Revisiting the Liquidity Liability

  • There are now $2.5 trillion worth of companies whose shares are trading so furiously that the entire share base of the firm is changing hands in 40 business days or just two months
  • We recently wrote an in depth White Paper on the unusually high risks associated with the market’s most liquid stocks
  • We recently explored Warren Buffet’s comments on the importance of stable shareholders and low turnover in our recent Quick Take

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There are $2.5 Trillion of companies that are effectively sold in their entirety every 40 business days. For app intensive active traders, pattern day traders and those who want to start bear trading, history suggests caution. Frantic trading of speculative assets will definitely make your broker rich…but not necessarily you.

Total Market Cap of Companies Where 100 of Shares Outstanding are Traded Every 40 Business Days

Day Trading for Beginners – A Stop Loss Does Not Stop Losses

The chart above makes it clear: speculative short term day trading is bigger today than 2000. As people dive into day trading strategies that react swiftly to price movements, millions of new trading accounts have been opened. From technical analysis to swing trading to betting on “yes-or-no questions” the frenzy is ubiquitous.

This next chart is even more disconcerting in our view.

The chart shows the average market cap of the firms being sold every couple of months. The number is astounding.

Today the typical firm being turned over every 40 days has an average market cap of $60 billion dollars. For context, a $60 billion dollar market cap is bigger than 95% of the companies in the Russell 3000. Our piece on the duration of equities emphasizes that many of these names also carry enormous interest rate risk.

These are huge companies being tossed back-and-forth like hot-potatoes. We live in an environment where the word “trillion” has become shockingly common. We believe it is easy to forget that a company with a $60 billion market cap is in the top 5% of the largest firms in the United States.

Average Market Cap of Companies That Are 100 Sold in Just Two Months

A $60 billion market cap firm should have a formidable profit engine substantiating that extraordinary market cap. If it lacks fundamental merit, it is a speculation that may eventually face a reckoning with economic reality and high expectations. The table below shows that the “High Turnover Firms” we feature in this piece are much more the latter (speculations) than formidable firms.

Despite negative free-cash-flow these companies trade at over a 50% premium to the market based on EV/Sales (5.0x vs. 3.3x). Even worse, the firms are funding their operations by issuing equity. We calculate “Total Yield” as dividends + net (issuance) or repurchases of stock. These “hot potato” firms are diluting owners by -3.3% annually.