23 June 2020
Strange manifestations are happening in the stock market. The entire rental car industry has been devastated by the decline in travel since the coronavirus pandemic hit earlier this year. Hertz, drowning in nearly $20 billion of debt, filed for bankruptcy last month. Nearly two-thirds of its revenue comes from rentals at airport locations and with traffic plummeting by 90% compared with a year ago, it’s hardly surprising that the company has hit serious problems.
Filing for bankruptcy doesn’t necessarily mean that a company will be forced out of business, some companies go on to post profits, but many companies don’t survive the process. When a company goes down this route, the equity value generally falls to zero and the intrinsic value, once creditors and bond holders have been paid, goes to the equity holders.
Hertz recently announced plans to help raise cash and a bankruptcy judge, whose main interest is in protecting creditors who are owed money, approved the sale of its stock just over a week ago. Despite Hertz warning that the stock was likely to be worthless at the end of its bankruptcy reorganisation, investors started snapping up shares.
Why is this? Trading apps such as the Robinhood app, launched in 2015, offer commission-free online trading and have attracted a vast number of users. The Robinhood app currently has over 13 million active users! During lockdown, day trading has accelerated, creating herd movements where stock prices go up and down like a yo-yo.
Fractional trading, where you can buy a portion of a stock, has also meant that markets are more accessible to more people.
Smart phone investors aim to make money fast by using a technique called momentum trading. When markets open, they pile in and buy stocks at a low price. If the price goes up, they sell out in the day, making a tidy profit. When stock was released for sale, investors started buying shares in Hertz, causing a stock rally and driving up the price by around 250%!
Some believe that this kind of trading is risky and irresponsible. Billionaire investor Leon Cooperman has predicted a stark reckoning for amateur investors who are piling money into stocks with commission-free apps – ‘They are just doing stupid things, and in my opinion, this will end in tears’
The bankruptcy judge ruled that $500 million worth of stock could be placed in the market to raise money for the creditors but the Securities & Exchange Commission (SEC), with investors’ interests in mind, started looking into the matter and the plug was pulled on the planned stock sale last Thursday. The finance committee of the board of directors determined that it was in the best interests of the company that the program be terminated. Hertz still needs to raise cash to fund operations while it tries to reorganise and stay in business and will most likely now borrow to stay afloat.
The markets are already distorted due quantities easing (QE) being pumped into the system and continued uncertainty over the future, making stock valuation complicated. Loose monetary policies and participation in the markets by those who may not be as financially savvy as regular traders has created wild movements and instability and the Hertz scenario is an example of what some may call ‘crazy behaviour’ manifesting itself in the markets.
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