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Retail investors fuel wild volatility for shorted stocks

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Yahoo Finance’s Alexis Christoforous and Seema Shah, Principal Global Investors Chief Strategist, discuss the latest action for shorted stocks.

Video Transcript

ALEXIS CHRISTOFOROUS: And as you heard Jared just talking about the frenzy around stocks, including GameStop and AMC this week, we see the battle between the financial establishment and the small individual investor is heating up, and it's becoming a bipartisan political issue. Actually, if you can believe it or not, Republican Senator Ted Cruz and Democratic congresswoman AOC found something they could agree on. Also adding their voice to this course, Donald Trump Jr. today-- all of them calling out the situation as unfair for individual investors.

And Democratic Congressman Khanna from California wrote today, "this entire episode has demonstrated the power of technology to democratize access to American financial institutions. This also showed how the cards are stacked against the little guy in favor of billionaire Wall Street traders. While retail trading in some cases like on Robinhood blocked the purchasing of GameStop, hedge funds were still allowed to trade the stock. We need more regulation and equity in the markets."

Joining me now to weigh in on that and the broader market is Seema Shah. She is Chief Strategist at Principal Global Investors. Seema, always good to see you. So I'd love to get your take on what we saw play out this week with those speculative trades. And are you in the same camp as the congressman? Do you believe regulation is needed?

SEEMA SHAH: Hi, Alexis. Look, I think it would have been surprising if any politician had really come out against the retail investor at this point. It's certainly a more popular stance to take. Now, overall, though, from a fundamental perspective, you know, this has been a really fascinating sideshow to see how this all unravels. I think everyone's been taken, certainly, by surprise.

From our perspective, you know, if you are a fundamental investor, a lot of those companies that the retail investor side was investing in, they didn't have very good fundamentals. It's not companies that we would certainly have invested in. They're not quality stocks. And you know, although the wider market has tumbled-- or in the last few days had tumbled as a result of all of this frenzy, I don't think it was the beginning of any kind of downward trend because ultimately, the fundamentals for the economy, for the market are particularly strong.

So you know, this would have run its time. Probably with all the politicians now weighing in, and with the brokerage's actions, we probably extended the story probably longer than it would have gone on otherwise. But to us, it doesn't mean anything particularly worrying about the market.

ALEXIS CHRISTOFOROUS: Do you think, though, that the individual investor, the retail investor-- many of them are very savvy, but do there need to be new rules put in place to perhaps save these investors from themselves, as they may get caught up in a frenzy like we saw this week with GameStop?

SEEMA SHAH: You know, clearly, as we've seen, you know, even last year during April and May-- or May and June, sorry, there was a huge surge in those investors. They're kind of the newcomers to the market investing in some stocks which, you know, quite frankly, a lot of institutional investors would have found difficult to spend too much time on.

And this is something which is a growing case. So I do expect there to be increased interest in, increased spotlight on it from the regulators. But you know, as we head forward, this is something which is going to be going on for a while. It's a long conversation which is probably just at the beginning phases.

ALEXIS CHRISTOFOROUS: Yep, and we're going to be following it every step of the way. I want to talk more broadly now about the market and what we all heard from Fed Chair Powell yesterday-- again, saying that rates should stay low for the foreseeable future, not saying that tapering is going to happen any time soon. When does higher inflation become a bigger story for the markets, and then, ultimately, the Fed?

SEEMA SHAH: Yeah, and I think that's really the key question for markets at the moment is, when does that happen? When is inflation going to really take off? But importantly, when does it take off in a way that starts to concern central bankers? From our perspective, we are anticipating a pickup in inflation this year. That would be in line with an economic recovery.

But importantly, it's not driven by unit labor costs rising, it's really driven by supply chain shortages because of the several issues around COVID. So you know, as we start to see demand pick up, maybe there's some supply shortages, but then that would be resolved quickly. And so it's not something that would concern central bankers.

And as we've seen many, many times over the past, they are looking for higher inflation. We've already seen that the Fed has a new framework, so a new reaction function. So we didn't think that this year, we're going to see any major moves from the Fed-- potentially tapering, but in a way that is communicated as to signify that they are staying extremely easy in the market, but they do want to believe that because the economy is back to recovery at that point, they're in a position to start retracting some of that monetary stimulus without disrupting the economy.

ALEXIS CHRISTOFOROUS: Against that backdrop, Seema, are there sectors of the economy you'd be looking at for opportunities as an investor? And then conversely, what areas might you be shying away from?

SEEMA SHAH: Yes. So what we have been looking at is we, along with the rest, do anticipate an economic recovery to accelerate probably from the second half of this year-- maybe a little bit later than anyone was originally anticipating because of the slow rollout of the vaccine. But as you see the economy take off, we do believe that cyclical sectors should do well with the rising inflation narrative.

But importantly, the central bank is still keeping rates pinned down low. It does mean that you're likely to see a steepening of the yield curve, which, as we know, is really good for value. So as a result, we've been looking more at financials. But in conjunction, and this is really important, is that we still like the mega cap tech sector.

The reason for that is several fold. We do believe that there's a fundamental reason to be focused on those companies because of their very large balance sheets, strong cash flow, a very good focus on the future. I just heard you discussing Microsoft-- I mean, they're a company, they're looking to the future, not just focused on this current COVID era, but what's going to keep going. And those companies will continue to perform well.

And of course, in this environment where we still have some concerns lingering around the virus, it's a time where you still need some kind of defensive type of stocks. So for that reason, we think that cyclicals can do well, but we also think that mega cap tech can rally in conjunction with those.

ALEXIS CHRISTOFOROUS: Real quick, Seema, on big tech, what happens if and when the Biden administration starts to raise the corporate tax rate? Doesn't big tech stand to lose a lot there?

SEEMA SHAH: And that's a really, really good point. And I think if we look at any of the threats for the tech sector, it's going to come from regulation. Now, we do believe, of course, that the Biden administration is probably going to do something at some point-- it certainly sounds like it. But typically, this is really, really slow moving. So it's not an imminent threat. So we continue to like mega cap tech, but it's a story to continue watching.

ALEXIS CHRISTOFOROUS: All right, and we shall. Seema Shah, Chief Strategist at Principal Global Investors, always good to see you.