Written by Norman Isaac Mwambazi

Former SEC chair highlights stock market risks even meme stock traders can’t afford to ignore

Just like film director Rupert Wyatt brought us The Rise of the Planet of Apes in 2011, a decade later …

Just like film director Rupert Wyatt brought us The Rise of the Planet of Apes in 2011, a decade later to 2021, social network Reddit has brought us the Rise of the Power of Meme Stock Traders with some assistance from trading platforms like Robinhood.

Just like how Caesar revolved when he was subjected to injustice in that movie, individual investors revolved against Wall Street and institutional investors with accusations of these big experienced investors shortening the likes of stocks offered by companies like theatre-operator AMC Entertainment, and videogame vendor GameStop, among others.

They ganged up on Reddit and heavily invested in these meme stocks, thereby helping their stock prices surge to more than 1000% and as I write this, Wall Street and these Reddit-fuelled meme stock traders don’t see eye to eye.

Experienced stock market investors like billionaire Warren Buffet have issued warnings about the activities or meme stock investors, but they don’t seem to be interested in picking up warning from anyone with Wall Street connections. It should be noted a couple of months or so, Buffet criticised companies like Robinhood that have, in his opinion, encouraged casino-like behaviour of short-time investors in the stock market. However, just like most people forget where they started from after making it big in life, Buffet seems to have forgotten that starting out his investment journey more than 40 decades ago, he had a fondness for “cigar butt” stocks — the dregs of the market, companies with a few puffs left in them. Nonetheless, the billionaire raises an important point about the market’s newest investors.

Currently, there is an ongoing debate in the stock market world about what is more important between getting investors into the market and how they get there. The questions being asked include whether what’s happening today will do more for long-term wealth creation for investors as a whole so people who are being referred to as “gamblers” in the stock market should not be discouraged from participating in the stock market by the Wall Street establishment.

Catherine Keating, the Chief Executive Officer (CEO) of BNY Mellon Wealth Management is rooting for retail investors, calling them a very important part of the stock market.

“This is a permanent change. It is a new generation of investors. Retail investing has grown faster than institutional trading over the past decade, and in the past year since the pandemic, it has increased from roughly 20% of trading activity to 35%. It is a permanent phenomenon and retail investors are very important to the market and the market is important to retail investors,” Keating said.

Jay Clayton, the former Chairman of the stock market regulator, the Securities and Exchange Commission (SEC) is also happy that more retail investors are joining the stock market.

“As the life expectancy increases encouraging more American households to invest in the market is important, and that makes it a good thing that there is more participation in stocks, more broadly across American households, and earlier on,” Clayton, who recently returned to the law firm of Sullivan & Cromwell told CNBC.

 However, meme stocks and the recent non-conventional activity around it are another story altogether and Clayton wants market analysts and regulators to monitor closely.

 “Let’s separate the two things. The meme stocks and the non-fundamental activity around meme stocks, that’s something regulators, and we all, need to be cognizant of. We do need to look at meme stocks and departure from fundamentals, but if part of it is earlier investing and broader participation, it is needed,” Clayton said.

Clayton issues a few warnings to stock traders, especially the new traders who want to keep walking on the right path of trading and it is their choice to take it or leave it.

Know why and where the SEC can’t protect investors

Clayton is deeply concerned that retail investors don’t know just how little power the SEC has over the new ways investors communicate information regarding the stock market.

Retail traders need to know that the SEC is only responsible for ensuring that companies disseminate material information that is not misleading for investors and it is fairly disclosed. The SEC is not responsible for regulating price of shares on the stock market but it can only do this in stock market circuit breaker scenarios but even so, it doesn’t have much power to sanction individuals making recommendations on social media message boards like Reddit and Twitter among others.

Clayton is concerned about the information circulating on social media about stocks and stock market investment and recommendations about the same that retail investors base on to make their decisions. The former SEC chairman is also concerned about these new methods of trading and market communication raising the risk of new kinds of stock pump-and-dump schemes which the SEC is powerless against.

In America, we don’t tell people you cannot buy and sell securities.

“We are seeing flows, trading flows from retail investors that are unprecedented, driving these price swings. In America, we don’t tell people you cannot buy and sell securities unless the information violates securities law or there has been stock manipulation,” Clayton said.

When a company goes public, it takes on a significant legal liability and investors need to understand that is not the case with Reddit, which is just a medium people use to issue recommendations on what to and not buy. Clayton warns against such people and advises that they should not be given much attention.

“Those providing information who are not companies, on the message boards, the simple truth is they should be given less credibility, less deference,” Clayton said.

He added, “I don’t think the SEC should ignore this, and if it is analogous to some pump-and-dump penny stock arena, then of course it should be looking. But we need people to look and ask, ‘is this a reliable source of information?’”

“I get it. People may not feel companies are forthcoming, but companies do have a legal responsibility and the SEC is watching, and they have auditors. So I think we have a situation where things are a bit askew,” he said.

In all this, the question remains: Will Caesar win?