Margin Calls make Motley Fool Masters look Mad

Margin Calls make Motley Fool Masters look Mad

Here is a question: If I gave you the choice between a $100 bill right here and now, and $200 when GM goes bankrupt, which would you take?

If you responded with the $200 answer, then you understand that GM is most likely going bankrupt. Going ‘short’ GM shares right now looks like an absolutely brilliant stock pick, but what happens if you end up being wrong? Throw GM out the window now, and lets talk about Google. If I gave the same option for Google, I would bet the response would be more along the lines of the $100 option. This transaction can be simulated by a stock market game, one of which can be played  at fool. com and is more commonly known as The Motley Fool Caps system.

In the Caps system, normal people and wall streeters alike combine to form one giant investment tracking system. User/players of the Caps system make their own stock picks and rate them underperform (short) or outperform(long) depending on where they think the individual stock will go in a chosen time frame. Wall streeters are lumped into their own category and tracked separately from the plebeians to gauge how accurate or inaccurate an individual investor or investing organization is. People like favorite reddit whipping boy Jim Cramer are tracked on The Motley Fool so that the users of the caps system can research just about anyone who makes or attempts to make accurate market calls. As you can see from the link, Jim’s accuracy in calling a stock pick is ‘only’ 46%, but the extent to which his picks make money puts him very much in the positive earnings category, because his incorrect calls lose only a small amount, while his correct calls are more than enough to make up the meager losses and put him in the top 1 percent of money earners.  As a reward for picking your stocks publicly as part of the caps system, you may find yourself one day considered a Caps All-Star.

You may be asking, what does the GM bet have to do with the Motley Fool Caps system? The answer to that question lies in the study of the Motley Fool All-Stars and their method to get to the top. A quick glance at the Motley Fool All-Star list shows EverydayInvestor at the top. Can it be that a mere mortal is SO good at stock picking, he beats out others like Warren Buffett or the Wall Street powerhouse JP Morgan Chasecarrier to noise ratio?

According to EverydayInvestor’s Caps score, you should be listening to him for investing advice. There are, however, an awful lot of red thumbs on EI’s caps page and even more red in the score column, while Buffett and JP Morgan show many more green thumbs and a much lower accuracy percentage. Why then, is EI considered the Motley Fool cream of the crop, while Buffett and JP Morgan both reside in the middle of the pack even amongst fellow wallstreeters? The answer is: solvency! Motley Fool does not have any concept of solvency built into the system, so users like EI can red thumb everything, effectively going short every stock that smells even a slight bit foul, without having to deal with a margin call. This effectively gives them unlimited capital with which to ‘invest’ without needing to worry about the cataclysmic effect of a short squeeze. In the real world, you have to be on margin to go short a stock, but on the motley fool caps system, no mechanism exists to simulate margin requirements.

Margin Calls are a fact of life for every investor on margin. When an investor makes a bad call on margin, the investor is required by the broker to satisfy a difference in what he or she has outstanding with a minimum capital requirement specified by the broker. The process with which the broker and investor battle back and forth is the process of the investor staying solvent. I refer to this process here as a battle, because your ability to make correct calls, coupled with your ability to raise and maintain capital to remain solvent is a battle that many, many investors are involved in every day. I find it intriguing that the Motley Fool Caps system has no way of tracking how under the water the red thumb armies would be if they were required to make a margin call in the event one of their shorts goes south(or more likely North..). A great example is that EI’s worst performing call ever lost 487% of its value.  It is only possible to loose that high a percentage when you are short. The problem is that you end up losing other peoples money when you make that bad of a call. And those other people want it back, with interest, in a short amount of time, or they will liquidate your other holdings with extreme prejudice.

Margin calls are exceptionally nasty, in that a broker can take any other open position you have and close it to get its money back after a certain time period, if you don’t deposit the money you owe or come up with the money under your own power. Real investors are aware that this can occur, and therefor have to make their bets very very carefully, and often hedge against a major potential upswing or downturn in their position. Motley Fool Caps participants, however, have no such dire consequence, and as such, their top tier of All-stars are just amateurs red thumbing everything to be an All-Star, while most of the other participants have not caught on to the concept yet. This is similar to figuring out that in the  80’s Sega video game “College Football National Championships”, you can use CU to throw Hail Mary’s all day and win the game. A simple loophole in the game was discovered, and now everyone is using it to look like an All-Star.

It is readily apparent that The Motley Fool Caps system is conceived and implemented as a game, and as such, the results of the game are arbitrary and insignificant. At current however, around 67,000 people are involved in the Caps System, and the ones at the top would most likely be insolvent, while the remainder simply haven’t figured out that you can just use the red thumb to get to the top.