Market Logic

A collage depicting a ripe avocado on some mountain peaks
Confessions of a finance reporter

By Kate Duguid

Art By Liu Shiyuan

On October 20, 2020, I misunderstood a joke. That misunderstanding added 4 percent to Virgin Galactic’s stock price, a mistake worth a little over $200 million. 

Billionaire short seller Jim Chanos was speaking at a conference I was covering, and he ended his remarks with comments about the space exploration industry. The gist was: Space is infinite, therefore the possible profits from space exploration are too.

I was working at the time for a wire service, where reporters covered breaking news stories by publishing short all-caps alerts, or “snaps,” with the incoming information before developing them into a story. And so I wrote: “kynikos’ jim chanos says would go long any of the space companies that have gone public – grant’s investment conference.”

The stock price of Virgin Galactic had begun rising, and accelerated after my snap hit the wire; the stock prices of Boeing and SpaceX parent company Tesla inched up too. It wasn’t just my coverage that was moving the market: Other investors were clearly making real-time bets based on what this short seller was saying. I wrote up my story, leading with the move in space stocks. 

As I was preparing to file, a colleague messaged me. A cnbc reporter was tweeting that he had just spoken to Chanos, who said that his space exploration comments had been in jest. He was, in fact, skeptical about space stocks and the boneheaded reporters and investors listening had failed to hear his sarcasm. Space stock prices made a round trip back to Earth.

I was embarrassed and chastened, but I wasn’t in trouble. I wasn’t the only one who had made the mistake, and anyway, this sort of thing happens in markets every day. Hundreds of millions of dollars can appear or vanish in minutes on the basis of a misheard joke, bad information, a hunch, or a misleading pattern drawn on a chart. 

My first experience accidentally moving markets had come the previous year. In the spring of 2019, when then-President Donald Trump was threatening to close the border with Mexico, I wrote a short fluff piece about the less serious implications of a shutdown on Americans. According to a large avocado distributor I had spoken to, the United States could run out of avocados within three weeks. The piece went out early on a Monday morning. By that afternoon, the price of Hass avocados from Michoacán had risen by 35 percent. Seth Meyers and Stephen Colbert were making jokes about avocados in their evening monologues. The border was never officially closed, but the price of Michoácan avocados continued to rise, a total of about 141 percent, until mid-June.

I was mystified to learn in my first week as a markets reporter about a trading strategy that depended on identifying the “head and shoulders” pattern in a stock price’s performance. This pattern looks like a large peak sandwiched by two smaller peaks that are roughly the same size — imagine a tensed up person, with their hunched shoulders near their ears. Head and shoulders is one of the most reliable patterns in the market: If your stock is somewhere on the right side of the neck, you can expect it to rise back up to the same height as the other shoulder. 

I quickly learned that while the latest GDP figure is likely to affect the value of the dollar, and news that Pfizer has developed a vaccine will boost its stock price, a vast number of market moves are not the result of anything with a rational basis in reality. This will come as no surprise to anyone who witnessed the dramatic rise in meme stocks like GameStop earlier this year, when the value of companies that many had left for dead were pushed higher by small investors on the Robinhood app who were not, for the most part, betting on the prospects of the companies themselves. 

The more striking example, to me, is the U.S. stock market in 2020. The market had been hitting record levels for a decade until the coronavirus pandemic spread to the United States in March. Stocks plunged while safe-haven investments like U.S. government debt soared. The Federal Reserve aggressively intervened, and markets stabilized. But by summer, the stock market was hitting all-time highs again, in the midst of one of the worst economic crises the country had seen. Analysts and economists made all sorts of arguments about why it actually made sense that the market was booming while the economy remained shut down. It was the Fed’s backing; it was the strength of the tech sector; the economic data was slow and wasn’t yet reflecting the beginnings of a recovery that was evident to investors. 

There was truth to all that. But it was also true that the tech stock rally, which was driving the broader stock market rally, was being inflated by Japanese financial conglomerate SoftBank, which the Financial Times reported had bought billions of dollars worth of complex derivatives in tech stocks. SoftBank has since scaled back this equity derivatives business, according to the Wall Street Journal, but that has had no discernible effect on tech stocks. In other words, reporting on SoftBank revealed that the high price of tech stocks was not purely based on economic or corporate fundamentals. Yet the market did not right itself in response.

There has been a lot written about how the stock market does not reflect the state of the economy. It’s also not totally true: Many companies in the S&P 500 index were performing poorly while growth in the tech sector was propelling the index to record highs. But there is a serious disconnect between the stock market and the fates of U.S. workers, which has widened even more since the start of the pandemic. Bleak jobless figures, rising Covid cases, cuts to unemployment benefits, a new record for the S&P, a new record for the Dow, a new record for the Nasdaq. 

While everyone from the cable news dilettante to the most sophisticated financial analyst may breathlessly report to their audience what the stock market says about Joe Biden’s presidency, their children’s futures, or America’s status as a superpower, the connection between Wall Street and Main Street can be tenuous. Sometimes a CEO, someone we’ve been taught to respect for their wealth and success, makes a serious financial decision that moves markets. Sometimes stocks soar because Elon Musk wanted to make Grimes laugh by sticking a $420 price tag on Tesla shares. (Jeopardizing his career to make his girlfriend laugh: the only time I’ve truly related to Musk.)

In fact, when the market appears preternaturally smart, it can be for reasons we can’t explain. There’s a phenomenon in the U.S. government debt market that has predicted every recession since the 1980s: the inversion of the Treasury yield curve. It means bonds that mature far out into the future become more expensive than bonds that mature in the near term. Typically a bond that matures in 10 years is much cheaper than one that matures in two years because there’s a lot more time for something to go wrong. When a two-year bond becomes cheaper than a 10-year bond, it usually means investors think things are going to get worse within the next two years, before righting themselves in at least 10 years’ time.  

The yield curve inverted in August 2019, effectively predicting the Covid recession. But there was no hint the pandemic was on its way back in mid-2019. How did the market know? It may be that the economy was overdue for a recession after a decade-long bull run. But the economic data at the time didn’t show it. 

Since at least the advent of junk bonds in the ’80s — debt holdings in companies perceived to have a high likelihood of default — investors have depended on mispriced assets to make money. You buy something cheap and sell it for more money, or you bet against something expensive and wait for the price to fall. But the very premise of those bets is that you understand something the market doesn’t, and the market will behave rationally once that information comes. The era of markets governed by interplanetary quips, stonk memes, and Elon Musk’s tweets puts a fine point on what we already knew: If you’re depending on the stock market to reflect reality, the space joke is on you. 

Kate Duguid is a markets reporter for the Financial Times in New York.