Increase in Retail Investor Participation in The Stock Market – Cause For Concern?

By Dima Kulakov

Fundstrat founder, Tom Lee (who correctly called the bottom of the equity market in March, before most other strategists), is not concerned about the increase in retail investors putting money into the U.S. stock market.

In an interview, Lee stated that “the previous decade has been characterized by large inflows in bonds despite the bull market in stocks.”

“Now we start to see retail investors getting interested in equities in 2020, and just because they’re just starting to buy stocks, I don’t know why we should say, ‘This is the top,’” Lee said. “This could be the first year out of ten years where there’s real inflows [into stocks].”

Lee’s words come after a number of weeks of, frankly, crazy trading activity on Wall Street, most notably in stocks like GameStop, that have been “favoured by amateur traders who have congregated on sites like Reddit.” The video-game retailer was entangled in a short squeeze and saw its stock rise 1,625% in January.

This GameStop craze has mostly calmed, as the stock is now trading at below $50, after a high of $483, in January. Redditors have shifted their attention elsewhere, including a cohort of cannabis stocks.

“Enthusiasm around special purpose acquisition companies also has persisted in 2021 after a proliferation of the blank-check firms last year.”

Lee “acknowledged there are parts of the market getting a little overheated.” However, he reasoned that it’s not enough for him to “take a bearish stance more broadly.”

“If there was 30% of the stock market in insane territory and they were gaping up 10% a day, then that’s pretty scary. But the aggregate market cap of everything that looks frothy is a tiny, tiny percentage of the stock market.”

Lee claims that investors will be able to generate “solid returns” this year in “epicentre stocks” (companies that have been negatively impacted by the coronavirus pandemic, like airlines and travel firms, as they would “benefit from widespread vaccinations and an economic recovery”).

Lee said he sees further upside in epicentre stocks, even though they are above their all-time lows, especially for “companies that reduced their cost structure,” creating an opportunity for “true operating leverage” to “boost bottom-line earnings as top-line revenues recover.”

“I think in a way people are overly bearish because they’re like, ‘Stocks, wherever they traded in 2019, is where I’m going to fade them,’” Lee said.

“But if these companies have cut their costs and now we have pent-up demand and a GDP recovery and then lower cost of capital, they should be blowing through their prior highs…I think that’s the opportunity because many are still 50% to 75% below their all-time highs.”