Rick Bloom Talks Money

Teachable Moments from GameStop

Episode Notes

Recently, the stock of GameStop, a brick-and-mortar video game retailer, temporarily soared, pitting day traders from the Robin Hood app against Wall Street hedge funds, who had shorted the company's stock. Today, Rick Bloom is joined by Scott Whyte of Bloom Advisors.  They break down the story, including many teachable moments that came from it.

There are risks to buying stocks and investing. It's not the same as gambling in Las Vegas. When done right, it's more about using research and data than a simple game of chance. And investing is about the long haul, not how a stock is going to do 2 weeks from now. We learn more from our mistakes than our successes, which is why "beginners luck" can be a dangerous situation for investors.

Scott and Rick explain the Robin Hood app, day trading, shorting a stock, and the dangers of buying on margin.  Also, there's more to this story than David vs. Goliath - especially the risk to "David."

In the end, it's about diversification and investing for the long term.

Finally, as always, Rick answers listener emails.  Today he covers land contracts versus mortgages, as well as the need for estate planning. 

Note: Bloom Asset Management is now Bloom Advisors.  Find Rick and the team at https://www.bloomadvisors.com/  or call (248) 932-5200.

Episode Transcription

Rick: [00:00:00] Hello, and welcome. I'm Rick Bloom and welcome to Rick Bloom Talks Money. I'm a certified public accountant attorney financial advisor, and the goal of our podcast is real simple. To help you make better decisions with your money, because I believe. Money looks better in your pocket than it does anywhere else.

Independent financial advice. That's what you're going to get from his podcasts at all times. And my pledge to you is we're not going to talk geek, speak. Simple everyday English. So you can understand also want to remind you that at the end of every show, we're going to take your question. So if you have questions, you'd like me to answer on the podcast.

Rick bloom at Rick balloon talks, money.com is the email that is Rick at Rick Blum talks, money.com. Any comments, any issues you want me to cover on the podcast? Please email me today. We're going to talk about GameStop, not necessarily about the stock itself, but what happened. And there are so many teaching moments.

And with me is Scott White. Scott works with me at bloom advisors sits on our investment committee. Scott has been involved in the investment world for his entire career and just like me, Scott has a passion to teach investors to become better investors. And there are a lot of teaching moments when it comes to the game.

Stop stock. Scott, hello and welcome. Thanks for joining us again.

Scott: [00:01:28] Oh, thanks a lot, Rick. I appreciate you having me on the podcast. It reminds me of the early days, when we met, which is probably 25 years ago, and you mentioned. And I remember how that kind of sprung up. I reached out when I was working at Charles Schwab at the time to clarify how they handled mutual funds.

And it's always been about trying to educate both make sure that investors can take advantage of it. The tools that are available to them. That's one of the interesting things about this game stop. Dilemma is probably the word that I would use is that it's one of those kind of situations that crops up from time to time with the market that I just I fear for investors and not put investors in retail investors.

Aren't smart people, but just that there's so many ways that you can be taken advantage of or weighed into some areas, not knowing what the risks are.

Rick: [00:02:22] It's important that people recognize that when you invest in stocks and you buy stocks there are a lot of risks that sometimes people forget about. They let their guard down and you can't do that when it comes to investing. So I guess in looking at some of these teaching moments from GameStop stack, the first one I like to talk about is.

Scott, there's a difference between investing and gambling. And as far as I'm concerned, the people that got caught up in the game stop frenzy, they really weren't investing. They really were gambling.

Scott: [00:02:59] Oh, exactly. I would agree with you on that, Rick, because to me. That w when you're investing, you have a plan, right? And generally those plans are longer term. And when you're an investor, typically you're building on a set of investments. You're having some diversification. And I think the big difference with GameStop and why I would agree with me that it's more of a gambling approach is that some news people that put money in, they had a plan, but the plan wasn't well thought out, essentially.

It's now it's 50 now. It's 75. Next step. It's going to the moon. And they had through Reddit through the wall street, investors had the comrade in arms approach that, Hey, I'm in, but you know what? This random person on the Internet's also in him and his buddies are also in, we're all gonna make some money, but I don't think many of these investors really stepped back to look at, the company itself, do they have a good business model? Is this something that's undervalued? Is there a fundamental change that's causing it to go up? So you know, you have some issues there, but again I think the big step that many investors made, they may not have invested anything before.

And their first step was to put up a big chunk of their investible assets in one company.

Rick: [00:04:23] and people forget what makes a good investment is how it fits into your portfolio. And that's a question that investors need to ask themselves. And when you're looking, how's an investment going to do two weeks from Tuesday. That's pure gambling because investing is for the long run and you have to look at how it fits into your entire game plan.

And if you only buy the stocks that are hot, that means that eventually all those stocks are going to go down. And so I think it's gambling because people are looking two weeks. I got to make some money today. And I think that's the mistake that people have to realize. Investing is for the long run because, Scott, we saw it, go back 20 years ago, we saw a day trading become very popular and probably about 99.9% of the people that got involved in day trading lost.

And isn't really this just another form of day trading.

Scott: [00:05:22] Oh I think it absolutely is Rick and I've heard the same kinds of things from the same type of people. Hey, I'm thinking about giving up my day job. Yeah, I put a hundred bucks on something and it went to 150 yesterday. So if I can just continue to do that, I don't need to work for a living. I'm not kidding you. I've heard those very same things back in 1999 and 2000. It was scary at that time.

I remember telling people, you really need to step back and think about, what's going on here. And the worst thing that can happen, I will tell you that the novice investors in my humble opinion is that they can get lucky and be right on their first investment.

But they, whether they've researched it or not, because. People tend to learn more from their mistakes than there are winners. And I see what kind of environment with dinner, especially with people locked down and not having a lot of things to turn to. Stocks have gone up really well since last March after the big debt.

And it can seem like it's just easy to make money in the market because you put some money in and a few days or a few weeks later. But there's, what's missing business perspective. This isn't how markets are all the time. We've gone through periods of time where, you know, back when the tech bubble burst in 2000, we went through three very tough years where markets for the most part, make money.

And really discouraged a lot of investors. Hopefully we're not, at that same precipice again, but I would say investors need to be wearing the same way that they were back then, as you can't get swept up in the herd, just because your neighbor or your brother-in-law said, they're making money on whether it's GameStop or cryptocurrencies or, whatever the next fad is.

Rick: [00:07:12] And you know what Scott, I think because particularly retail investors, it seems that they have this fear of missing out, Oh my God, I better jump on this because I'm in a miss out making a lot of money. They don't realize that they focus only on the fact they can make money, not lose a lot of money. And that ultimately what happens when you look, short term,

Scott: [00:07:35] Yeah and you know what similar to that is gambling, because I don't know about, many gamblers over your life, but I certainly have a few family members whatnot. And what's always interesting is they always tell you about your wins. But they never tell you about their losses,

Rick: [00:07:54] so true, Scott and I always tell people they don't build those big, beautiful hotels in Vegas because people make money. When you gamble, you generally lose.

Scott: [00:08:07] And that's one of the concerning things to me too. Rick is right now, as I hear people express that point of view is much how we view Vegas as well. People will say the stock market's gambling. It's just like Vegas, there's no difference between the two, but me personally, I think there's a huge difference in the gambling.

There's a game of chance and whether it's dice or cards or you name it. And when it comes to investing, yes, you can buy a stock and it can go down when you thought it was going to go up, but there's a lot more tangible. Points of data that can be looked at and evaluated, is the company making money?

Are they growing their sales?

A product failure that they can recoup from there's a lot of fundamental information with companies that can help investors make wise choices. If you think of one of the personalities, CNBC, Jim Cramer, he seems to be all about trying to try to help newer investors understand the stock market.

And I think he does some good at times because he tends to focus on, encouraging people to do their research and to look at the fundamentals. He's not a guy who's out there saying The chart says, it's going to go up or it's going to go off. I appreciate that.

Rick: [00:09:33] but, I think it's important for investors to realize sometimes good investing is boring and there's nothing wrong with that. And I think that, sometimes you have these apps like Robinhood, And Robin, Hood's an app for those who you don't know that you can buy stocks from your phone.

There are no commissions. You can buy fractional shares and they gave a five, the, the process. And it's very exciting when you, you buy a stock. Investing is a little boring and it shouldn't give you that immediate excitement that gambling would.

Scott: [00:10:11] Oh, true. And I think that's probably one of the things that people were focused on that. It would help them to avoid some of the errors or problems with the decision-making and you hit on it right there. It's the feeling is that one of my favorite sort of movies about finance, which goes back to your wall street, And one of the lines in that is that talk about you don't want to get emotional and that's really it, to be honest, it was a fictional movie based on fictional characters but it was a real good truth about investing is that you don't want to be emotional about investing you, you want to approach investing in a pragmatic, rational way.

And if you feel that you're making an emotional investment to be Frank, you're probably making a mistake.

Rick: [00:10:56] I tell investors all the time, Scott, that there's two emotions that kill investors, fear and greed. And when you make a decision, either based on fear or greed, almost always, you're going to make the wrong decision.

Scott: [00:11:11] Oh, absolutely. Yeah. Having a conversation with a friend about this and the friends said don't you think it's a good idea. The hedge funds are a lessons, a lot of the hedge funds. The idea of being people flood in the stock will go up dramatically. And therefore these hedge funds that were short, the stock would lose money.

When you're short you're selling at a low price, you have to buy it back at a higher price. You're losing money. And what I said to my friend is I said, you know what? I had to go. I really generally don't him to hurt other people or to make a point so big. I'm asked to make money for myself, and to achieve my goal.

And I think if you're in cold or to show the hedge funds, they're bad people, you're probably going to get into trouble or lose your investment. And let's face it, a regular investor or somebody loses a few thousand or $20,000 loans. Yeah. That's going to make a difference in their life. These hedge fund folks, they're billionaires.

If they lose 10, 20, 30 million on this investment, it's not going to change their lifestyle. But for a lot of regular folks, it will change their lifestyle. If they get this wrong.

Rick: [00:12:31] That is so true. And Scott, so many people put this as a David versus Goliath. That Goliath was the big, bad hedge funds. And David is the, the small retail investors. And it sounds like a good story, except when you realize how many of those David investors have lost big time and it's more than.

It's more than that. They bought the stock, but so many of them also margined their accounts and I'm not so sure people really understand when you margin what that means. And maybe you could explain what you know, margin is. Scott.

Scott: [00:13:12] Sure can. Yeah. So when an investor buys on margin, what they're typically doing is borrowing money from the broker using cash that they don't have. To get extra leverage on a stop. Maybe an investor has enough money to go and buy 10 shares and they want to buy 20 shares. With margin, you can do that $10 or 10 shares of the stock and bought with your own money.

The other 10 shares with stock was bought with the brokerage firms money. And now all of a sudden, instead of just investing or risking what you have, you're also risking the brokerage firm money. But the upside of that is if you're right you can make twice as much money because you've doubled your investment.

The downsides are a couple, which is that, if you're wrong, you can lose more. In fact, more than you, you actually put in. And you're really giving a lot of control the brokerage firm at that point through the aspect of potential for merging calls. Which just means that if a stock you bought on margin goes down a certain level significantly.

So you can actually be forced into a situation where the brokerage firms. So you either bring us more money to cover a margin call, or we sell the stock at a loss. And so you have that issue to contend with. And the other one is just merging insurance, which is that for every day, much like a loan shark, when you're borrowing money from the brokerage firm to purchase things on merging, you're paying margin interest for the brokerage firm on an annualized basis, the merchant rates tend to be about eight, 9% which is significant.

And it's an additional. That allows investors to, have leverage and a bigger investment than otherwise, but it makes them more difficult to make money in that trade. Your first 8% has to go to the broker.

Rick: [00:15:05] And a lot of people, when they hear margin they D they don't really understand that if you invest 10,000 and you margin in the account, you could easily lose 15 or $20,000. And it's a strategy that I generally recommend that most investors stay away from because it just increase your risk unnecessarily.

So I'm not a big fan of a margin. Now, the other thing that you briefly talked about it was this whole thing got started because the hedge funds were. Short selling game stop stock. And what that means a Scott pointed out, they're basically borrowing shares today, selling them today and hoping that the stock falls into the future.

So when they have to repay the stock, they're buying it at a much lower price and hedge funds do short sales all the time. And so to individual investors, Again, Scott individual investors have to be careful about following a short-stay sales strategy. Don't they.

Scott: [00:16:11] Oh, that's absolutely right. And what's interesting about it is with the strategy that you're fine. And again, I don't think this matters whether you're a hedge fund investor or. Typically companies that are in really bad shape, tend to attract short sellers because the thought process is that fundamentally, if a company is on the ropes, then there's a greater likelihood that the stock declined to zero.

If you shorted that, whether it's $50 or $40, doesn't really matter, the idea is you want it to go much lower than where it is. And I think sometimes people see that as praying, but ultimately it's just taking a position and keep in mind though the lower, the share price of the stock.

The more risk you're taking on. As an example is that if you have a stock that you short at $10, the most you can make on that stock, if it goes in the right direction to zero $10 a share, that's your maximum profit on the flip side, if it goes your way or it goes against you, that can go from $10 to 20, to 30 to 4,400 as an example.

And it can upside for stock prices on limited. And which means that as a short seller, your risk is actually on limited, other than what the brokerage firm might force you to do, make a margin call close out of a position, things like that.

Rick: [00:17:45] And when you use short sales, along with margin your loss is, can get pretty large, pretty fast.

Scott: [00:17:54] Exactly and the thing to keep in mind too. And we saw this late last year with some of the Robin hood investors, is that, it's one thing to understand the risks that are involved, but it's another thing as to what's showing up on your phone or computer. As far as what the risks are involved. And I know a little bit off the path on this topic, there was an investor last year who was a Robinson investor and was involved in options.

And one morning he woke up and thought he owed Robin hood $750,000 as a margin call for option trades that he had made. And it just accounted to, it appears. No problem with the app, recording the information incorrectly the very next day, it shows that the investor good notes, 750,000. In fact, it appears that his account might have been actually at a small profit.

And those are the things that just worried me a lot. I look at them and there's not a lot of barriers of entry anymore. And as we talked about, there's no commissions in most cases anymore. And people feel like there's not much that they're risking. But when you combine, lack of commissions as a barrier availability margin and the building short, huh?

Rick: [00:19:12] And the end of that story was that investor committed suicide. And which was just a tragic ending, Scott, one of my beliefs, I've always told investors that, when you do your research, you have to look at independent information. It really is the key. And so many people.

Got their information about stop, from Reddit and other social media sites. And I think that's something that investors have to realize. Anyone could put anything on social media and you just can't depend upon it.

Scott: [00:19:48] Oh, it's true. And I think that absolutely Rick, one of the things that has fueled this recent phenomenon with stop and some of the others like AMC entertainment is that people read things whether it's Facebook or Reddit or you name it. And unfortunately, they take it at face value that it's the gospel truth, and they're not really looking elsewhere to do some research or again, this has been happening for years, someone will come on CNBC business channel and talk about something and people will believe it instead of really doing the research with anything, whether you.

Read about it on Facebook or read it through some other area you're just at the end of the day, it comes back to you gotta do your homework and know why you're buying a stock or any investment for that matter. The basic rules you've talked about for a year,

Rick: [00:20:44] And it's all important because you mentioned about, people going on CNBC. We've seen hedge fund managers on CNBC, talking down a stock and it's not surprising that they've shorted that stock and that's part of their strategy is get the stock to go down in value. So you have to depend upon independent information.

And again, it makes investing a little boring. But there's nothing wrong with that. And there's no shortcuts when it comes to investing. I think one of the,

Scott: [00:21:13] there really are. Yeah.

Rick: [00:21:14] and I think Scott, one of the other lessons to learn is people say doesn't the government stop this aren't there, government regulations.

And in my view is. Don't depend upon the government, particularly when it comes to issues like this is that the world changes at a very fast pace. The government can't keep up with the the regulations. We are our last line of defense.

Scott: [00:21:40] Absolutely. At the end of the day, right? It's our pocket book that we need to protect and our investment portfolio. And yeah, I wouldn't rely on the government in the short run or the long run because ultimately what happens. And even as we record this, I think people are getting ready for, speeches on Capitol Hill about the GameStop issue.

Bottom line is it's all it's after the fact, after people have lost money, that there becomes some interest and you can't always legislate safety. If we looked at one of the biggest Ponzi schemes that happened the last one year, it has to be paid off. And that person was a registered investment advisor and they had a brokerage firm and he was monitored by the FCC, all the time.

And yet that Ponzi scheme existed in a flourish for literally years and year the government oversight.

Rick: [00:22:37] that is such a great point to bring up, the reality is that government doesn't have the resources and, Bernie Madoff was the most famous sponsee schemer, but there has been a lot more of those guys over the last 20 years. They happen all the time. And that's why it's so important for investors.

You have to. Realize you are your last line of defense. You have to do your homework. You have to ask questions. And as far as I'm concerned, if it's not independent information, it's information, you can't rely upon. Because today with the internet and social media, anyone can say anything and they virtually get away with it because you have no idea.

If what's being put on Reddit is some 18 year old guy in the Ukraine, that's putting it up.

Scott: [00:23:28] Oh, it's true. Or an army of bots,

which still could be one guy in the Ukraine or elsewhere.

Rick: [00:23:38] Or one guy, one guy in his basement.

Scott: [00:23:42] I think the online social media aspect of it is just the newest Avenue of, sort of manipulation that can occur. But has it been occurring for decades? Back in the early days of computing, there were, investor bulletin boards, that kind of stuff. And you just don't know. It's unfortunate too.

There's a lot of anonymity available through social media in a lot of cases. Like what we found out just recently from the news media is that the, the ringleader who was coordinating this, if there was some coordination through the wall street to find out that he was actually a registered broker and pumping the stock for the last, five or six months and as you, and I know that's not proper, initially I said, this guy might be okay because he's just an individual investor.

If he's a broker and advisor and it turns out that's who he is,

Rick: [00:24:49] And look

Scott: [00:24:50] be an issue.

Rick: [00:24:50] there'll be lots of lawsuits. We're going to learn a lot more about this, but as an individual investor, we have to watch our individual pocket book. That is the most important thing, Scott, in our last a minute or so, any further comments

Scott: [00:25:05] Yeah. I would just say, as a general rule, this to me is a reminder of diversification that what investors should learn from this is that if you want to be successful in the long run, you gotta do your research. You've got to look at long-term and you have to be diversified.

Can't put all your eggs in one basket.

Rick: [00:25:23] And I would always remind every investor about something Warren buffet size. It's not timing the market. It's time in the market that makes someone successful. And I agree with that. If you're looking short term two weeks from Tuesday that's pure gambling stock market is not where you should be.

Scott on that note. Thanks so much for being there today. I want to get to some of the questions that we got from some of our listeners, and always remember, you could email me questions, Rick, at Rick bloom talks money.com. So the first question comes from Sherry, my husband and I are by my parents' house.

My parents said they would give us a land contract and only charges 2%. Is a land contract better than a mortgage. We shopped around for a mortgage. And the best rate we can get was a little over 4%. Sherry, first of all, there's a difference between a land contract and a mortgage. And the big differences is where the deed is.

So when you get a mortgage, the deed is in your name, you and your husband's name. And the mortgage company have a lien on your property. When you have a land contract, the deed actually stays in this case, in your parents' name. And it only becomes deeded over to you when you pay off the land contract. In most cases, that's a relatively minor difference to me.

What you should focus on is the fact that when you get a mortgage today, They're not cheap. They're expensive by the time you do you pay the points, the costs, the title searches and everything of that nature. You're talking thousands of dollars. So the fact that your parents are willing to give you a land contract, you're going to save that money in fees, and also you have lower interest rates.

All things being equal. I say, take the land contract because you're going to have lower interest rate, lower fees. That means more money in your pocket. And I always believe the money looks better in your pocket than it does anywhere else. Now on the other hand, if I w there was no relationship and I was a seller, if I was selling my property, I wouldn't want to give a land contract because I'm not the bank.

I would tell the person you can go to get a mortgage because if I am the owner of the land, I still have liabilities on that property because the properties in my name, it's still I'm the deed holder. And so typically if I'm selling and there's no relationship whatsoever, I want to get a mortgage.

I don't want to get a land contract. Land contracts were popular a number of years ago when interest rates for mortgages were through the roof. You go back into the eighties. When I got my first mortgage, my very first mortgage was 12 and three quarters percent adjustable. So land contracts at that time were generally 10, 11%.

They look much more favorable, but again, as a seller, you have additional liability. Next question comes from Greg. Everything I own has a beneficiary where I've named primary and secondary beneficiaries. I do not own any real estate. Why do I need a will or any sort of estate planning, Greg? The answer is simply yes.

Every adult at least needs a will. And maybe none of your property is going to pass because your will, because everything is jointly owned. However, what the will does is cover your backside. What if there's something you forgot about? If you have a will, it's going to make things easier. And your beneficiaries, in addition, let's say, God forbid your death occurred because of an accident.

And your family wants to bring a lawsuit. Having a will is going to help name. Who's going to be in charge of that lawsuit. In addition, Greg, it's not, the state plan is not only dealing with death. It's also how to handle a family emergency. So you still need a medical power of attorney and a durable power of attorney.

So that if something happens to you, someone can step in and handle your affairs. So I believe state planning is for every adult in Michigan and at a minimum, you need a will. Now in Greg situation, he may be able to take advantage of the Michigan state, a Tory will, which is a free fill in the blank will and free is my favorite word in English dictionary.

And it can just be a cover, to cover your backside. But again, estate planning is for everyone. Even if you have beneficiaries on everything, you still need a a will. So on that note, I'm looking at the clock. Our time is just about up for today. Want to thank you for the company? One of the things Scott for Joining us want to remind you that?

Our email is Rick at Rick Blum talks, money.com. Any comments, any questions, any ideas that you have for the podcast. We'd love to hear from you. Thanks so much for the company. I enjoyed it. Hope you do too. We'll see you next time. Bye now.