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Stock Market Madness Continues, but Should You Fear the Fed?

By Dan Caplinger - Jan 27, 2021 at 11:13AM

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The same short-squeeze stocks continued to get a lot of play on Wednesday.

The stock market pulled back significantly on Wednesday morning, as investors worried that the ascent that they've seen in major stock market indexes might have come too far too quickly. Stocks dropped precipitously at the open but clawed back some of their losses as the morning went on. As of 10:30 a.m. EST, the Dow Jones Industrial Average (^DJI 0.08%) was down 363 points to 30,574. The S&P 500 (^GSPC -0.40%) fell 47 points to 3,802, and the Nasdaq Composite (^IXIC 0.00%) fell 140 points to 13,486.

The short squeezes that investors have seen in several stocks in the past days have caught the attention of people who ordinarily pay little attention to the market, and the stratospheric gains in several of the most prominent companies continued on Wednesday morning. With more professionals claiming that a stock market bubble might be inflating and potentially ready to burst, some market participants are concerned that comments from the Federal Reserve could be what causes recent gains to reverse course.

Front of Federal Reserve building, with eagle and flag shown.

Image source: Getty Images.

Big gains for favorite stocks

The rises in some key stocks were positively breathtaking. GameStop (GME -6.70%) stock doubled to nearly $300 per share as of 10:30 a.m. EST, after having opened above $350. In the first hour of trading, more than 32 million shares had changed hands, more volume than the stock typically sees in an entire day.

Movie theater operator AMC Entertainment Holdings (AMC -0.85%) saw even larger gains. The stock's open above $20 per share was quadruple where it had closed on Tuesday. Even after pulling back somewhat, AMC traded at around $17, up 240%.

Some other popular short-sold stocks saw less extensive gains. iRobot (IRBT -2.19%) was up 22% after having been as much as 55% higher earlier in the day. Bed Bath & Beyond (BBBY -2.49%) climbed another 30%.

All of these stocks are facing significant challenges that threaten their underlying businesses. Yet speculative forces are driving their share prices for now, and it'd be inappropriate to assign any real meaning behind their recent moves other than that.

To some, the moves are taking on the nature of a game. Social Capital founder and CEO Chamath Palihapitiya got into the action yesterday, buying call options on GameStop that are now $200 into the money. Tesla (TSLA -5.88%) CEO Elon Musk gave a one-word tweet -- "Gamestonk!" -- to great acclaim.

On the other side, however, those who are short these stocks are suffering damage. One hedge fund had to get support from within the industry due to its short positions. The thought of getting one up on Wall Street is also driving proponents of these stock squeezes, and at this point, it's unclear how long the frenzy could last.

Will the Fed spoil the party?

It's interesting that in this context, the Federal Reserve concludes a monetary policy meeting this afternoon. In the past, the Fed has sometimes taken action to counteract what it saw as systemically dangerous trends in the stock market.

The most famous example came in 1996, when then-chair Alan Greenspan gave a speech to an industry group. It was there that the phrase "irrational exuberance" came into the vernacular, serving as a warning of the boom in tech stocks.

On one hand, the warning proved to be correct. Tech stocks did move too high and corrected violently. On the other hand, though, it took more than three years after that speech for the market to run its course. Those who sold in 1996 missed out on several years of strong performance.

It's entirely possible that the Fed will say something about the sustainability of stock market gains over the past year. Even if it does, though, it won't dampen the fervor of those looking to continue their success in driving stock prices ever higher.

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Stocks Mentioned

GameStop Corp. Stock Quote
GameStop Corp.
GME
$91.80 (-6.70%) $-6.59
Dow Jones Industrial Average (Price Return) Stock Quote
Dow Jones Industrial Average (Price Return)
^DJI
$32,223.42 (0.08%) $26.76
S&P 500 Index - Price Return (USD) Stock Quote
S&P 500 Index - Price Return (USD)
^GSPC
$4,008.01 (-0.40%) $-15.88
NASDAQ Composite Index (Price Return) Stock Quote
NASDAQ Composite Index (Price Return)
^IXIC
$11,805.00 (0.00%) $0.00
Tesla, Inc. Stock Quote
Tesla, Inc.
TSLA
$724.37 (-5.88%) $-45.22
iRobot Stock Quote
iRobot
IRBT
$46.52 (-2.19%) $-1.04
Bed Bath & Beyond Inc. Stock Quote
Bed Bath & Beyond Inc.
BBBY
$9.40 (-2.49%) $0.24
AMC Entertainment Holdings, Inc. Stock Quote
AMC Entertainment Holdings, Inc.
AMC
$11.71 (-0.85%) $0.10

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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