We have allowed so many different ETF baskets to be created that there are now whole stocks that have become nothing but chits in a bizarre, larger, game -- not of investing, but of wagering.
And if you don't know if your stock is in a basket that is being used actively by moron managers flitting all over the place, the kind that Warren Buffett calls out constantly as expensive doofuses, then you may have no idea why your stock is hopping around like a Mexican jumping bean, even though nothing has happened to the underlying company.
Now we know that the FANG stocks are in 10 different ETFs, and their movements on a given day have now actually tended to be driven by the action of the ETFs -- and not vice versa. The stock of Amazon (AMZN) shouldn't have been up 114 points yesterday without at least something happening at the company, aside from the Long Island City HQ news. That's a big move, a 6% move. But it is all about money managers saying stupid things like "risk on" or "tech's working," and they reach for whatever FANG ETF they can find. And they reached for the FANG ETFs in spades, which is how Amazon's stock made that gigantic upward move.
But there are some totally abusive ETFs out there that really do unlevel the playing field and make a mockery of the whole business. I am talking about the ETFs that really mimic the actions of portfolio managers themselves. Traders use these gambling tools as a way to actually bet on someone else who is actively betting at a roulette table. These voyeuristic ETFs are completely hidden, and yet they are controlling the movements of the stocks of a host of companies.
Take two of my favorite companies: Visa (V) and Mastercard (MA) . They are both terrific at what they do, with sensational CEOs and worldwide businesses that are based on the fundamental principle that the world is going from paper to plastic. I interviewed Visa CEO Al Kelly not that long ago for Mad Money. I was so impressed with what he's doing to expand the business worldwide, while at the same time buying back 1.4 billion shares over the last seven years, taking the count from 3.9 to 2.5 billon. He's beaten the numbers consistently. Ajay Banga's done equally as well for Mastercard as Al's done for Visa. Ajay just reported a blowout quarter.
You may not realize, it but Visa and Mastercard are $320 billion and $215 billion companies, respectively.
Now you think that these fundamentals would matter somehow to how these stocks trade on a daily basis. But both stocks have the misfortune of being in the MSCI USA Momentum Index (which is tracked by the iShares Edge MSCI USA Momentum Factor ETF (MTUM) ). That's right, an index that groups together stocks with momentum so you can wager on managers who bet on momentum stocks. Visa's stock represents 5% of the index, with only Amazon and Microsoft (MSFT) being bigger at 5.9% and 5.4%. Mastercard is number five at 4.7%, right after Boeing (BA) at 5%.
The language and definition of this basket says it all: "It is designed to reflect the performance of an equity momentum strategy by emphasizing stocks with high price momentum, while maintaining reasonably high trading liquidity, investment capacity and moderate index turnover."
In other words, if you to load up with momentum, you load up with Mastercard and Visa -- and if you want short those with that strategy, you just slap on a short of MA and V, among other names, using this handy, completely manipulative basket, because at any given moment it is a far more powerful -- and I would argue pernicious -- force than the fundamentals themselves.
Of course, the problem is that this basket and others like it were all set up in a perfect world where there's ample liquidity and this tail wouldn't wag the dog.
But the opposite is happening. This index is strangling the dog. The market can't bear the brutal force of the MTUM -- and these two stocks have become playthings of this index, totally divorced on any given day from their fundamentals. When you see them vault or get crushed at the opening, it's more than likely this darned index is at fault ,not the companies themselves.
One day, these indices are going to totally take over the direction of the stocks, as the physical trading of the actual stocks can't handle the pressure these indices put on them.
What will it take to change things?
Simple. Some company has to wise up to the fact that these baskets are toxic to their shareholders, and actually bring a case against the makers to get out. If not, you are going to see stocks being destroyed -- and nothing will have actually been happening to the companies their stocks are supposed to be allied with. The baskets have made the stocks tangential to the companies themselves. Who does that help? The gamblers. Who does it hurt? Simple: you, the shareholder.