, this is a series of one-offs. But that should not necessarily be reassuring. “These are all idiosyncratic shocks, but these things always look like that. 2008 is the other example. They always look like a few individual names and . . . then it snowballs,” Baig said. “The market right now is not exactly fragile but it’s sensitive. The market is not very liquid. You have rising rates. There’s a war going on in Europe. This is not a good environment. It’s easy for these little idiosyncratic stresses to compound.”

One way for them to compound is that funds sometimes take a hit in one speculative asset and have to scramble to unload other, safer assets from other parts of the portfolio to meet redemption calls. April LaRusse, head of investment specialists at Insight Investment, said that this was one of the many things that went wrong in the Covid-19 shock two years ago. “It was anything you could sell. It was impossible to trade well in that environment,” she added.

The optimistic take on all this is that it opens up new potential trading opportunities. As ever, the retail trading community is on the case. Breakout Point, which monitors negative, or short, bets, notes that the WallStreetBets community on Reddit, famed for its frequent assaults on meme stocks, is on high alert for chances to use put options — bets on falling prices — to make money out of huge drops in stocks.

“Among retail investors almost every upcoming prominent earning result is nowadays considered as a great put opportunity and appetite is indeed for 25 per cent-ish drops,” said Ivan Ćosović at Breakout.

But the problem with these abrupt drenchings for a certain narrow band of stocks is that innocent bystanders who never signed up for the game often get soaked in the process too.

katie.martin@ft.com