Lake Resources fall reveals concerns over the ASX 200 index

The following day, Mr. Promnitz reportedly sold 10.2 million shares for an estimated $11.1 million, having already sold $7.5 million worth of shares since October 2020.

In an announcement Thursday afternoon, Lake Resources said Promnitz’s resignation was “of his own volition” and reassured shareholders that “nothing has changed” regarding the company’s willingness to do so. advance its lithium projects in Argentina.

But Mr Promnitz said he was “shocked” when the board told him on May 31 that they wanted his help in transitioning the company to a new CEO. His position became “untenable” so he tendered his resignation on June 17, he said in a statement.

Mr Promnitz said it was “common and standard practice” for outgoing CEOs to “immediately sell their stock positions regardless of how they feel about the company and its assets”.

But the abrupt collapse left retail shareholders with heavy losses and raised questions about the S’s credibility.&P/ASX 200. The equity market index is considered by the corporate regulator to be one of the market benchmarks of “potential systemic importance”. He “still clearly believes” in the future of the company “having positioned it well for construction and production”.

Small-cap fund manager Chris Prunty of QVG said there had been a deterioration in the quality of companies qualifying for inclusion in the index.

“As a greater proportion of money is managed in passive strategies that simply mimic key benchmarks, we have seen lower quality companies enter key benchmarks such as the ASX 200 or 300,” he said. declared. The Australian Financial Review.

Index fund purchases are made based on company size, not quality or earning power, Mr. Prunty said.

The performance of Core Lithium stock further underscored these concerns. Its value has fallen almost 30% this week after also joining the index on Monday.

“There are a few conceptual stocks in this lithium space whose market caps have gotten to where they didn’t deserve to be and are now evaporating,” said Sam Berridge, resource analyst at Perennial.

ASX/S&The P 200 Index measures the performance of the 200 largest and most liquid stocks listed on the ASX by free float-adjusted market capitalization and stocks are added and removed based on several criteria.

Heading into the week, Lake Resources, which has ambitious plans to be a top-5 global lithium producer and has pitched its outlook to individual investors, was among the top three performing stocks in the S&The benchmark P/ASX 300 index gains 355%.

The company has four lithium projects in Argentina, including its flagship Kachi project, and says it aims to meet growing demand for battery metal in the United States and other Western markets.

In April, Lake Resources’ market capitalization topped $3 billion, but has since fallen to around $1 billion.

It had devastated the company’s army of retail shareholders who shared their grief on social media forums.

“I am in this market. Take me back to the end of 2021 when an idiot like me was banking,” said a poster on Reddit as stock market trading forums were dominated by talk of the Lake Resources collapse and the departure of its CEO.

Inclusion in the index was a double-edged sword as it allowed hedge funds to profit from short selling shares of a company they deemed overvalued.

“An entry of 200 or 300 is ideal for near-term stock price momentum, but as bonds break free they can often depreciate quite quickly,” Mr. Prunty said.

The shorts are coming

The number of shares loaned to short sellers rose from 5 million in early March, just before Lake Resources was included in the S&The P/ASX 300 index was over 40 million in June when it was admitted to the 200 index. The total number of stocks sold short has since jumped to 48 million.

Dean Paatsch, of voting and corporate governance consultancy Ownership Matters, said the composition of Australia’s stock market benchmark reflected “what we do”.

“It’s not uncommon for all sorts of hot new names to get a market valuation before [themselves] – it’s capitalism,” he said.

But he said the exchange could do more to enforce its own listing rules, noting that Lake allowed the exercise of stock options that had expired and had a history of late and irregular filing of changes in directors’ interests. .

“The Regulator needs to get it right every time – there is no excuse for allowing their platform to be used as a bulletin board for pompous announcements or for there to be no consequence for their registration rules to be flagrantly violated,” Paatsch said.

A trader said he did not recall many pre-revenue businesses being included in the S&The P/ASX 200 index after several plays of lithium and the artificial intelligence company that divides Brainchip were added to the index.

“The problem is that using size and liquidity factors means you’ve outsourced the fundamentals to the market assuming non-passive participants have effectively driven the best companies to be the biggest,” the trader said. .

While the rating agency S&P manages the composition of Australian stock indices, a spokesperson for the exchange said it has tightened the use of the market announcement platform to discourage its use as a channel for marketing or promotional purposes.

“ASX’s goal is to ensure that the market is properly informed; if we detect unexplained material movement, we will issue a query,” the spokesperson said.

Ownership Matters also raised the issue of options for research firms and brokers Red Cloud, Cannacord Genuity, Roth Capital and Lodge Partners, all of which have written favorable ratings for Lake Resources that have been promoted on social media.

“There is an asymmetry between a retail investor and an institutional investor in the small cap space,” Paatsch said. “No institution would ever value these paid brochures – none.”

A Lake Resources spokesperson said it expects “any company that chooses to write research about us to make appropriate disclosures in its research notes to the market – as it is required to do in under its various licenses”.

Hidden costs

Simon Mawhinney of the Allan Gray value fund said he pays much more attention to the movement of company stock prices as they are added to or dropped from major indexes.

“There are a lot of smart people out there trying to guess what companies are getting into to get kicked out of the index, and they just position themselves accordingly,” he said.

“Because index funds are so important now, the amount of profit these hedge funds and housing can make by shorting and buying back index fund shares on inclusion day is so significant.”

The importance of Australian equity indices is expected to increase further due to Your future, you super performance testing. Superannuation funds come under scrutiny to meet or beat certain asset class benchmarks – such as the S&P/ASX 300 index for Australian stocks.

Mr Mawhinney said this episode and others showed there were hidden costs involved in index investing.

“There are significant amounts of these unquantifiable costs where, by their very nature, index funds buy high and sell low when it comes to adding new components or removing components. existing.”