The retailization of markets and how to deal with it
Photo by Silas Baisch on Unsplash
The world of the traditional stock-picker manager is being retailized (trademark pending) with breath-taking violence.
And the classical approach to investing – one focused on logical and mathematical fundamentals – is looking increasingly redundant in a market landscape dominated by passive flows and Youtube influencers.
So, what can we do about it?
The lottery of life.
When it comes to playing the lottery, logic certainly doesn’t apply. Or does it? Not everything happens for a reason. Intuition and irrepressible things called emotions play a key role in human decision-making. These are sophisticated, highly attuned faculties that have evolved over thousands of years, and they seem to work pretty well. After all, humankind continues to progress, despite what the newspapers might have us think.
The man who nips into the newsagent to buy a lottery ticket knows the odds are stacked against him. He is almost certain to lose his stake. But almost is an interesting word. It suggests a world of possibilities. We shouldn’t dismiss reason in this context. The asymmetry inherent in purchasing lottery tickets is, after all, attractive. The ticket buyer’s upside is huge (some weeks see rollover jackpots of hundreds of millions of pounds), and downside is negligible (one pound lost is hardly going to break the bank). So although the odds of winning are stacked against the lottery player (a win is almost impossible), it is also impossible to lose in a meaningful way. Buying a lottery ticket isn’t technically a free option, but it might as well be.
Of course, not all gambling functions like this. For many people, the risk profile of gambling is highly unfavourable. For the person who wagers their weekly pay cheque on a football accumulator (the closest thing that the sports betting market has to a structured product), the downside risk obliterates any upside potential.
A fatalistic kind of logic.
People gamble for many reasons, and yes, a fatalistic kind of logic is sometimes one of them. They also gamble for the sheer pleasure of it. Going to casinos is fun! They put on a great spread, but they also attract other like-minded people – people who like to play games. Gambling has a rich history and subculture all of its own, and a pervasive one in our society. Millions of people do it and it shapes the way that sports is watched up and down the country.
But perhaps something deeper is going on. Could it be that gambling has become a kind of secular religion; a cult with no leader, complete with complex rituals and evangelistic zealots? It certainly has a magnetic power that draws people into its orbit, and a reluctance to let them go. And like religious cults, gambling provides its adherents with a heightened sense of reality. By putting your money where you’re mouth is, you can get a kind of “edge”; a form of existential leverage. Putting your hard earned cash on the line creates an intense engagement with the world around you, raising the stakes and imbuing seemingly trivial things like the result of a horse race with a new significance. For many, this is an antidote to chaos, an attempt to wrestle the world into some kind of ordered system, one that is knowable and predictable. We say attempt, because the complexity of our reality is such that no mere human can hope to fully understand it.
Still, people keep coming back. They do it for the thrill, the journey, and yes, sometimes, they do it for a reason. What they all too frequently discount is the impact of other people doing exactly the same thing. As Friedrich Nietzsche observed:
“Insanity in individuals is something rare - but in groups, parties, nations and epochs, it is the rule.”
Individuals tend to behave rationally (or at least, in accordance with self-interest). But the market – composed as it is of multiple individuals and institutions – is seemingly irrational.
On the house.
Investing has long been compared to gambling. Numerous economists and real-world practitioners have observed that the odds of success in active management over the long term are no greater than that of the gambler. The house (almost) always wins. Like the grand casinos of Vegas and Macau, traditional financial services companies have built an infrastructure that is highly effective at stripping punters of cash in their pursuit of gains.
In fact, the crossover between investing and gambling has now become so intense that they might appear to an extra-terrestrial wanderer landing on earth to be one and the same thing. Sport betting companies have adopted the vernacular of brokerages (it’s all about “smarts”), and investment management companies have leveraged the affiliate marketing models beloved of the gambling industry (although thankfully the emphasis is on influencers sharing gains rather than losses). This cuts both ways – investing is being gamified and promoted to a form of immersive entertainment to compete with Netflix and Fortnite; and gambling is being elevated to a science that’s attracting flows out of the traditional investing game. If you want further proof of this, refer to the mesmerising success of Barstool Sports.
The self-image of the stock picker.
The purpose of this thought piece is not to say whether this investing (or gambling, for that matter) are domains governed by luck or skill – we've written about that in some depth. We simply wanted to highlight the fact that investing is reaching a new audience.
Zero-fee trading platforms like Robinhood (and a host of copycats) have made the stock market accessible like never before and created an army of retail investors. This is not an army for one fund manager – however smart – to go to war against. And its inexorable rise is having a profound impact on market structure, liquidity, volatility, and the very self-image of the stock picker.
Do fundamentals even matter anymore? Clearly, they are an important source of information, but as we have previously observed, they are like the details of the story, the content that decides whether a stock is investable or not. But this content needs to exist within a dynamic context.
The structural reformation of the market is accelerating, with passive investing becoming the key driver of price action and rendering traditional approaches to investing obsolete. Active managers are getting hit from both sides – it’s harder to generate returns in markets defined by behavioural factors, and it’s harder to attract assets with the traditional management fee model. And that context is the story of a stock, a market, an economy that modulates the relationship between capital and opportunity.
Hollow tubes.
Making money from the stock market is a multidisciplinary enterprise. You have to be immersed in culture to understand the deep currents that are taking our species in new directions. The retailization of stock markets is one such current – powerful, dangerous and hard to escape.
But like surfers who ride rip currents to find the best waves, investors with the right approach can use the retail effect to their advantage. Instead of fighting our way against the roaring white water, we can ride the hollow tubes all the way onto the beach.