Capiche: Three Lessons from a Meme-Stock Boomer

Should you focus your attention on those meme stocks or look the other way? Here are some tips to consider.

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3 min read
Photo by Dan Saelinger

Key Takeaways

  • The stocks traders are buzzing about may have volatility and momentum but you need to keep your wits about you before making the trade
  • If you’re going to trade options on volatile stocks, know the dynamics of vega, gamma, and theta

You’ve been eyeing that meme stock. You’re eager to jump in, join the crowd, and ride it to infinity. Understandable? Yes. Sensible? Not always. This tale has played out before, and for many traders, it hasn’t been the happiest of endings.

Should you focus your attention on those meme stocks or look the other way? That’s up to you. But remember: Some lessons need to be learned the hard way. As with all trading, starting small may be the way to go.

Count to Three

On the surface, that latest meme stock has all the makings of a trade candidate—volatility, momentum, buzz. That’s all you need, right?

Not so fast. You also need liquidity. Plus, smart traders will try to anchor their decisions to at least one or more fundamental and/or technical points. There should be a reason to get in when and where you do, and the exit target should be something other than zero or infinity.

  1. There’s no chart. With your typical meme stock, it’s about the narrative. You’re not likely to find support and resistance levels, and a moving average crossover isn’t necessarily bullish or bearish. It could just be that a trader’s rolling out of a midsize position with no liquidity to absorb it. From a fundamental standpoint, there’s also often little to go on. There’s no such thing as a price-to-buzz ratio.
  2. Volatility is smarter than your account. Ever buy a call option ahead of an earnings report, see the company beat consensus by a wide margin, the stock rallies, and you lose money because implied volatility gets slammed along with the value of the option? That can happen. If you plan to use long options as part of a meme play, make sure you understand the dynamics of vega, gamma, theta, and the rest of those greeks.
  3. It’s not different this time. Mark Twain is widely credited as saying, “History doesn’t repeat, but it often rhymes.” Meme stocks may look like a shiny new toy, but there’s nothing new here. Every once in a while, conditions align for a perfect storm of unbridled animal spirits, excess money sloshing about, and a narrative that explains away those out-of-whack fundamentals. Once upon a time, it was tulip bulbs, then railroads, then the Roaring Twenties. A generation ago, it was Y2K and the internet. Now it’s the late-pandemic economy. Every cycle has its ups and downs.

Essential Trading Rules

Have you decided to forge ahead despite the clear cautions? Heed the lessons from those who’ve been there.

  1. Get a second opinion. Old-time journalists have a saying: “If your mother says she loves you, check it out.” In other words, nothing is certain, especially if based on one metric. Look around. An anonymous post in an internet thread shouldn’t count as due diligence.
  2. Detach from the noise. It’s easy to get caught up in the hoopla. In the dot-com bubble, the old rules and metrics didn’t apply to the so-called “new economy” stocks, as the payoff would be big, someday. After the dust settled, though, for every “Amazon” that eventually made it through, there were countless others that fizzled out.
  3. Create an exit strategy. Set your game plan and stick to it, for better or worse. You don’t need to go all in (or all out) at one price. And when it’s time to take profits (or losses), do it and don’t look back. No one goes broke taking a profit too soon. It may hurt sometimes, but it can help keep you in the game for the long haul.

There’s an old adage about knowledge and wisdom. Knowledge is learning from your mistakes, but wisdom is learning from other people’s mistakes. Most of us would choose wisdom. It’s often cheaper.

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Key Takeaways

  • The stocks traders are buzzing about may have volatility and momentum but you need to keep your wits about you before making the trade
  • If you’re going to trade options on volatile stocks, know the dynamics of vega, gamma, and theta

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