31 Jan Robin Williams to Robinhood; The Power of a Deleveraged Fund

Hedge funds are known for their sophistication and often leverage their investments; the funds are making big bets that far exceed their net assets. When the bets are good, they can make more on the same investments than they would using only the fund’s capital. But when a leveraged investment is going the wrong way, you’re toast. Therefore, so many hedge funds went belly-up over the years.

In my thirty years trading the markets I learned, as I wrote to you in November, that “change is the only constant”. Like many things in the economy, the markets are constantly changing.

For years, the retail investor was treated as if he were a child or had a small brain. The authorities blocked him from participating in the markets the way the big guys do telling him it is for his own protection.

A retail investor is often knowledgeable and the only reason he is “retail” may be because he is young and has yet to accumulate enough money to be considered an accredited investor.

The leading companies in the last decade are hi tech companies that give an advantage to many young retail investors. Social media platforms, the internet, and the fact that data became accessible to all provided the opportunity to play a game of equals between small and professional investors. The Robinhood platform, known for its zero-commission business model cracked another barrier: cost of trading.

Since December, a strange phenomenon started hitting the market. Small investors, after investigating the data of heavily shorted stocks, started accumulating them assuming the more they buy the harder it will be for hedge funds to cover their shorts. They used social media to exchange ideas and together attacked.

A friend of mine told me he once held a Piranha in his palm wondering how such a small fish can cause so much damage. It appears that in big numbers, a school of fish can teach a painful lesson.

Many financial professionals are now calling to restrict these actions, as they can no longer stand the humiliation of small investors beating them at their own game. When I wrote in my previous blog that we should listen to young investors and watch what they are doing, I did not see it coming, but we all now realize that change in market behavior is again needed.

Defender Fund is a deleveraged fund using fundamental research to back its trades. We use options to trade; there you sometimes benefit big time from market volatility. The recent events known as “short squeeze” raised single stock volatility dramatically. We can now aim for much higher returns as we receive a higher price for each option we sell.

We see a less leveraged short market and higher volatility in single stocks going forward. This is our playing field.

Michael J.

Dedicated to my brother in law Oren, who used to be a  geek anarchist and now works at Apple.