Whether you are a new investor or someone who has been through many market cycles, the stock market always has new strengths up its sleeve.
Last year we saw the fastest bear market drop of at least 30% in history, as well as the most robust rebound to new highs on record. West Texas Intermediate crude oil futures also plunged into negative territory. It was a historic year in many ways.
But 2021 was not without its premieres. The retail investor frenzy fueled by Reddit has been responsible for the heightened volatility of heavily shorted companies and dozens of penny stocks. With the idea of ”hitting the jackpot,” retail investors on Reddit’s WallStreetBets community chat room have effectively banded together to buy stocks and out-of-the-money call options on heavily companies. sold short and penny stocks. In some cases, they have made historic gains over a very short period of time.
Unfortunately, history has often proved hostile to gatherings of emotionally motivated monsters. Right now, there are five ultra-popular actions associated with the Reddit frenzy that could ultimately cost investors most, if not all, of their money.
Movie channel AMC Entertainment (NYSE: AMC) is one of the stocks most held by young investors. It was a particularly popular game at the end of January, with its combination of high short interests and penny stock status sending its stock price into the stratosphere. It has also benefited in recent weeks as a potential game to reopen the coronavirus.
However, betting on the rise in AMC is dangerous for two main reasons. First, it is not certain that AMC even has enough capital to hold out until 2021. Although it was able to raise $ 917 million in mid-January thanks to a combination of the sale of nearly 165 million shares and the supply of debt, this money is unlikely to last all year. with some of its theaters still closed and most with reduced capacity.
The second problem for AMC Entertainment is that streaming content providers are taking over new movie releases. AT&T the subsidiary WarnerMedia launches its new films in 2021 on HBO Max the same day they are released in theaters. Walt disney does something similar with its Disney + service for a handful of movies. The point is, AMC’s operating model is changing, and not for the better. Bankruptcy remains a possible outcome for AMC Entertainment.
Producers of sundials
There is no doubt that marijuana stocks could offer incredible returns over the next decade. But in a sea of incredible choices, young investors clung to one of the worst in the bunch: the licensed Canadian producer. Producers of sundials (NASDAQ: SNDL).
Like AMC, Sundial has rallied to its combination of high short interests and penny stock prices. Investors also seem to like the more than $ 600 million in cash the company has raised. The problem is, Sundial’s fundraising activities are the result of multiple share offerings, market share issues and debt-for-equity swaps. In my more than two decades of investing, I can only recall one or two instances where I saw a business issue more than a billion shares in five months. With approximately 1.66 billion shares outstanding, Sundial has virtually no chance of producing significant earnings per share.
Another problem with Sundial is that it has been chosen to shift its operating focus to the exact moment when most North American pot stocks are becoming profitable. By shifting its focus from wholesale to retail cannabis, Sundial will address a higher margin component of the cannabis market. But in the meantime, it faces ugly year-to-year comparisons and suffers a slew of write-downs. Between its projected low sales growth, continued losses, and relentless dilution, I wouldn’t be shocked if Sundial’s stock lost 70% or more of its value.
Another ultra-popular action among millennial and novice investors that could ultimately turn out to be a dud is cryptocurrency mining business Riot blockchain (NASDAQ: RIOT). Riot has benefited from soaring prices of Bitcoin (CRYPTO: BTC) and its previous penny stock share price.
Cryptocurrency miners like Riot use powerful computers to solve complex mathematical equations that validate groups of transactions (called blocks) on the Bitcoin blockchain. For each validated block, Riot receives a block reward, which is currently equivalent to 6.25 Bitcoin (worth approximately $ 350,000). The concern is that the barrier to entry into crypto mining is virtually non-existent, which means that competition from Riot keeps growing. It also doesn’t help that Bitcoin’s block rewards are halved every two years. This prepares the business to slow its profits over time.
Even more worrying is the inherent volatility of Bitcoin. Since Crypto mining companies lack innovation, they depend on a higher price for Bitcoin to generate significant profit. However, the world’s largest digital currency has shrunk 80% three times over the past decade. It is not clear that Riot Blockchain can withstand such a move, especially with the crypto mining space increasingly crowded by the day.
Koss (NASDAQ: KOSS), a maker of headphones, bluetooth speakers and headsets, is another headline that will make rational investors scratch their heads. He may not be as well-known as AMC Entertainment, but his stock price has exploded from $ 2 to $ 174 (in pre-release) in a matter of weeks, all thanks to the Reddit frenzy.
What is worrying about Koss is that its business model is based on very commoditized products. The company operates in a very crowded space and its supply chain is sensitive to disruption and margin / price pressures. It has not been profitable in three of the last four years (2017, 2018 and 2020) and has only been marginally profitable in 2019.
Additionally, at no point in the past decade before the end of 2020 had Koss been valued outside a range of 0.5 to 1.1 times sales. It is currently valued at nearly 12 to 13 times sales in 2021.
Finally, $ 506,700 of the $ 635,819 that Koss generated in net income in the first six months of 2021 is the result of a canceled Payment Protection Program loan that was recorded as income. Take that out of the equation, and Koss is on track for just pennies a share in net income this year. In other words, it wouldn’t be surprising if Koss ultimately lost almost 90% of his winnings.
Finally, a list of Reddit rally actions that could end up costing you a fortune isn’t complete without a video game and accessories retailer. GameStop (NYSE: GME). GameStop shares have risen over 1,300% since the start of the year, but have been on a wilder roller coaster ride than all other Reddit actions.
To grab the straws, GameStop managed to increase its 2020 holiday season e-commerce sales by 309%, leading to some impressive quarterly sales comparisons. However, total sales fell another 3.1%, as the number of the company’s base stores fell 11% from the previous year.
The main problem here is that GameStop has always been a retailer of physical games. He waited far too long to start getting into the digital game and is now trying to catch up. A good comparison to GameStop’s late entry into digital gaming is IBMthe late entry into cloud computing. Show a 10-year chart of what happened to IBM, and you’ll probably be a lot less excited about GameStop’s chances of a turnaround.
The company closing stores in an attempt to cut costs (i.e. return to profitability), but still on track for another loss-making year in 2021, I suspect its shares could drop by. 80 to 90% over the next year.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are motley! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.