Drama in the market

Investment markets used to be dominated by individual investors, and people like Warren Buffett were lauded as highly successful

THE week before last saw a major change in the usual headlines that we read about the stock market. It was a classic David & Goliath story – individual investors alerted on social media took on some of the giant hedge funds to buy stock in a company that they had sold short.

Short selling is when a fund manager borrows stock and immediately sells it in the expectation that the price will fall so it can be bought back at a lower level. The impact of the co-ordinated purchase of the stock took the market by surprise and caused real difficulties for one or two of the giant hedge funds.

Shock waves reverberated around the market that this could happen, but last week saw a reversal of fortunes as the stock that had been at the centre of this situation collapsed by 80 per cent. Ultimately the hedge funds did not bear the brunt as much as individual investors although there were winners and losers on both sides.

The impact of this has been to shine a light on the trading activities of large and small investors and the US Securities and Exchange Commission has announced an enquiry into the whole debacle.

Investment markets used to be dominated by individual investors (something that has long gone), to be replaced in the boom years of the 1980s by the large pension funds. In the main this meant that it was still dominated by investors who would buy and hold on a long term basis; there have always been traders, but it was people like Warren Buffett who were lauded as highly successful.

For many years there has long been a development of new ways to trade in the market: options, futures, contracts for difference, many of which are available to the sophisticated individual investor.

However, it is the large hedge funds that have recently dominated markets and with their much shorter time horizon the whole nature of stock market investment has changed, with the increase in volatility becoming a notable feature.

This does not mean that there is no place for individual investors, on the contrary, as shown by the recent experience they have an important role to play in the market. There is a growing awareness of how important it is to hold companies (and funds) to account, shareholders have made sure that executive pay is properly scrutinised, for example and there is much more pressure to ensure funds exercise their voting rights in an open and transparent way.

There is also now a growing awareness of ethical considerations: there is much more information available as to an individual company's ESG profile – environmental, social and governance factors, which echoes the growing awareness of how vital climate change is.

This is gathering momentum and has changed the way professional investors assess stocks. It all demonstrates how important individuals are in the investment world and frequently initiate the process of change.

:: Cathy Dixon is a partner at the Belfast office of Smith & Williamson Investment Management. This article does not constitute a recommendation to buy or sell investments and the value of any shares may fall as well as rise.

Enjoy reading the Irish News?

Subscribe now to get full access