Speculation is Now a Feature, Not a Bug
Going from meme stock to meme company
Rational minds seem to agree that it’s only a matter of time before any given meme stock embroiled in speculative fervor comes back to earth; however, there’s a contrarian perspective to consider. If a company in a speculative boom raises new equity capital at cheap (to the company) prices, and the company finds ways to deploy that new capital at rates of return that justify speculative prices, it’s possible for the company to grow into and beyond its speculative valuation. This outcome will be the exception to the rule, but it’s somewhat analogous to venture investing.
In venture, companies with extreme potential are offered valuations far beyond fundamental support. Clubhouse recently raised money at a $4 billion valuation with no revenue. It has 10 million weekly active users. The $4 billion valuation probably implies around $500-1,000 per daily active user (my estimate based on weeklies). For comparison, Snap trades in the low $300 per DAU range, and Twitter trades in the low $200 per DAU range. An investment in Clubhouse is certainly more speculative than an investment in either Snap or Twitter given the latter have posted FCF positive quarters in recent history. The bet with Clubhouse is that the company can deploy the money it raised to continue to grow its user base, begin to generate revenue, and ultimately scale toward a Snap or Twitter-like outcome. Scarcity also factors into the equation given there are few private companies that even have a chance at becoming the next Snap or Twitter, and scarcity always demands higher prices.
Now, let’s do AMC Theaters. AMC, the hottest meme stock today, is up ~170% in the last week. AMC’s market cap is $25 billion, about the same as Zillow’s. The company took advantage of the speculative fervor, raising over $1.2 billion in new capital through at-the-market (ATM) raises. What if the company finds creative ways to deploy the $1.2 billion into new products or other investments that generate tech-like rates of return? What if they start a streaming service? What if then they keep raising more capital at seemingly inflated equity prices and keep deploying that capital into strong rate of return activities?
I don’t expect any of this to happen. The most likely scenario is AMC eventually returns to some valuation near where it was pre-pandemic ($6-10 vs ~$50 today), but there is some potential scenario, no matter how small, that could see AMC grow into its speculative valuation. If we live in the meme stock era long enough, some company will figure out contrarian ways to win the speculative capital deployment game and grow into and beyond a seemingly insane valuation.
Speculation is now a feature, not a bug, of the equity markets. Investors and companies should be aware of this shift. Historically, speculative booms have been derided by “boomers” in the parlance of young speculators, but we live in an era of extreme outcomes. The hyper-networked nature of the world demands extreme outcomes, and the stock market is not immune. It’s possible with hedge funds factored into the meme stock mix, outcomes will only get more extreme.
Roaring Kitty made millions on his GameStop trade. Most people will end up with zeroes. Some retail hero will make millions on AMC. Most will end up with zeroes. The retail trader will always have a taste for the extreme, and meme stocks, like SPACs, provide an outlet for extreme potential.
From a company perspective, there are three paths when they become a meme stock. One is to ignore the speculative boom. Let is pass. Don’t raise capital. Focus on your core business. Two is to accept the speculative boom with a long-term view on stock price. Raise cheap capital. Know that your stock is going to tank at some point. Deploy that capital as attractive opportunities arise. Three is to accept the speculative boom with a venture mindset. In this case, the company must chase growth aggressively. This means new product, user acquisition, and creative M&A. The third strategy is the riskiest and very few will do it successfully, but those companies that figure out how to do it jump from meme stock to sustainable meme company where the valuation doesn’t look so insane.