Little Fish Replaced by Sharks in Driving Speculative Stocks

(Bloomberg) -- Some of the hottest retail trades have been hijacked by professional money managers.

From unprofitable tech companies, to Chinese electric vehicle makers, to space-tourism company Virgin Galactic Holdings Inc., institutional cash is in the driver's seat according to Ben Onatibia and Giacomo Pierantoni of VandaTrack Research.

Just look at the $25 billion ARK Innovation ETF (ticker ARKK), which has rallied by 29% since mid-May. In that period, appetite for the fund among individual investors actually cooled, according to Vanda data, which tracks traffic on retail trading platforms and industry-wide order flows.

Purchases from individual traders has been “very underwhelming,” indicating that “institutional investors have been responsible for the rallies in EV, Hydrogen, Space and other speculative stocks,” Onatibia wrote in an email.

The data suggest that hedge funds and professional traders are attempting to capitalize on the retail craze that's taken the likes of AMC Entertainment Holdings Inc. to 2,300% year-to-date gains. That's an opposite dynamic to the market platitude that retail traders -- so-called dumb money -- follow in the footsteps of institutional traders, and typically jump in when it's too late, according to CIBC Private Wealth Management's David Donabedian.

“After the retail wave, there were some hedge funds which said basically for investment flow reasons, ‘Sure, this retail mania has legs so we'll jump on the same trades,'” said Donabedian, the firm's chief investment officer. “The cliche is that institutional investors jump in and do their thing and then retail investors follow along, and usually too late. There's some evidence it's the opposite this time.”

Individual investors, empowered by zero-fee trading platforms and social media, have become a force in the U.S. equity market over the past year. Retail traders accounted for roughly 24% of U.S. trading volume in the first quarter, up from about 10% a decade ago, according to Bloomberg Intelligence data.

That's big enough that institutions -- which clock in at 27% of overall trading volume, BI data show -- are trying to ride their coattails. Take day-trader darling Virgin Galactic. While retail traders were behind the surge the stock saw after its successful test flight in late May, “the second leg of the rally can only be attributed to institutional investors,” the Vanda analysts wrote in a report last month.

It's a similar story with Chinese EV makers. In November of last year, retail traders were scooping up more than $1 billion worth of those stocks each week, Vanda data show. The sector has surged almost 60% since mid-May, but individual investors have only been behind $300 million of the buying, they wrote.

The retail-fueled rallies have become so powerful than Morgan Stanley analysts recommended on Wednesday that clients follow small traders into meme stocks to boost returns. Strategists led by Boris Lerner touted the firm's new methodology that analyzes retail trading for a long-short stock portfolio, which currently signals that retail investors are net buyers of high quality, low volatility and value stocks, among others.

“The institutions have always been the majority of trading volume and are likely to always be, but the marginal buyer can change, such as when the retail bid moves the market,” said Chris Zaccarelli, chief investment officer at Independent Advisor Alliance. “What you are seeing is a reassertion of the prior regime of institutions again being the marginal buyer.”