As the effect of social media sentiment on the stock market grows, the ‘meme stock’ has flourished. We look at what makes a meme stock.
2020 was an interesting year, to say the least. We saw record highs, the outbreak of a pandemic, the world’s economy getting rocked, and an election like no other. 2021 doesn’t seem interested in normalizing though, because after the world’s most valuable company, Apple, posted record revenue and a blowout quarter last week, two previously beleaguered stocks — AMC (NYSE: AMC), and GameStop (NYSE: GME) — dominate the headlines. They, as well as many others, have been growing at breakneck speeds and gaining themselves the moniker of ‘meme stocks’ following the ongoing short squeeze.
What is a meme stock?
Whether you pronounce it ‘meem’, ‘mehm’ or, god forbid, ‘me-me’, as social media has grown in importance in modern life, the ubiquitousness of memes has grown with it. So much so, it has even pervaded the stock market. Meme stocks have become a buzzword in certain investing circles over recent years and the accompanying hype has resulted in significant shifts in valuations.
Just look at the power that Reddit and Twitter have had over the market in recent days.
A meme stock isn’t as easily defined as a growth or value stock, so to give it a definitive categorization would be inappropriate. Nor would actually categorizing it alongside growth and value stocks. They won’t be found in textbooks anytime soon, but to overlook their impact could potentially be an expensive oversight.
Some of the common characteristics meme stocks share are they’re usually overpriced and experience spikes of rapid growth in short spaces of time. Popular amongst millennials, they are prone to high volatility with valuations based around potential rather than financials — or in GameStop’s case, not potential at all but simply taking advantage of the system. Usually, the sentiment around the stock is positioned around the future problem it solves, with talk of valuations very low down the list and usually only proposed by bears. FOMO is a big motivator to buy, while panic-selling at the slightest headwind is common, adding to the stock’s volatility.
A peek at marijuana companies like Tilray’s and Canopy Growth’s long-term charts show a timeline of such stocks which are governed by hype rather than logic.
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How did they start?
There are two main contributing factors that have led to the birth of the meme stock: commission-free trading and online investing communities. Initiated by companies like Robinhood, before being undertaken by some of the more established names like Charles Schwab and TD Ameritrade, commission-free trading has opened up the stock market to the wider public and facilitiated trading at any level.
Online investing communities found on social media sites Reddit and Stocktwits are also a big factor in the birth of the meme stock. Stocktwits, a social media site much like a version of Twitter dedicated solely to stocks, has millions of members, while subreddits r/stocks and r/investing boast are growing daily. These numbers, along with the 6.3 million self-proclaimed degenerates which make up the now-infamous ‘r/wallstreetbets’ subreddit, hold some significant clout in molding market sentiment. “$GME calls to the moon” is the current call-to-arms pervading the online community.
Should you buy meme stocks?
The truth is that not all meme stocks are to be treated as pariahs. Just because hype surrounds certain companies doesn’t mean their operations are affected. Whether it is in a future-relevant industry, has a visionary CEO, or is at the forefront of a megatrend that is about to sweep the globe, there is a reason that these companies get so much attention. What is affected, however, is its stock price. Anyone buying into these stocks is going to have to pay a premium, and they must be prepared for a lot more volatility. The trick is being able to identify the difference between deserved hype and hot air.