By Mark DeCambre
Thomas Peterffy boasts a decades-long career on Wall Street as a pioneer of stocks and options trading, but recently he has seen something that he’s never witnessed before on his trading platform.
His clients are net short the market. In other words, they are holding positions that collective imply that investors are wagering that stock values will fall eventually.
The market veteran says that this phenomenon has played out over the past several trading days on Interactive Brokers Group Inc. /zigman2/quotes/208880397/composite IBKR +2.46% and he’s never quite seen anything like it before on his platform.
“Our clients always make money when the markets go up and lose money when the market goes down, but for the past 5 days or so, it’s been the other way around,” told MarketWatch in a Wednesday interview.
Interactive Brokers was founded by Peterffy in 1978 and its electronic trading arm began operating around 1993, and since then it hasn’t had setup in which clients were collectively positioned to make money on a slump in overall stocks.
The condition comes as equities have soared in 2020, with financial markets rebounding from the greatest public-health disaster in over a century, one that has rocked the global economy and temporarily sent U.S. stock indexes reeling back in March.
However, the ensuing period has been marked by a stratospheric rise in stock prices that many say has been led, at least partly, by individual investors hoping to capitalize on the prospects of a post-pandemic economic renaissance, as social distancing and lockdowns to limit the spread of COVID-19 are lifted.
Since a bear-market nadir seen on March 23, for example, the Dow Jones Industrial Average /zigman2/quotes/210598065/realtime DJIA +1.06% and the S&P 500 index /zigman2/quotes/210599714/realtime SPX +1.49% have soared by well over 60% and the Nasdaq Composite Index /zigman2/quotes/210598365/realtime COMP +2.32% has rallied nearly 88% since that point.
However, many market participants are growing anxious that stocks may be priced for perfection, including Peterffy’s clients.
The Hungarian-born entrepreneur says he thinks that the market is due for a pullback, but would disagree with his clients if their short positions imply a longer-term retreat for equities.
“On the long term, there is so much money flooding the economy and it has no place to go and people have to alternatively buy stocks…and what else can you do with your money?,” he said of the thinking behind the market’s rally and why he sees more of the same in the coming years.
The Federal Reserve has held interest rates in check at or near 0% and signaled earlier this month that they aren’t intent on raising rates until at least 2021. Meanwhile, the U.S. government has plowed trillions of dollars into the economy to help troubled American workers and businesses and there are expectations that there is more to come under the administration of President-elect Joe Biden.
“In the long run, the market will have to go up,” Peterffy told MarketWatch.
The stock pro believes that his clients are probably aiming to protect their investments from a sharp downside move, especially given rallies for stocks like Tesla Inc. /zigman2/quotes/203558040/composite TSLA +3.16% , which has soared some 730% so far in 2020.
Buying protection against those assets may be a better alternative to cashing out and paying taxes on a sale, Peterffy noted in a separate interview on CNBC on Tuesday.
Peterffy said that the cost of selling protection, as an insurance company would to buyers of insurance, may also be encouraging net selling among his clients.
“Out of the money call options are way overhyped. They are incredibly expensive,” he said, referring to option contracts which give the owner the right but not the obligation to buy at a certain price and time.
Peterffy is known as an options expert and individual investors are increasingly using options as ways to gain exposure to markets or hedge their bets. Options are seen as easier to manage because an owner of a call option can capture the upside of a given stock for just a small percentage of the stock’s price, but they can be risky.
One other issue vexing, Peterffy is the use of margin debt. The Wall Street Journal reported that investors borrowed a record $722.1 billion against their investment portfolios through November, citing data from the Financial Industry Regulatory Authority, topping the previous high of $668.9 billion from May 2018.
That is seen as a potential sign that market’s are getting frothy and individual investors may be in for major pain if stocks retreat suddenly.
Peterffy’s major complaint is that Interactive Brokers is seeing only a small slice of that action even though the company has billed itself as one of the cheapest places to get margin debt, compared to its competitors .
“Many people are unaware of the margin rate that they are paying,” he said. A fact that some might find even more unsettling as stocks scale greater heights and investors take out loans in hope of richer returns.