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The Rise, Fall, and Reemergence of Retail Trading

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Andrew R. Michaud

• October 18, 2023

During the pandemic, stock trading gained immense popularity among retail investors, only to lose steam later on. However, this cohort of traders has quietly made a comeback into the market fray.

A Reflection of Market Sentiment

The ebb and flow of retail trading can serve as a valuable indicator of market sentiment. When the volume of retail trading becomes excessively high and market sentiment overly positive, it often signals challenging times ahead for the stock market.

The Retail Trading Craze in 2020

In the summer of 2020, Morgan Stanley reported that the five-day moving average of retail orders, as a percentage of daily share volume for the top 1,500 stocks on the Russell 3000 index, surpassed 14%. This marked the highest level since 2016, signifying a peak in retail trading activity. During this time, the stock market experienced a sharp rebound from its pandemic-induced low. With stocks becoming a widely discussed topic and the economy still struggling, falling interest rates and the outperformance of tech stocks ignited widespread interest in the market.

Moderation and Meme Stock Craze

Although retail trading moderated following the peak in 2020, it remained elevated for a considerable period. Throughout early 2021, fueled by the meme stock craze, the five-day moving average of retail trading as a percentage of overall volume hovered around 10%. This was notably higher than the average of approximately 8% observed since 2016.

The Fading Interest and Bear Market

Subsequently, retail trading began to wane. The bear market in 2022 dampened enthusiasm for stock trading as a passing fad. The Federal Reserve responded to rising inflation and an overheating economy by increasing interest rates. By late 2022, the five-day moving average of retail trading had slipped to 7% of the overall trading volume.

The ebb and flow of retail trading demonstrate its significance as a barometer of market sentiment. Retail investors' return to the market after a period of retreat signifies their enduring interest and potential impact on stock market dynamics.

The Resurgence of Retail Trading

In recent times, retail trading has been making a silent comeback. Data from Morgan Stanley indicate that retail trading, as a proportion of volume, has been steadily increasing throughout the year. The five-day moving average has now climbed to approximately 11%.

This resurgence in enthusiasm is not unexpected. Once again, the stock market is presenting investors with reasonable returns. The Russell 3000 has witnessed a 13% increase this year, while the S&P 500 has risen by around 14%. It is worth noting that an excess of retail trading has often been considered an indicator of an overheated stock market, which grants cause for concern as it has become increasingly expensive this year. Moreover, any economic setbacks could potentially halt these gains.

However, with that being said, retail traders have demonstrated a great deal of shrewdness this year. In February, the five-day moving average of retail orders by dollar value reached approximately $1.8 billion, a significant increase from the low of around $750 million recorded in January, as supported by VandaTrack data. Consequently, these dollars have yielded substantial returns throughout the year. Though the S&P 500 currently stands nearly 6% lower than its peak of 4,607.07 in July 2023, the five-day moving average has recently dipped to about $900 million. Despite this, retail orders as a percentage of total daily trading volume have remained elevated.

It is important to exercise caution, however, and not blindly follow the trends set by everyday traders. While retail trading is regaining momentum, extreme levels of such activity should raise skepticism about the overall state of the stock market.