A New Approach to Mitigating Meme Stock Risk

Stock markets are interesting on a normal day, but now we have the excitement of seeing professional investors go head-to-head with retail traders who have learned how to profit from the stock market through social media. We’re fast approaching the one-year milestone where “meme stocks” captured the world’s attention.

Meme stocks refer to a select a few stocks that are gaining popularity on the internet and leading to exorbitant prices and unusually high trading volume, GameStop and several other stocks saw a massive increase in share price in January 2021 as retail investors poured money into buying the same stocks. Some retail brokers have responded by temporarily banning certain activities in these stocks and options. The media suggested that the activity was directly related to short-selling interest and that the price suppression was an act of rebellion aimed at thwarting professional short-selling investors who may have sold the stock short.

The real reason for the sudden rise in the stock price is under debate. The Securities and Exchange Commission (SEC) released a long-awaited report report reviewing January 2021 business activity in GameStop, which many hoped would provide clarity. However, to many people’s surprise, the SEC found no wrongdoing by the companies. Instead, he found that the rise in share prices was due to a number of factors, including individual investors sharing information on social media platforms. This is despite the fact that this well-established, but fairly average, consumer electronics retailer has been subject to a stock price move in about 10 days that went from $20 per share to a high of $500 with no underlying fundamentals to drive that change.

Does this give the impression that the SEC has remained true to its three-pronged mission to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation?

Since this new way of trading is not going away anytime soon, it is important that we find ways to help mitigate risk in the future. In this article, I suggest that a three-pronged approach could help compliance teams begin monitoring new risks caused by market manipulation in social trading.

The gamification of investing

Robinhood was a pioneer of “free trade”, allowing users to trade stocks without commissions and without minimum account. This, coupled with Robinhood’s fun and easy-to-use interface, has helped spark interest from a new class of traders, raising concerns about the ‘gamification’ of investing. Some argue that Robinhood and other platforms have turned investing into an online social activity, making it too easy and too much fun to bet money on more complicated stocks and investments.

More and more retail brokers are offering trading apps that make it easy to trade from anywhere. Some have “social communication” features that allow customers to interact and discuss actions and transactions and display their transactions to others. A number of features, which broadly resemble the investor playing a video game, seem designed to engage people who typically wouldn’t otherwise be interested. Many brokers have reduced or eliminated trading commissions and reduced or eliminated minimum bets or investments on accounts.

Social Media Influencers

From the surge in GameStop stock to the Robinhood hack, the risks facing social trading platforms change quickly and can make the market more volatile. It seems that this new way of trading is here to stay, as Loyalty survey found that, of all generations, more than 40% of Gen Z respondents were the most likely to say they turn to social media influencers for investing information.

The same survey also looked at the impact of meme stocks, which are gaining popularity online and through social media. He found that market volatility and media attention around meme stocks have piqued young adults’ interest in the world of investing.

From message boards to social media

Regulators have, for years, struggled with bulletin boards where individuals recommend stock picks where they can encourage other investors to follow suit and help drive the price up and then benefit from the price movement. . The main challenge here is that everyone is entitled to a point of view and a bulletin board can be a way to express that.

Putting social media into this equation is like putting message boards on steroids because the reach, global audience and potential impact can be huge. That’s what happened with GameStop. This, combined with the fact that many social media followers may be millennials, some of whom may not be familiar with stock trading or investing, but feel like they want to gain an advantage over banks. , exponentially increases worry.

Regulators and accountability

Regulators have been reviled for taking almost no action around GameStop. Let’s keep in mind that politicians who essentially oversee regulators hate to see the general public losing money. It should also be noted that many of the major regulators have announced a much more specific retail consumer/investor protection program (moving somewhat away from the wholesale market focus). Despite all the headlines and furor, a large majority of these retail consumers didn’t take advantage and actually lost money.

Another regulatory focus on social trading apps seems likely. Could regulators themselves be looking at social media to see if there is an abnormal amount of chatter around a particular stock or ticker? Could exchanges do the same and then associate this when an abnormal price movement is noted?

That’s a big ask – it basically means monitoring all social media feeds around the world. Alternatively, if this requirement is imposed on certain regulated participants, such as stock exchanges and trading platforms, it would be fair to expect that other participants such as banks and brokers would be required to undertake some monitoring the activity they observe through their respective channels.

A three-pronged approach to monitoring

Based on my experience in the regulatory industry, I believe a three-pronged approach is a viable option to help compliance teams begin monitoring new risks caused by social marketing manipulation.

The first part of this approach is the monitoring of social trading flows. This means monitoring a single feed that investors can interact with as part of their trading strategy. Although it may not be relevant for all, some of the social trading platforms encourage the use of their built-in communication stream to share ideas and express opinions, and this may become the primary reason for trading for some investors.

The second part is the monitoring of internal employee communications. This means taking the current monitoring processes used on merchants to the next level. With growing interest from regulators, there is likely already increased interest from brokers and platforms to monitor their traders and employees. It may be necessary to improve the standard lexicons concerning the risk of collusion with other participants or the suspicion of abusive compression, etc.

The last part, which I think can generate the most interest, is monitoring employees’ social media accounts. The goal here is to target broader social media and retail investor risk. While social media and digital opportunities present increasing risks for investors and businesses, they also offer exciting new avenues for investors. For my part, I am excited to see the next generation of investors forging new paths to success.

By identifying and reporting suspicions through monitoring, which is already part of the compliance requirements of regulated companies, an early warning system can be established for all relevant stakeholders, retail investors, social trading, wholesale brokers, exchanges and regulators. A platform that alerts affected parties earlier, enables compliance teams and regulators to assess risk and take action to support these principles of protecting investors, maintaining fair, orderly and efficient markets and facilitation of capital formation.

About the Author: Robert Mason has extensive regulatory industry experience and has served in several compliance oversight roles. He is currently Head of Global Regulatory at Relativity. Mason previously worked as a senior risk manager at Lloyds Bank Group and before that at UBS in London.

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