As Hedge Funds Endure Rocky Year, | Stock Market News Today


Investments in private companies are saving the year for stock-picking hedge funds.

Prominent managers that invest in both public and private companies in the same funds have seen their portfolio of public investments flail, weighed down by losses from January’s meme-stock rally and a retreat by fast-growing technology stocks. But soaring valuations of private companies and a hot U.S. IPO market have boosted their private wagers. That has helped mask their poor performance in public markets and driven up their overall returns.

Dan Sundheim’s $25 billion D1 Capital Partners, for example, is down 4% in its public bets for the year through September—but up 71% before fees in its private investments, said people familiar with the firm. The S&P 500 had a total return of 15.9% for the period.

D1 clients opt into share classes that offer varying levels of exposure to private investments. Clients in the share class that can invest up to 15% in private companies have seen gains of about 4.5%, after fees, for the period. The gains stand at 14% and 21% for clients in share classes that can invest up to 35% and 50% in private companies.

Meanwhile, Boston-based Whale Rock Capital Management was down 11.2% for its public investments in a hedge fund that can invest up to a quarter of its clients’ money in private companies, said people familiar with the fund. The performance of the fund’s private wagers shrank the fund’s losses to 3.3% for the year through September.

Hedge funds without private companies in their portfolios have had a rougher time. Palo Alto, Calif.-based Light Street Capital Management, which manages late-stage growth and other funds along with a hedge fund that only invests in public companies, is down 18.6% for the year through September in its hedge fund, said people familiar with the firm. That has brought the fund’s size down to about $1.7 billion. Its growth funds have fared much better, the people said, with Light Street’s first such fund, whose investments include the restaurant-software provider

Toast Inc.

and the software-development company

GitLab Inc.,

expected to have an internal rate of return of more than 100%.

The rush into private investing by public-market investors has helped fuel surging valuations for private companies. And as hedge funds, along with mutual funds and sovereign-wealth funds, deploy billions of dollars, they often crowd out venture and growth funds.

Hedge funds made up 27% of the money raised in private rounds this year through June, despite participating in just 4% of the deals, according to a recent report by Goldman Sachs Group Inc.

“These tech companies are growing exponentially, and managers want to capture that huge exponential growth for their clients,” said Susan Webb, founder and investment chief at the New York-based outsourced-investment firm Appomattox Advisory.

The higher-return potential is stark. Private-equity and venture strategies gained an average 14.2% a year in the decade ended in 2020, Goldman said, while hedge funds overall averaged half those annual returns over the period—and were subject to the stresses of regular redemption cycles.

Toast, a restaurant-software provider that went public last month, is an investment of a Light Street Capital Management growth fund.



Photo:

Richard Drew/Associated Press

Hybrid funds can offer distinct benefits, said Udi Grofman, global co-head of the private-funds group at Paul, Weiss, Rifkind, Wharton & Garrison LLP. “The beauty of the structure is that it allows the capital of the investors, in between being invested in private investments, to be exposed to public markets,” Mr. Grofman said. Clients typically sit on cash to fund capital calls by venture and private-equity funds.

Stock-picking hedge funds had a banner year in 2020, buoyed by markets that set new highs after bottoming that March.

Their fortunes in public markets have changed this year. The meme-stock rally in January, which sent the price of companies including GameStop Corp. and

AMC Entertainment Holdings Inc.

to extraordinary heights, dealt losses to myriad hedge funds. Whale Rock gained 71% last year, while the D1 share class investing up to 15% of clients’ money in private companies climbed 60%; in January they lost about 11% and 30%, respectively, in just their public investments.

While D1 has almost recouped those losses, Whale Rock and other growth-oriented stock pickers have struggled. Fund managers say sector rotations that have alternately favored growth or value have made it difficult to navigate markets. Long out-of-favor sectors such as energy and financials have been on a tear.

Meanwhile, private markets have continued to be supportive. The U.S. IPO market is flourishing, and companies are continuing to raise more money in private markets than in the past. Hedge funds are contributing to the brisk pace of fundraising. D1 and Tiger Global Management, which manages a series of private-equity funds in addition to a hybrid hedge fund, have participated in private funding rounds this year through September at a pace of more than a deal a week for D1 and more than two deals every three days for Tiger, according to PitchBook Data Inc.

The 44-year-old Mr. Sundheim, who started D1 after several years as chief investment officer at Viking Global Investors, said at a recent capital-introduction conference that he hadn’t expected to get as big in private companies as he has. D1 is invested in 90 private companies, he said.

He said judgment was the only competitive advantage in public markets as private markets offered the additional benefit of firms’ reputations playing a role in gaining access to deals. He said D1 in its earliest investments acted as a resource to management teams so they would be strong references for D1. Mr. Sundheim also said he was confident in his portfolio of public investments over the next three to five years.

Write to Juliet Chung at [email protected]

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Should You Be Buying What Robinhood Is Selling? | Sidnaz Blog


In rare cases, such pitches have paid off big time. More often, you’d have done yourself a favor by taking roughly half your money and lighting it on fire instead.

Just as Robinhood isn’t the first brokerage to offer commission-free trading, it isn’t the first to seek to “democratize” investing or to sell a piece of itself to its own customers.

On June 23, 1971, Merrill Lynch, Pierce, Fenner & Smith Inc. became the first New York Stock Exchange firm catering to individual investors to offer its shares to the public.

Thirsty for fresh capital in a struggling stock market, Merrill flogged its shares to its own customers, tapping the firm’s “awesome recognition among that vast segment of the population,” reported The Wall Street Journal the next day. “Primarily small investors, the type long championed by Merrill Lynch, quickly purchased the entire amount.”

Nearly 400 insiders at the firm unloaded a total of 2 million shares in the offering. From its initial $28 per share, the stock shot to about $42—a 50% pop—then closed around $39. That valued Merrill at 30.5 times its prior-year earnings, much higher than the overall stock market’s price/earnings ratio of 18.7.

Less than three weeks later, Merrill announced that its net earnings had fallen nearly 50% from the prior quarter.

For the rest of 1971, Merrill’s stock lost 9.4%; the S&P 500 gained 4%, counting dividends.

In 1972, when the S&P 500 rose nearly 19%, Merrill sank 7.7%. And in 1973-74, when the S&P 500 lost 37%, Merrill’s stock slumped by 61%. In its first three full years, Merrill’s stock lost three-quarters of its value; the S&P 500 fell only 5%.

Here in 2021, Robinhood’s offering is one of several trading and investing IPOs:

Coinbase Global Inc.,

the cryptocurrency exchange, went public in April, and

Acorns Grow Inc.,

which helps users invest in tiny increments, said in May that it expects to go public later in the year. Since its Apr. 14 debut, Coinbase is down about 27%. Robinhood fell 8% on its first day of trading Thursday.

One of Wall Street’s oldest and frankest sayings is “When the ducks quack, feed ‘em”—meaning that whenever investors are eager to buy something, brokers will sell it like mad.

Back in 1971, that was the brokers’ own shares. Roughly half a dozen major firms sold stock to the public soon after Merrill, including Bache & Co. and Dean Witter & Co. By 1974, according to data from the Center for Research in Security Prices LLC, several of them had dealt losses at least as devastating as Merrill’s.

In 1987, Jane and Joe Investor got invited to join in on the fun of Charles Schwab Corp.’s IPO, when roughly three million of the offering’s eight million shares were reserved for employees and customers of the firm.

Unlike Merrill, which was rescued from the brink of failure in 2008 when

Bank of America Corp.

bought the firm, Schwab went on to generate spectacular long-term performance. Over the full sweep of time since its 1987 IPO, Schwab is up more than 26,500%, or 17.9% annualized. The S&P 500 gained less than 3,500%, or an average of 11.3% annually.

However, Schwab went public in late September 1987. Only 18 trading days later, on Oct. 19, the U.S. stock market took its biggest one-day fall in history, plunging more than 20%.

Schwab’s stock got brutalized. In their first year, Schwab’s shares fell 59.1%. After three years, the market as a whole had gained 0.6% annually; Schwab’s stock lost an annualized average of 6.9%, according to CRSP.

How many of the original buyers in 1987 stuck around long enough to reap the giant rewards that came much later? That’s impossible to know, but the likeliest answer has to be: very few.

Every once in a while, outside investors in a brokerage IPO do well.

Goldman Sachs Group Inc.

began trading on May 4, 1999. If you’d bought Goldman stock in the IPO and held it ever since, you’d have earned 9.1% a year, versus 7.6% in the S&P 500, according to FactSet.

Yet Goldman was a giant then, as it is now; it was late to the IPO party because it had held on to its partnership structure for so many years. Most brokerage IPOs, like Robinhood’s, occur when the firms are younger and smaller.

That makes them typical. Companies selling shares to the public for the first time tend to be small, with minimal profits; they also require additional invested capital to sustain their rapid growth.

That’s what Savina Rizova, global head of research at Dimensional Fund Advisors, an asset manager in Austin, Texas, calls “a toxic combination of characteristics that points to low expected returns.”

On average, IPOs have severely underperformed seasoned stocks in the long run. And, history suggests, brokerages doing IPOs are better at timing the market for themselves than for you.

Write to Jason Zweig at [email protected]

More from The Intelligent Investor

The brokerage app Robinhood has transformed retail trading. WSJ explains its rise amid a series of legal investigations and regulatory challenges. Photo illustration: Jacob Reynolds/WSJ

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Pinterest Shares Fall as U.S. Monthly Average Users Decline | Sidnaz Blog


Pinterest reported Thursday second-quarter net income of $69.4 million, compared with a loss of $100.7 million a year earlier.



Photo:

Gabby Jones/Bloomberg News

Shares of

Pinterest Inc.


PINS -6.01%

fell more than 14% in after-hours trading, as the online sharing platform said its monthly average users in the U.S. contracted during the quarter, a trend that accelerated this month.

The company reported 91 million monthly average users in the U.S. in the quarter, down 5% from a year earlier. Pinterest said that “engagement headwinds” continued this month, with monthly average users down 7% as of July 27. Globally, monthly average users increased 9% in the quarter.

“Our second quarter results reflect both the strength of our business and the recent shift in consumer behavior we’ve seen as people spend less time at home,” Chief Executive

Ben Silbermann

said in prepared remarks.

Pinterest saw its user growth soar during the pandemic, as shut-in consumers turned to the website for masks and other products. The company has said the pandemic may have pulled forward some user growth.

The company also reported Thursday second-quarter net income of $69.4 million, compared with a loss of $100.7 million a year earlier.

Adjusted earnings were 25 cents a share. Analysts polled by FactSet were expecting adjusted earnings 13 cents a share.

Revenue totaled $613.2 million, compared with $272.5 million a year earlier. Analysts expected $562 million in revenue.

Pinterest shares closed Thursday at $72.04 apiece, down 6%. So far this year, the stock is up 9.32%.

Write to Robert Barba at [email protected]

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Nvidia Stock’s Surge Makes Chip Maker 10th-Biggest U.S. Listed | Sidnaz Blog


Nvidia chips’ parallel-computing capabilities make them better than rivals’ for artificial-intelligence performance and mining cryptocurrencies.



Photo:

nvidia corp/Reuters

The post-pandemic boom in the semiconductor business has powered

Nvidia Corp.


NVDA -4.25%

into the top 10 U.S. public companies, joining the likes of Apple Inc. and JPMorgan Chase & Co.

Shares of the Santa Clara, Calif., firm have risen nearly 80% over the past year, giving it a market value of around $453 billion. That is more than rivals

Intel Corp.

and

Broadcom Inc.

combined.

Nvidia makes processors that power gaming and cryptocurrency mining. Chip shares have risen in part thanks to a pandemic-induced global shortage of semiconductors that has driven up the prices of everything from laptops to automobiles.

One reason for Nvidia’s outperformance, analysts say, is that its chips’ parallel-computing capabilities make them better than rivals’ for artificial-intelligence performance and mining cryptocurrencies. Nvidia’s graphics processors are used for mining ethereum and the cryptocurrency’s value has soared this year, even after a recent correction.

That surge has exacerbated the shortage of gaming chips. Nvidia plans to sell cards aimed at the crypto market and has employed technical adjustments to make gaming processors less useful to miners. Analysts also expect Nvidia to get a boost from tech and autonomous-vehicle companies using its chips to navigate traffic or track online behavior.

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How do you think Nvidia will perform in the next year? Join the conversation below.

“The company is the biggest and best supplier of parallel computing,” said

Ambrish Srivastava,

analyst at BMO Capital Markets. “It’s hard to compete against that.”

While Nvidia has a leg up in the data-center industry, competitors are catching up, analysts said. The recent slide in crypto also could spur miners to dump their chips on the secondary market, as happened when a previous ethereum skid hit revenue in 2018.

A global chip shortage is affecting how quickly we can drive a car off the lot or buy a new laptop. WSJ visits a fabrication plant in Singapore to see the complex process of chip making and how one manufacturer is trying to overcome the shortage. Photo: Edwin Cheng for The Wall Street Journal

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Google’s Cookie Delay Is Bittersweet for Trade Desk | Sidnaz Blog


The Trade Desk, which went public in September 2016, helps other companies buy ads across the internet.



Photo:

CHRISTOPHER GALLUZZO/NASDAQ

The

Trade Desk


TTD 0.18%

lives, but it can’t escape the cookie monster’s shadow.

When Google announced plans Thursday to delay its phaseout of third-party tracking cookies, Trade Desk’s stock jumped 16%, leading a strong uptick among other so-called ad-tech players. It was a nice bump that didn’t quite bring the stock back up to its level from before Google announced its original plan in early March. That news—with a plan to phase out cookies by early next year—cost Trade Desk about 20% of its market value over a two-day period.

While the recent change is good news for the company, the market’s stark reaction reflects the continued belief that Trade Desk is highly vulnerable to the whims of its massive rival. The ad-tech company, which helps other companies buy ads across the internet, has built a formidable business in its own right, with close to $900 million in trailing 12-month revenue and still growing at a strong double-digit rate. The vast majority of that business takes place on platforms such as connected televisions that lie outside of the search ecosystem that Google dominates. But the digital advertising business is a very big pond; eMarketer estimates the global market grew nearly 13% to reach about $378 billion in 2020. And Google is by far the biggest fish in that pond, with advertising revenue reported by parent company

Alphabet Inc.

now just under $158 billion a year.

That lopsided relationship means the search giant’s actions cause major ripples. Cookies—bits of code that follow users around the internet—have historically been a major tool for online advertisers to target their spending. But their poor image with privacy advocates also has made them unfashionable.

Apple Inc.

began blocking cookies with its Safari web browser in 2017, and Google has long teased that it will do the same with its Chrome browser. Those two together account for about 83% of the world’s browser market share, according to Statcounter.

Trade Desk has thus been working to build up an alternative solution. The company’s effort—an open-sourced initiative called Unified ID 2.0—uses email and artificial intelligence to help advertisers with their targeting. Analysts at ISI Evercore set a buy rating on Trade Desk in April—after Google announced its original cookie phaseout plan—citing the company’s strong position relative to peers “because brands trust them with their first-party data.” The Unified ID 2.0 program also has drawn the support of major advertisers such as Walmart, which sits on “one of the most robust sets of consumer retail data in the world,” ISI noted.

Google’s latest move to delay the implementation of its cookie plan gives Trade Desk “more time to refine their offering, attract more partners and increase adoption” of its alternative solution, Truist analyst

Youssef Squali

wrote on Thursday. Success of its cookie alternatives could also help the company better convince investors that it can survive Google’s scramble to get on the right side of the privacy debate. But the concentrated nature of the online advertising business still means that when Google makes a splash, everyone else gets wet.

Write to Dan Gallagher at [email protected]

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Facebook, Alphabet Keep Rising; Apple, Netflix Fade | Sidnaz Blog


Big tech stocks are going their own ways in 2021.

It is a far cry from last year, when the so-called FAANG stocks took a commanding role in a market driven by the coronavirus pandemic.

This year, as the economy strengthens and vaccinations diminish the pandemic in the U.S., that synchronized march has broken down. Investors have broadened their sights beyond the familiar names whose technology businesses thrived as many Americans switched to working, shopping and socializing at home. With a re-energized economy creating opportunity across industries, money managers have options, as well as renewed scrutiny for stocks whose lofty valuations and widespread popularity could limit further upside.

While Alphabet Class A and Facebook shares are up 37% and 21%, respectively, other members of the group have weighed on the market. Amazon shares are up 7.1% in 2021, lagging behind the 11% rise in the benchmark S&P 500. Apple and Netflix have fared even worse, down 1.7% and 7.4% for the year.

Among the hundreds of S&P 500 stocks outpacing Apple—the U.S. benchmark’s largest company by market value—are many that were hit hard by the pandemic. Cruise company

Carnival Corp.


CCL -0.84%

is up 30% for the year, and

American Airlines Group Inc.

has risen 41%. Other big gainers include almost every member of the energy sector.

Technology stocks that lagged in 2020 are also on the move this year.

Cisco Systems Inc.


CSCO -2.00%

is up 16% so far, and

Intel Corp.


INTC -2.64%

has posted a 12% gain.

“A rising tide is lifting all boats right now,” said

Jim Golan,

co-manager of the William Blair Large Cap Growth Fund. “Just investing in the top four or five big-cap companies probably won’t do it this year.”

Investors this week will scrutinize earnings from delivery giant

FedEx Corp.

, sneaker titan

Nike Inc.

and Olive Garden operator

Darden Restaurants Inc.


DRI -1.37%

for insights into consumer behavior.

With a healthier economy improving prospects for many stocks, investors have less reason to snap up ones that look expensive. That is particularly the case as a spurt of inflation focuses investors on the question of when the Federal Reserve will begin lifting interest rates from current, rock-bottom levels.

An Amazon warehouse. The e-commerce giant helped power the S&P 500 to a 16% gain for 2020.



Photo:

mike segar/Reuters

Fed officials last Wednesday indicated they anticipate raising rates by late 2023, sooner than previously expected. When rates rise, commonly used models show the far-off cash flows factored into many technology stock’s price tags are less valuable.

In recent months, investors haven’t been willing to pay as much for the profits of some of the megacap tech names with the richest valuations. Analyst estimates for Amazon’s per-share profit over the ensuing 12 months rose more than 40% from the end of December through last week, according to FactSet. But since Amazon’s share price rose only 7.1%, the stock’s forward price/earnings multiple contracted from nearly 73 times to about 55 times.

In the case of Netflix, expectations for forward earnings have risen while its share price has fallen. That has compressed the stock’s price/earnings ratio from almost 60 at the end of 2020 to about 43 last week.

Apple has seen its valuation fall since the start of the year, as projected earnings increased while its share price is nearly unchanged. It traded last week at about 25 times expected earnings—down from more than 32 times on Dec. 31.

After owning Apple shares for years,

David Bahnsen,

chief investment officer of wealth-management firm The Bahnsen Group, said he sold them late last year because he thought they were too rich.

For much of 2020, a badly constricted economy pushed investors toward stocks—like the FAANG names—whose businesses were less affected and whose future growth became even more alluring with the drop in interest rates. The Russell 1000 Growth Index advanced 37% for the year, while the Russell 1000 Value Index eked out a 0.1% gain—the largest annual performance gap between the two style benchmarks in FactSet data going back to 1979.

Big tech stocks were among the leaders of that rally. Apple shares climbed 81% in 2020—last August becoming the first U.S. public company to surpass $2 trillion in market value—while Amazon rose 76% and Netflix gained 67%. Facebook added 33% for the year, and Alphabet 31%.

“Philosophically if you’re buying those very large-cap stocks—let’s say a trillion dollars and above—you’re doing so not because you think you’ve found some undiscovered gem,” said

Kevin Landis,

who manages the Firsthand Technology Opportunities Fund. “You’re doing it more as an expression of a tech thesis, that people are going to be rotating to tech.”

That rotation began to unwind in November with news that a Covid-19 vaccine was emerging. Value stocks, which trade at low multiples of book value and tend to be more sensitive to the health of the economy, began a monthslong rally. In March, value stocks were beating growth stocks by the widest margin in two decades, although the gains have eroded recently.

Among big tech stocks, Alphabet and Facebook have served as a kind of reopening play, reporting a surge in advertising. Facebook’s profit in its latest quarter nearly doubled from a year earlier, while Alphabet’s earnings more than doubled.

“They’ve had this huge resurgence in online advertising and that’s really been driving the stocks,” said

Daniel Morgan,

senior portfolio manager at Synovus Trust Co. “All these businesses are reopening, coming back on, the economy’s accelerating. Where do they go to promote themselves? A lot of them go to Facebook.”

SHARE YOUR THOUGHTS

Do you think the performance of the big tech stocks will continue to diverge? Join the conversation below.

Netflix, by contrast, disappointed investors when it reported that its subscriber growth had slowed as the economy reopened. The streaming giant got a boost from the pandemic as many consumers were forced or chose to stay home, and it ended 2020 with more than 200 million subscribers.

Those fundamentals matter more now for investors, who seem less inclined to view the market in the same broad terms as they did last year.

“These just are different companies that for a long time were highly correlated because they were popular, they were performing well,” Mr. Bahnsen said. “There really was never an investment logic to a streaming company that was first to market trading in tandem with a social media company.”

Write to Karen Langley at [email protected]

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DraftKings Shares Fall After Hindenburg Unveils Short Position | Sidnaz Blog


Shares of

DraftKings Inc.


DKNG -5.71%

slid as much as 12% on Tuesday after short seller Hindenburg Research said that the sports-betting firm’s gambling-technology subsidiary SBTech operates in countries where gambling is banned and said it is positioned for DraftKings shares to fall.

Hindenburg published a report early Tuesday that said DraftKings’ gambling-technology subsidiary SBTech makes about half of its revenue in countries where gambling is banned. According to the report, SBTech created a new entity for what Hindenburg says are its black-market operations ahead of last year’s merger with DraftKings and a blank-check company that took the combination public. DraftKings shares slid in early trading, then recovered. They were recently down about 5%.

“SBTech does not operate in any illegal markets,” a DraftKings spokesman said in a statement. “We conducted a thorough review of their business practices and we were comfortable with the findings.”

New York-based Hindenburg said it based its report on conversations with former employees, regulatory filings and assessments of illegal international gaming websites. It claimed SBTech poses a risk to DraftKings because SBTech accounted for roughly 25% of the firm’s overall sales at the time of the 2020 SPAC merger and brought its technology to the combined company.

The Wall Street Journal hasn’t been able to verify independently the accusations in Hindenburg’s report. DraftKings CEO

Jason Robins

has said publicly that SBTech gives the company a technological advantage and provides better user experiences.

Boston-based DraftKings, which is considered a leader in the sports betting industry, has partnerships with major sports leagues including the NFL, NBA and PGA Tour. As the market expands, operators like DraftKings and FanDuel are in heated competition for customers, spending big on advertising and technology.

Sports betting has boomed since the Supreme Court in 2018 cleared the way for states beyond Nevada to legalize wagers on sporting events. Now, 30 states and the District of Columbia have legalized sports gambling. Boston-based DraftKings had a market value of about $20 billion entering Tuesday’s trading session. It is unprofitable and had sales of about $615 million in 2020.

Tuesday’s share-price drop is the latest triggered by Hindenburg and founder Nathan Anderson. The firm publishes financial research and often bets against shares of companies it deems overvalued. DraftKings shares are down about 30% in the past three months.

SHARE YOUR THOUGHTS

Do you think Hindenburg Research is making the right bet on DraftKings? Why or why not? Join the conversation below.

Hindenburg’s Mr. Anderson and a reporter for The Wall Street Journal are among the more than 20 defendants in a lawsuit brought by private-equity firm Catalyst Capital Group and Callidus Capital Corp. alleging a short selling conspiracy related to a 2017 article about Catalyst. A Journal representative has said the news organization is confident in the fairness and accuracy of its reporting. Mr. Anderson has said Hindenburg stands by its research.

DraftKings’ share decline comes a day after electric-truck startup

Lordstown Motors Corp.

said its chief executive and chief financial officer resigned after a board committee found disclosures about preorders for its truck to be inaccurate, partially confirming claims from a March Hindenburg report. Lordstown’s CEO previously declined to comment to The Journal, and efforts to reach the CFO were unsuccessful.

Mr. Robins has said publicly that SBTech gives the company a technological advantage and provides better user experiences.



Photo:

shannon stapleton/Reuters

Hindenburg has also targeted two other notable companies that have gone public by merging with special-purpose acquisition companies—electric-vehicle firm

Nikola Corp.

and

Clover Health Investments Corp.

Regulators are investigating both companies as well as Lordstown. Like Lordstown, Nikola also partially confirmed Hindenburg’s allegations after initially saying they were untrue. Clover has called the claims false. Hindenburg didn’t take a short position in Clover.

Also called a blank-check company, a SPAC is a shell company that lists on a stock exchange with the sole intent of merging with a private firm to take it public. The private company then gets the SPAC’s spot in the stock market. SPAC mergers let companies make projections about their business, which wouldn’t be allowed in a traditional initial public offering. They also often offer startups a quicker way to raise large sums from investors who are excited about future technologies.

SPACs have raised more than $105 billion this year, surging past last year’s record north of $80 billion, according to data provider SPAC Research.

Hindenburg’s latest report could also have implications for SPACs, which have become a popular way for startups to raise money and access public markets in the 2020 and 2021 in part due to the lofty valuations of companies like DraftKings. A SPAC backed by former film and media executives

Harry Sloan

and

Jeff Sagansky

took the company public. The SPAC team declined to comment. The executives have also taken mobile gaming firm

Skillz Inc.

public.

DraftKings and other popular companies linked to SPACs have become trendy with ordinary investors in recent months. Some professionals like Hindenburg, meanwhile, have been betting that shares of many companies that merged with blank-check firms will fall, putting the sector at the center of the recent tension between day traders and pros on Wall Street.

Some analysts say SPACs enrich their creators at the expense of other investors by giving the blank-check executives deeply discounted shares, a point that Hindenburg mentioned in its report.

Write to Amrith Ramkumar at [email protected]

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High-Speed Trader Virtu Fires Back at Critics Amid Meme-Stock | Sidnaz Blog


High-speed trader

Virtu Financial Inc.


VIRT -0.27%

is pushing back against critics in Washington who say the stock market is rigged against small investors.

Virtu’s business of executing individual investors’ orders is facing scrutiny from lawmakers and regulators following the surge in shares of meme stocks like

AMC Entertainment Holdings Inc.

and

GameStop Corp.

Last week, the new chairman of the Securities and Exchange Commission,

Gary Gensler,

said he has asked SEC staff to explore changes to the rules governing how investors’ orders are handled. The review will include a practice known as payment for order flow, in which brokerages send many of their customers’ orders to trading firms in exchange for cash payments. Virtu’s stock sold off sharply after Mr. Gensler’s remarks.

Payment for order flow has existed for decades and has come under scrutiny before. But it received fresh attention after the wild volatility in GameStop shares in January. At one congressional hearing in February,

Rep. Sean Casten

(D., Ill.) referred to Robinhood Markets Inc.’s practice of sending orders to high-speed traders as “a conduit to feed fish to sharks.”

Firms such as Robinhood and Virtu say payment for order flow is misunderstood. They say small investors benefit from the practice because it results in better prices than they would get at public exchanges like the New York Stock Exchange and the

Nasdaq Stock Market.

Collectively, that saves investors billions of dollars a year, industry data show.

Payment for order flow has also made it possible for brokerages to provide zero-commission trading. If the practice were banned, it is unclear whether brokerages like Robinhood could still let investors trade stocks and options without charging commissions.

Virtu Chief Executive

Douglas Cifu

has been one of the most vocal defenders of payment for order flow. In March, upset by comments that CNBC “Squawk Box” host

Andrew Ross Sorkin

made about how high-speed traders profited from investors’ orders, Mr. Cifu tweeted his phone number at Mr. Sorkin and said: “Let me know when you want to learn how markets work.” Soon afterward, the CEO went on the show to discuss payment for order flow with Mr. Sorkin.

Following the GameStop trading frenzy, the SEC is expected to take a fresh look at payment for order flow, a decades-old practice that is at the heart of how commission-free trading works. WSJ explains what it is, and why critics say it’s bad for investors. Illustration: Jacob Reynolds/WSJ

In an interview, Mr. Cifu warned that banning the practice and requiring that individual investors’ orders be sent to exchanges would harm small investors. “Retail investors would get a much, much worse experience,” he told The Wall Street Journal.

Firms like Virtu, known in the trading business as wholesalers, make money from investors by filling their orders throughout the day and collecting a small spread between the buying and selling price of each stock. Under SEC rules, they can’t fill the trades at prices worse than the best available price on exchanges—a benchmark known as the national best bid or offer, or NBBO.

Because individuals tend to make small trades, wholesalers can trade against them knowing the individuals aren’t likely to push stock prices up or down, the way that institutional investors can move a stock through heavy buying or selling. That allows wholesalers to make more consistent profits when filling small investors’ orders than when trading on exchanges—a benefit they are willing to pay brokers for, in the form of payment for order flow.

Meanwhile, small investors can benefit from the arrangement by getting prices better than the NBBO, often by just a fraction of a penny a share.

The resulting savings to the investor are known as “price improvement.” In a report released on Thursday, Virtu said standard analyses underestimate the degree to which small investors benefit from having their orders filled by wholesalers.

Using a broader measure of price improvement than the one usually used, Virtu said it saved investors just over $3 billion on their stock trades in 2020. By comparison, data disclosed by wholesalers under SEC reporting rules shows Virtu provided around $950 million worth of price improvement last year.

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The difference was largely because of how Virtu calculated the savings when an investor does a trade in a larger size than what’s publicly displayed on exchanges. For instance, suppose that 200 shares of

Apple Inc.

are available on exchanges at the national-best-offer price, and an investor buys 500 shares of the stock from Virtu at a slightly lower price.

In that scenario, Virtu’s methodology counts the savings based on how much it would cost to buy all 500 shares using price quotes on exchanges—not just at the national best offer, a price at which only 200 shares are being quoted, but at the higher prices where the remaining 300 shares would be filled.

Critics were unconvinced by Virtu’s analysis, calling it self-serving. Payment for order flow is fundamentally flawed because it poses a conflict of interest for brokers, said

Tyler Gellasch,

executive director of Healthy Markets Association, a trade group for institutional investors.

“There’s a simple question that every investor needs to ask, and that’s whether their broker is trying to get them the best prices or maximize their own profits,” Mr. Gellasch said.

SEC Chairman Gary Gensler recently called for a review of payment for order flow.



Photo:

The Wall Street Journal

Virtu is the second-largest wholesaler in the U.S. stock market by volume, handling between 25% to 30% of individual investors’ equities order flow, and it paid more than $300 million for order flow last year, according to Bloomberg Intelligence.

Other major wholesalers include Citadel Securities, which has the largest market share, and Susquehanna International Group LLP. Virtu doesn’t break out how much it makes from trading against small investors, but the meme-stock frenzy has helped lift the company’s stock 15% year-to-date.

Mr. Cifu acknowledged that payment for order flow poses a conflict of interest for brokerages, but he said the conflict was already being managed through SEC rules. The regulator requires brokerages to publicly disclose their payment-for-order-flow practices. Brokerages also have a duty to seek best execution for their customers, and some have been fined for failing to fulfill that obligation when routing orders.

The SEC’s review will eventually confirm that the stock market works well for small investors, Mr. Cifu predicted.

“I am so confident in the value that we, Citadel and Susquehanna in partnership with these retail brokers have provided to the ecosystem,” he said, “that any right-minded person looking at this and looking at the data will conclude, ‘Man, this is a great trading system. This is the envy of the world.’”

More on Payment for Order Flow

Recent WSJ articles on the trading practice, selected by the editors

Write to Alexander Osipovich at [email protected]

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AMC Bet by Hedge Fund Unravels Thanks to Meme-Stock Traders | Sidnaz Blog


A multipronged bet on

AMC Entertainment Holdings


AMC 13.03%

boomeranged this month on Mudrick Capital Management LP, the latest hedge fund to fall victim to swarming day traders.

Mudrick’s flagship fund lost 10% in just a few days as a jump in AMC’s stock price unexpectedly triggered changes in the value of derivatives the fund held as part of a complex trading strategy, people familiar with the matter said.

The setback comes months after a group of traders organizing on social media helped send the price of

GameStop Corp.


GME 2.05%

and other stocks soaring in January, well beyond many investors’ views of underlying fundamentals.

The development prompted many hedge funds to slash their exposure to meme stocks. Mudrick Capital’s losses highlight how risky retaining significant exposure to such companies can be—even backfiring on a hedge-fund manager who was mostly in sync with the bullishness of individual investors.

Jason Mudrick,

the firm’s founder, had been trading AMC stock, options and bonds for months, surfing a surge of enthusiasm for the theater chain among individual investors. But he also sold call options, derivative contracts meant to hedge the fund’s exposure to AMC should the stock price founder. Those derivative contracts, which gave its buyers the right to buy AMC stock from Mudrick at roughly $40 in the future, ballooned into liabilities when a resurgence of Reddit-fueled buying recently pushed AMC’s stock to new records, the people said.

Day traders took their first run at AMC shares in late January.



Photo:

Bing Guan/Bloomberg News

As part of the broader AMC strategy, executives at Mudrick Capital were in talks with AMC to buy additional shares from the company in late May. On June 1, AMC disclosed that Mudrick Capital had agreed to buy $230 million of new stock directly from the company at $27.12 apiece, a premium over where it was then trading.

Mudrick immediately sold the stock at a profit, a quick flip that was reported by Bloomberg News and that sparked backlash on social media.

“Mudrick didn’t stab AMC in the back…They shot themselves in the foot,” read one post on Reddit’s Wall Street Bets forum on June 1. Other posts around that time referenced Mudrick as “losers,” “scum bags” and “a large waving pile of s—t with no future.” Members of the forum urged each other to buy and hold.

Inside Mudrick, executives were growing apprehensive as the AMC rally gained steam. The firm’s risk committee met on the evening of June 1 after the stock closed at $32 and decided to exit all debt and derivative positions the following day.

It was a day too late.

AMC’s stock price blew past $40 in a matter of hours June 2, hitting an intraday high of $72.62. Call option prices soared amid a frenzy of trading that Mudrick Capital contributed to and by the end of the week, the winning trade had turned into a bust. Mudrick Capital made a 5% return on the debt it sold but after accounting for its options trade, the fund took a net loss of about 5.4% on AMC.

Mr. Mudrick’s fund is still up about 12% for the year, one of the people said. Meanwhile, investors who bought AMC stock at the start of the year and held on have gained about 2000%.

The impact of social media-fueled day traders has become a defining market development this year, costing top hedge funds billions of dollars in losses, sparking a congressional hearing and drawing scrutiny from the U.S. Securities and Exchange Commission. More hedge funds now track individual investors’ sentiment on social media and pay greater attention to companies with smaller market values whose stock price may be more susceptible to the enthusiasms of individual investors.

Mr. Mudrick specializes in distressed debt investing, often lending to troubled companies at high interest rates or swapping their existing debt for equity in bankruptcy court. Mudrick manages about $3.5 billion in investments firmwide and holds large, illiquid stakes in E-cigarette maker NJOY Holdings Inc. and satellite communications company

Globalstar Inc.

from such exchanges. The flagship fund reported returns of about 17% annually from 2018 to 2020, according to data from HSBC Alternative Investment Group.

But distressed investing opportunities have grown harder to find as easy money from the Federal Reserve has given even struggling companies open access to debt markets. Mr. Mudrick has explored other strategies, launching several SPACS and, in the case of AMC, ultimately buying stock in block trades.

Mr. Mudrick initially applied his typical playbook to AMC, buying bonds for as little as 20 cents on the dollar, lending the company $100 million in December and swapping some bonds into new shares. Theater attendance, already under pressure, had disappeared almost entirely amid Covid-19 pandemic lockdowns, and AMC stock traded as low as $2. He reasoned that consumers would regain their appetite for big-screen entertainment this year as more Americans got vaccinated.

Day traders took their first run at AMC in late January, urging each other on with the social-media rallying cry of #SaveAMC and briefly lifting the stock to around $20. AMC’s rising equity value boosted debt prices—one bond Mudrick Capital owned doubled within a week—quickly rewarding Mr. Mudrick’s bullishness. AMC capitalized on its surging stock price to raise nearly $1 billion in new financing in late January, enabling it to ward off a previously expected bankruptcy filing.

Around that time, Mr. Mudrick sold call options on AMC stock, producing immediate income to offset potential losses if the theater chain did face problems. The derivatives gave buyers the option to buy AMC shares from Mudrick Capital for about $40—viewed as a seeming improbability when the stock was trading below $10.

Mr. Mudrick remained in contact with AMC Chief Executive

Adam Aron

about providing additional funding, leading to his recent share purchase. But he kept the derivative contracts outstanding as an insurance policy, one of the people familiar with the matter said.

Write to Matt Wirz at [email protected] and Juliet Chung at [email protected]

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Meme Stocks’ Latest Frenzy Isn’t About a Short Squeeze | Sidnaz Blog


Meme stocks have made a comeback, with one big change: this time around, short sellers aren’t a big player in the market.

Individual investors have been gearing up for some weeks to take on hedge funds that are betting against their favorite stocks. In January, their strategy of banding together online to send a handful of shares like

GameStop Corp.

“to the moon” allowed them to deliver sharp losses to their deep-pocketed opponents and claim a victory over Wall Street pros.

In the latest bout of frenetic trading in unlikely momentum stocks, there appear to be far fewer opportunities for a short squeeze. That is when a stock price begins rising, forcing bearish investors—typically sophisticated market participants like hedge funds—to buy back shares that they had bet would fall, to curb their losses.

The number of shares outstanding that have been sold short, known as short interest, remains subdued compared with the levels seen in January for popular meme stocks like GameStop,

Clover Health Investments Corp.

and

Clean Energy Fuels Corp.

GameStop has remained wildly popular on Reddit’s WallStreetBets online forum since the first wave in January, and its stock has skyrocketed more than 1000% this year. Short interest accounted for roughly 17% of its shares outstanding as of June 9, compared with 102% at the start of the year, according to data from

IHS Markit.

For

AMC Entertainment Holdings Inc.,

another meme stock that has surged over 1900% this year, the picture is more cloudy. The number of shares being shorted has risen, but the ratio relative to its shares outstanding has fallen to about 20%, from a peak of over 24% in early January. The movie-theater chain has sold over 100 million shares since January and converted debt into equity, which has pared the short-interest ratio.

Still, the data suggests that investors like hedge funds aren’t crowding into trades betting on the prices of meme stocks falling.

Analysts say what is likely driving the market more this time around are call options. Those are contracts that give the buyers the right to purchase a stock at a certain date and price. This type of security delivers a profit to the buyers if the underlying shares rise.

A surge in call options activity can force some participants to buy the stock, similar to a short squeeze. But instead of trapping bearish investors, rising call options activity pushes market makers such as banks to buy the stock to hedge their positions. That is because the sellers of the call options are obliged to deliver those shares if the contracts are ever exercised.

Investors like hedge funds could be buying certain stocks to try to trigger this phenomenon, which is known as a gamma squeeze, said Helen Thomas, founder of Blonde Money, a U.K.-based financial research firm. Some individual investors are also trading options and posting screenshots of their positions on Reddit forums.

Wall Street is in an uproar over GameStop shares, after members of Reddit’s popular WallStreetBets forum encouraged bets on the video game retailer. WSJ explains how options trading is driving the action and what’s at stake. (Video from 1/29/21)

However, while this type of squeeze can accelerate the ascent, it can also add juice to a stock’s decline.

“It cuts two ways: It creates crash ups, but if those stocks begin to trade lower, the dealers then sell,” said Charlie McElligott, a cross-asset strategist at

Nomura Holdings.

“It creates these crash-up, crash-down cycles.”

Many Reddit users show no signs of worrying that the upward trajectory of meme stocks may abruptly reverse. Clover Health has become a favorite in recent days for people determined to engineer another battle against hedge funds, sending its stock up roughly 59% this week.

“$CLOV this is the perfect setup for an epic short squeeze,” a user called u/mamagpepper wrote on WallStreetBets on Wednesday, referring to Clover Health’s stock ticker. Clover Health recently had around 10% short interest.

GameStop has remained hugely popular on Reddit’s WallStreetBets forum.



Photo:

John Smith/VIEWpress/Getty Images

This time around, short sellers may be more cautious about going up against retail traders, whose wagers generally ignore metrics like the profit and sales outlook.

“Hedge funds are scared to have holdings on significant short positions [in meme stocks], even if fundamentally it makes a lot of sense,” said Lorenzo Di Mattia, chief investment officer of Sibilla Capital. “The AMC stock is probably worth $10, but that doesn’t mean it’s going there any time soon. With the retail army not really knowing anything about valuation, the risk is much bigger than normal.”

AMC traded at $42.81 at the end of Thursday.

Individual investors aren’t necessarily targeting their efforts on the most shorted stocks.

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Bed Bath & Beyond Inc.,

which soared in popularity in January, has a short interest of about 31% of its total outstanding, according to IHS Markit. But the stock has largely lost its shine on WallStreetBets since the start of 2021, and wasn’t among the past week’s most popular stocks, according to TopStonks.com, which tracks equities mentioned on Reddit. Bed Bath shares are up over 77% this year.

Meanwhile, the potential to engineer a precipitous decline in some meme stocks is making bearish wagers more tempting for some investors.

Sibilla’s Mr. Di Mattia, is weighing placing wagers that AMC’s stock will drop in value.

“If it’s like GameStop in January, it could double again before it collapses: this is why it’s hard to short,” he said.

Write to Anna Hirtenstein at [email protected]

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