Frenzied retail trading in the US has caught the attention of central bankers elsewhere in the world.
Andrew Bailey, governor of the Bank of England, has told journalists he is “carefully” monitoring recent developments in US equity markets, noting possible implications for smooth market functioning and risks for investors.
“It’s obviously an interesting question, which we’ve been watching carefully,” Bailey said when asked about the recent surge in amateur investors entering the stock market.
Amateur investors caught the world’s attention over the last fortnight after a band of traders on Reddit organised a “short squeeze” on hedge funds betting against companies like GameStop (GME) and AMC (AMC). Amateur investors pushed the stock price of these companies up by as much as 300% and forced hedge funds to swallow billions in losses.
The short squeeze was coordinated on the Reddit forum r/WallStreetBets. Membership has ballooned to 8.5 million over the last fortnight, suggesting the power and influence of retail investors is unlikely to diminish soon.
Many amateur investors trade on margin, meaning they borrow money from brokerages to purchase stocks. Bailey said this raised issues around the amount of risk people were taking on.
“It appears that there is very high leverage among many retail investors in the US and maybe around other parts of the world as well,” Bailey said. “Obviously that is very high risk and that puts investors at very high risk of losing their money, frankly.”
GameStop and AMC’s share prices have both fallen to earth in recent days, leaving many amateur traders likely sitting on losses.
The governor also raised concerns about margin requirements for brokerages. Brokerages route orders through clearing houses, which require the brokers to put up a certain amount of money to cover any movements in the market while trades settle.
Last week Robinhood, one of the most popular retail trading platforms in the US, was forced to suspend trading in GameStop and AMC due to liquidity concerns. The company ultimately raised $3.4bn (£2.50bn) from investors in a matter of days, more than it had raised in its entire eight year history prior.
“One of the things that we do have to watch is this whole question about margin calls on retail brokerage platforms,” Bailey said. “Clearing houses have to make margin calls, that’s entirely the right thing to do. But the retail brokerage platforms have to be ready for those and have to stress test their own position.
“Obviously the substantial price volatility and the very high level of volume has caused those margin calls to happen and, as has been well documented, has caused retail brokerages to raise money themselves at short notice. That obviously has the potential to disrupt what I might call the retail infrastructure.”
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The last year has seen a boom in retail investment around the world, with large number of amateurs putting money into the stock market. Recent research in Britain estimated 400,000 new investors entered the market in 2020, injecting £20bn ($27bn) into the stock market.
A similar pattern has been seen in the US and unusual price moves, such as a surge in the stock of bankrupt car rental company Hertz last year, have been attributed to this influx of inexperienced money.
“It is very striking if you look at a chart of trading volumes in US equities over recent years how much they’ve gone up in the last year and actually how much they’ve gone up since the start of the pandemic,” Bailey said during a press conference on Thursday. “I’m not implying causality there, but it is an interesting correlation.”
Bailey said hedge funds had left themselves “vulnerability to short squeezing” due to concentrating their cash in certain positions.
“It is interesting that this activity has come with the change in people’s living regimes, as it were,” he said. “But it’s also come in a period of what appears to have been more concentrated hedge fund positioning.
“There’s a huge amount no doubt we’re going to learn about this in time to come.”
Separately on Thursday, Steven Maijoor, chair of the European Securities and Markets Authority, said his agency was also watching developments.
“We are closely monitoring these new developments and assessing whether any further supervisory actions are needed," he told an Afore Consulting webinar according to Reuters.
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