What are Cult Stocks, and Should You Consider Them?

Introduction

The stock market offers investors a variety of ways to be able to deploy their money to generate returns. Those with faith in the markets and presumably some experience of success to back it up will swear by its ability to go beyond providing short term gains and creating sustenance for the investor. On the other hand, those who are engrossed in the saving mentality and are extremely risk-averse tend to view the stock markets as risk ridden and volatile.

Even within the former group, however, there exist a couple of types of investors. Generally, experienced investors tend to focus on their own ability to assess and evaluate a stock through their fundamental and technical analysis. Novice investors on the other hand, or those looking to turn a quick buck without necessarily putting in the work are likely to follow stock strategies and investment strategies from individuals they trust, without verifying their claims first. This practice is arguably what has allowed the entrance and prolific growth of cult stocks. In this article let’s take a look at what cult stocks are, what the cult share price means and most importantly, aim to assess whether you should consider investing in a cult stock.

A cult stock: What is it?

If one were to attempt to put the definition into its simplest terms, a cult stock is a stock that is backed by the faith and belief of investors, instead of the underlying financials. This definition itself possesses a couple of avenues for possible failure, if the investor is unable to ratify the claims of the company offering the cult stock.

Those who are proponents of a cult stock, much like leaders of a traditional cult, are charismatic individuals who hold the ability to trump their underlying financial, and convince investors of a story with an extremely fulfilling and profitable end.

Over time, there have been a number of cult stocks that have seen the light of day, many making it to the front of newspapers and news channels. A cult stock is often driven by a belief in a future scenario, one that cannot be observed today. Those investing in these cult stocks therefore, believe that the current infant stage of the underlying company is a good opportunity to get in on the ground level for something that holds extreme merit for the future. In an era before OTT platforms were the norm, for instance, if a major OTT platform were to set up shop and collect investors for their then cult stock, they would sell investors on a future that is not dominated by big-screen blockbusters, but where OTTs are the norm. They may do so, even if, at the moment, their performance left something to be desired. In this case, that story would prove to be accurate, and those who got in on the ground level stand to make potentially substantial returns. However, this is not the case for all cult stocks, which is why one should balance excitements with caution when discussing or being proposed such a cult stock.

How Does a Stock Become a Cult Stock?

A stock can become a cult stock when it gains a loyal following from a specific group of investors or traders who strongly believe in its ability to generate value in the future, even if the current fundamentals are not strong.

For a stock to become a cult, it must be driven more by sentiment, hype and narratives than earnings or valuations. Some of the key factors that play a part in the creation of cult stocks include the following:

• Strong Retail Investor Participation

A stock is likely to turn into a cult stock when it has a large base of retail investors who are emotionally attached to its future. These investors either stay invested in the stock or continue to buy during dips, ignoring financial performance and short-term volatility. This unique behavioural phenomenon creates a sense of community and a strong collective belief in the stock.

• Social Media 

A stock constantly in the social media limelight is likely to attain a cult stock status. Conversations around the stock on social media platforms create hype and a fear of missing out among retail investors, who typically respond by purchasing more of the stock.

• Visionary Leadership 

A company with visionary leadership or a charismatic personality at the helm often tends to become a cult stock. Investors usually back stocks whose CEOs or founders are seen as innovators or disruptors. An example of this is Tesla, the American electric vehicle manufacturer. Elon Musk’s strong persona shapes the sentiment around the stock, with many investors staunchly supporting Tesla even when its financial metrics are weak.

Examples of Cult Stocks

Now that you are aware of how a stock turns into a cult stock, let us look at a couple of examples of such stocks in the Indian context.

• Suzlon Energy Ltd.

Suzlon Energy Ltd., once one of India’s leading wind energy companies, fell from grace due to mounting debt, operational challenges and declining profitability. During a three-year period from FY19 to FY21, the company consistently posted losses year-over-year. The weak financial performance led to a sharp fall in its stock price.

Retail investors found the stock to be highly accessible due to the low price point, which led to a surge in investor interest and trading volume. This further fueled more speculative buying, which was compounded by the company’s turnaround efforts, debt restructuring and optimism surrounding the renewable energy sector.

Many investors continue to hold Suzlon, with some even purchasing more units of the stock. However, the interest in the stock is not solely based on fundamentals alone, but on the hope for a long-term revival. This makes it a classic example of a cult stock in India.

• Vodafone Idea Ltd.

Vodafone Idea Ltd. (Vi), formed from the merger of Vodafone India and Idea Cellular, has struggled financially due to intense competition in the telecom sector. The company has faced mounting financial losses and funding challenges. Yet, despite these challenges, the stock has maintained a massive retail investor base that continues to believe in a potential comeback story.

The strong loyalty to the stock is partly because of its affordable stock price and partly because of investor optimism around a possible revival. Additionally, the stock’s regular appearance in the “most traded” lists has elevated Vodafone Idea into cult stock status.

Cult stocks : Noteworthy investment or smoke and mirrors? 

While some believe that keeping an eye on the cult share price of various stocks might be a good way to spot a diamond in the rough, others believe that this diamond is not in fact worth dirtying your hands and feet for in the extraction process. This latter belief has some arguable merit.

Those who are offering investments in cult stocks tend to be able to easily sway novice investors into buying into their vision of the future, and often convince experienced ones to abandon their technical and fundamental analysis on a hunch. Another example here would be applied. When Steve Jobs was building his company, his charisma proved to be the cement holding the company together. If it wasn’t for Jobs’ vision that he was so successfully able to sell to investors, the company might not have made it to where it is today. At that point in time, Apple’s financials left much to desire, and those investing in the stock were more likely to be doing so as avid users of Apple’sproducts, rather than investors with a firm belief in the firm’s fundamental quality.

Conclusion

Commenting on the validity of a cult stock proves to be a difficult task, as there are no underlying statistics to back up either side of the argument. Historical trends however, indicate that the cult markets and cult share prices over time tend to descend, resulting in more losses than gains. With cult stocks, the aim is often to get investors to buy more stocks to increase the valuation of the current investors’ holdings, instead of developing the underlying company and letting the financials speak for themselves. Investing in a cult stock due to the hype around it is a sure short recipe for losses unless you are hit with a huge bout of luck. This does not imply, however, that all cult stocks are devoid of merit. Instead, you must depend on your own fundamental analysis of markets and future trends in order to assess how the stock will perform, instead of trying to get a seat on the bandwagon. While cult stocks by definition exist in an alternative space, the underlying assessment factors should not be compromised. Even if you believe in a future where a cult stock company will be the new norm, you must always first do your own (in this case, extensive) research before making any such investments.

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