Is the Reddit army trade unstoppable?

  • AMC is the latest “meme” stock
  • The stock is up due to coordinated short squeeze
  • The pump and dump games will continue

AMC is the latest “meme” stock

With AMC up nearly 40% in pre market trade today investors are seeing yet another meme stock explode to the upside despite absence of any fundamental reason behind the move.
The movie business which was already in steep secular decline due to competition from the home entertainment options was dealt a near death blow by the COVID pandemic which for all intents and purposes shut down the industry completely for nearly a year.

With the majority of the country now vaccinated and with most of the US populace ready to return to normalcy the movie business has had a modest rebound with Memorial Day box office showing tepid signs of life as “The Quiet Place 2” brought in $48 million – a respectable but still tiny amount in comparison of years past. 

All of this suggests that the movie business may survive but only as a ghost of its former self with US ticket sales likely to contract to less than 50% of prior years. Movies, like radio, will remain a minor form of entertainment although some niche segments such as “luxe” theaters with full gourmet meals and drinks could carve out a sustainable business.

The quasi-fundamental case for AMC is that IF the box office revenue returns to 2018 levels and IF AMC is able to recapture more than 50% of all receipts and IF it can sell another $3 Billion of concessions on top of the ticket sales its free cash flow yield may rise to 4% of the current market market capitalization. But that is a very tortured explanation for why the stock is up more than 1600% this year.

The stock is up due to coordinated short squeeze

The actual reason why AMC is up is simply because of coordinated buying by the thousands of Reddit traders who are engineering yet another short squeeze just as they did with GameStop. In the case of GameStop a huge amount of buying power came from the coffers of Melvin Capital which was forced to cover its position at losses that some estimate in excess of $3 Billion. It was in effect a transfer of wealth from the hedge fund to the army of Reddit traders.

In the case of AMC the short squeeze dynamics are operating as well but in a slightly different form. There are no clear major shorts in the stock, rather the buying fury may be coming from options dealers who are forced to constantly delta hedge their positions. One of the ways that Reddit traders amplify their power is by buying call options rather than the underlying stock which in some cases may give them the ability to control up to 100X more stock than they would with an outright buy of the underlying. Typically, buying options is a sucker bet as more than 80% of them expire worthless. But if the buying is coordinated option prices will rise relentlessly. Option dealers who essentially act as bookies in the market and generally try to avoid directional risk at all costs are then forced to buy the underlying stock in order to keep their books in balance fueling the rise in the stock.

Since stock can only fall by 100% but can rise infinitely, the short squeeze becomes a near endless strategy to print money, limited only by the amount of capital thrown at the stock. As long as Reddit can recruit new traders or convince existing ones to keep adding to the position the stock continues to trade higher and higher. 

The pump and dump games will continue

The Reddit trade is a pure market manipulation trade done in broad daylight, but because the coordination is done through persuasion rather than overt agreement regulators have no way to control it. This is why the Reddit Army trade has become unstoppable. As long as retail traders continue to buyi droves and continue to amplify the trade via options any small capitalization stock can be pumped and dumped with impunity.
Ultimately this behavior will create serious destabilization in the market. An ultimately some hedge funds, HFT trades and option dealers will figure out a way to completely incinerate retail capital, but for now the never ending short squeeze trade rolls on looking for the next easy mark. 

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