Seasoned traders were surprised by the rise of several companies labeled as “meme stocks” as of late, as their stock value reached unexpected levels. That came on the back of no change in fundamentals, meaning prices were propped up by speculative flows.
However, after an impressive 2020, during which all risk assets went up, things have changed right now and meme stocks are trading well below their all-time highs. Exuberance is no longer dominating the market, and there are a few important factors behind this phenomenon.
Euphoria peaked in 2021
The last few months of 2021 saw meme stock euphoria peaking, as traders rushed to get out of companies such as Gamestop, AMC, or Bed Bath & Beyond. All-time prices were not sustainable unless the underlying businesses managed to outperform expectations, which has never been the case.
Meme stocks slowly got back to more normal levels and activity in such companies remains subdued even right now, after months during which selling has been feeding on itself. The surge was fueled by low interest rates, higher options trading volumes, and the hype created on online trading groups such as Wall Street Bets, all with the goal of persuading more people into buying these stocks.
Like every bubble, this one burst as well, and now the question remains whether a new bullish wave might unwind in the future. Although each time the broader stock markets are rebounding, meme stocks activity is picking up as well, valuations are not showing the same volatile performance.
Fiscal and monetary excesses reversed
When interest rates are low, financing stock purchases with easy money props up prices. Also, governments create excess liquidity during a recession, and some of it goes into speculative instruments.
Anyone can open a trading account with brokers like Easymarkets and trade from home, but the appetite for stocks drops when the fiscal and monetary impulse is fading. That’s the case right now, given central banks are hiking rates and governments need to become fiscally disciplined.
Expecting meme stocks to rise like they did a year ago is not realistic in this environment. A new wave of stimulus can only come after inflation is on a downward path and there is an economic contraction that governments need to counteract.
Change in risk sentiment
Reading the market sentiment is something traders need to do constantly, and right now there is little appetite for meme stocks. The approach shifted meaningfully, mainly because when interest rates are high, only companies that manage to generate cash flow can outperform.
Meme stocks don’t fall into that category, which is why their stock price fails to deliver positive returns. In fact, companies like AMC were struggling financially and had to increase the number of outstanding shares in order to finance their activity.
That is not a way to incentive investors, but rather a recipe to scare them away. The meme stock era is now on hold and there are no reasons to believe it might come back anytime soon.
