{"id":194508,"date":"2024-05-30T11:15:00","date_gmt":"2024-05-30T15:15:00","guid":{"rendered":"https:\/\/ibkrcampus.eu\/uncategorized\/momentum-trading-vs-greater-fool-theory\/"},"modified":"2024-05-31T09:01:29","modified_gmt":"2024-05-31T09:01:29","slug":"momentum-trading-vs-greater-fool-theory","status":"publish","type":"post","link":"https:\/\/www.interactivebrokers.eu\/campus\/traders-insight\/securities\/stocks\/momentum-trading-vs-greater-fool-theory\/","title":{"rendered":"Momentum Trading vs. Greater Fool Theory"},"content":{"rendered":"\n<p class=\"wp-block-paragraph\">Over the past few weeks we have seen a dramatic increase in the trading of speculative stocks.&nbsp; The recent <a href=\"https:\/\/ibkrcampusdev.wpengine.com\/campus\/traders-insight\/securities\/stocks\/not-with-a-bang-but-a-whimper\/\">meme-stock mini-craze<\/a> got much attention, but the volumes and activity in a wide range of small-cap stocks have seen a marked upsurge as well.&nbsp; Clearly, volume begets volume.&nbsp; We know that many of you are participating because we have seen an upsurge of customer orders in names like <span class=\"stock-ticker\" data-stock-ticker=\"GME\">GME<\/span>, <span class=\"stock-ticker\" data-stock-ticker=\"AMC\">AMC<\/span>, <span class=\"stock-ticker\" data-stock-ticker=\"FFIE\">FFIE<\/span>, and a slew of other idiosyncratic stocks. &nbsp;If so, ask yourself whether you\u2019re relying on momentum trading or the \u201cgreater fool theory\u201d.<\/p>\n\n\n\n<p class=\"wp-block-paragraph\">Momentum trading is a well-respected strategy.\u00a0 In its simplest form, it is highly related to trend following.\u00a0 I\u2019ve called that \u201cNewton\u2019s First Law of Markets\u201d, where a market in motion remains in motion unless acted upon by an outside force.\u00a0 Thus, if a stock is trending higher, it behooves traders to utilize a long bias, and vice versa.\u00a0 That\u2019s hardly foolproof, of course, since those pesky outside forces tend to arise at inopportune times, but the logic is time-tested.\u00a0<\/p>\n\n\n\n<p class=\"wp-block-paragraph\">Those trends often arise for excellent reasons.&nbsp; Think about the <a href=\"https:\/\/ibkrcampusdev.wpengine.com\/campus\/traders-insight\/securities\/stocks\/nvidia-the-markets-atlas\/\">market\u2019s current poster child<\/a>, Nvidia (NVDA).&nbsp; That stock has had a remarkable uptrend lasting well over a year, but there is a fundamental reason for the advance \u2013 NVDA has posted a perhaps unprecedented streak of beating market consensus for revenues and profits, raising its guidance, then beating the raised guidance and raising it once more.&nbsp; At some point expectations will exceed reality, but how and when remain a mystery.&nbsp; In a broad market sense, we see secular trends that relate to the economy and\/or monetary policy that propel them in one direction or another.&nbsp;<\/p>\n\n\n\n<p class=\"wp-block-paragraph\">But there are times when those trends arise for non-obvious reasons and become over-extended quickly and precariously.&nbsp; Exhibit A will be FFIE, Faraday Future Intelligent Electric.&nbsp; They describe themselves as a mobility ecosystem company.&nbsp; Unfortunately, FFIE has been unprofitable since coming public in 2020 and has reverse split its stock 1:3 in March and 1:80 in August.&nbsp; Healthy companies don\u2019t need reverse splits to remain eligible for exchange listings.&nbsp; As a result, we have a one-year chart that looks like this:<\/p>\n\n\n\n<h3 class=\"wp-block-heading\" id=\"h-ffie-1-year-chart-daily-candles-with-reverse-splits-notated\"><strong><em>FFIE, 1-Year Chart, Daily Candles, with Reverse Splits Notated<\/em><\/strong><\/h3>\n\n\n\n<figure class=\"wp-block-image size-large\"><img decoding=\"async\" width=\"1100\" height=\"640\" data-src=\"https:\/\/ibkrcampusdev.wpengine.com\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture2-14-1100x640.png\" alt=\"FFIE, 1-Year Chart, Daily Candles, with Reverse Splits Notated\" class=\"wp-image-194509 lazyload\" data-srcset=\"https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture2-14-1100x640.png 1100w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture2-14-700x407.png 700w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture2-14-300x174.png 300w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture2-14-768x447.png 768w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture2-14-1536x893.png 1536w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture2-14-2048x1191.png 2048w\" data-sizes=\"(max-width: 1100px) 100vw, 1100px\" src=\"data:image\/svg+xml;base64,PHN2ZyB3aWR0aD0iMSIgaGVpZ2h0PSIxIiB4bWxucz0iaHR0cDovL3d3dy53My5vcmcvMjAwMC9zdmciPjwvc3ZnPg==\" style=\"--smush-placeholder-width: 1100px; aspect-ratio: 1100\/640;\" \/><\/figure>\n\n\n\n<p class=\"wp-block-paragraph\"><em>Source: Interactive Brokers<\/em><\/p>\n\n\n\n<p class=\"wp-block-paragraph\">Past performance is not indicative of future results<\/p>\n\n\n\n<p class=\"wp-block-paragraph\">Not a pretty chart, to be sure.&nbsp; For better or worse, this trend was well-defined.&nbsp; But look what happened recently:<\/p>\n\n\n\n<h3 class=\"wp-block-heading\" id=\"h-ffie-20-day-chart-30-minute-candles\"><strong><em>FFIE, 20-Day Chart, 30-Minute Candles<\/em><\/strong><\/h3>\n\n\n\n<figure class=\"wp-block-image size-large\"><img decoding=\"async\" width=\"1100\" height=\"640\" data-src=\"https:\/\/ibkrcampusdev.wpengine.com\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture1-24-1100x640.png\" alt=\"FFIE, 20-Day Chart, 30-Minute Candles\" class=\"wp-image-194510 lazyload\" data-srcset=\"https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture1-24-1100x640.png 1100w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture1-24-700x407.png 700w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture1-24-300x174.png 300w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture1-24-768x447.png 768w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture1-24-1536x893.png 1536w, https:\/\/ibkrcampus.eu\/campus\/wp-content\/uploads\/sites\/3\/2024\/05\/Picture1-24-2048x1191.png 2048w\" data-sizes=\"(max-width: 1100px) 100vw, 1100px\" src=\"data:image\/svg+xml;base64,PHN2ZyB3aWR0aD0iMSIgaGVpZ2h0PSIxIiB4bWxucz0iaHR0cDovL3d3dy53My5vcmcvMjAwMC9zdmciPjwvc3ZnPg==\" style=\"--smush-placeholder-width: 1100px; aspect-ratio: 1100\/640;\" \/><\/figure>\n\n\n\n<p class=\"wp-block-paragraph\"><em>Source: Interactive Brokers<\/em><\/p>\n\n\n\n<p class=\"wp-block-paragraph\">Past performance is not indicative of future results<\/p>\n\n\n\n<p class=\"wp-block-paragraph\">Ummm, that got interesting, no?&nbsp; I\u2019m frankly not sure what caused the stock to lift from its doldrums around 4 cents, but we can see that once it did lift, it began to do so exponentially.&nbsp; We don\u2019t typically see stocks go from under a nickel to nearly $4, then back towards $1 within the course of a week \u2013 all on immense volume.&nbsp;<\/p>\n\n\n\n<p class=\"wp-block-paragraph\">This is where I find it difficult to separate momentum investing from the greater fool theory.&nbsp; Whenever we invest or trade we hope that someone will pay a higher price for our shares in the future than we paid today.&nbsp; But why?&nbsp; If a company is steadily earning money, then there is a solid rationale to expect that it will ultimately be worth more on a per share basis at some point.&nbsp; If the economy is improving and monetary conditions are sufficient, then it is reasonable to expect that the market as a whole will be higher eventually.&nbsp;&nbsp;<\/p>\n\n\n\n<p class=\"wp-block-paragraph\">But if you\u2019re buying shares in a fundamentally questionable enterprise simply because they are rising, especially if that rise is parabolic, then you are simply hoping that someone will get suckered into paying more than you did.\u00a0 It might work, but there is no reason to believe that it will.\u00a0 That is literally the greater fool theory.\u00a0\u00a0 It is not investing.\u00a0 This is not to say that one can\u2019t make money by jumping onto fast moving situations \u2013 some of you undoubtedly did \u2013 but please be realistic about the potential for risk and reward.\u00a0 Someone top-ticked FFIE on May 17<sup>th<\/sup> and lost big.\u00a0 They proved to be the greatest fool that day.\u00a0 Please don\u2019t let that be you!<\/p>\n","protected":false},"excerpt":{"rendered":"<p>The recent meme-stock mini-craze got much attention, but the volumes and activity in a wide range of small-cap stocks have seen a marked upsurge as well.\u00a0 We know that many of you are participating because we have seen an upsurge of customer orders in names like GME, AMC, FFIE, and a slew of other idiosyncratic stocks. \u00a0If so, ask yourself whether you\u2019re relying on momentum trading or the \u201cgreater fool theory\u201d.<\/p>\n","protected":false},"author":4,"featured_media":9875,"comment_status":"open","ping_status":"closed","sticky":true,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":"","jetpack_post_was_ever_published":false},"categories":[145,147,8,12,153,148,7],"tags":[1863,665,1864],"contributors-categories":[149],"class_list":["post-194508","post","type-post","status-publish","format-standard","has-post-thumbnail","category-ibkr-market-insights","category-north-america","category-region","category-securities","category-stocks","category-text-articles","category-traders-insight","tag-greater-fool-theory","tag-meme-stocks","tag-momentum-trading","contributors-categories-interactive-brokers"],"pp_statuses_selecting_workflow":false,"pp_workflow_action":"current","pp_status_selection":"publish","acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO Premium plugin v26.9 (Yoast SEO v27.8) - 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