The GameStop/Reddit recent case brought up a much-discussed issue: short selling. What happened that made the GameStop Corporation share increase its value -at one point- by as much as 1’700% over the span of just three weeks? In a nutshell: via a reddit channel called “wallstreetbets”, thousands of everyday small non-professional investors followed a flash-mob like suggestion to purchase shares of GameStop, the world’s largest gaming retailer that has been on a declining trend for years, mostly due to the fact the in-today’s environment physical purchases have been replaced by online ones, especially in these Covid times. That unexpected move threw into disarray professional investors, namely hedge funds, that have been heavily betting against the stock with short sells. To add gasoline to the fire, some online trading platforms, such as Robinhood, unilaterally decided to halt trading, letting however professional operate normally.
In what seems like a modern-day twist to the Robin Hood story — a gaming company’s stocks have become a battleground between the rich and the poor with Reddit users attempting to bankrupt hedge fund managers. US company GameStop is a brick-and-mortar video game retailer that has been struggling with profits due to store closures, decline in physical sales and the COVID-19 pandemic. Its stock has been hovering between $US3 and $US10 for much of the past year but has hit four straight days of increases. At one stage its stock was priced higher than Apple, Facebook, Microsoft, and Disney, as it surged by 93 per cent with its shares climbing above $US300.
Individuals investors, many from the Reddit subgroup that has nearly four million members, have driven the share price up using an app called Robinhood. It lets anyone trade stocks without commission. Billionaire Elon Musk added more fuel to the fire when he tweeted a link to the Reddit message board, which saw GameStop’s stock end the day on Wednesday up nearly seven times its value from where it was less than a month ago. The feud is playing out because of a stock market strategy called “short selling”.
WHAT IS SHORT SELLING?
It was the subject behind the Academy Award-nominated film The Big Short, which starred Brad Pitt, Ryan Gosling and Christian Bale, which revealed how the GFC was triggered by the United States housing bubble. Basically, it is when investors make a profit by selling stock they think is going to dive in value and then buy it back at a lower price. Ryan Cohen, founder of pet food company Chewy, who recently joined the GameStop board had noted that the company was one of the most shorted stocks after he bought a large number of shares in August 2020. Because short selling can be so risky, with possible losses far exceeding possible gains, many analysts warn against it. Clearly, it is a dangerous practice for the amateur investor. But aside from what is bad or good for the individual, what about the broader impact? Critics of short selling argue that it creates undesirable and excessive ups and downs in securities markets, and that unstable securities markets are bad for the wider economy. Also, when there is significant short selling of the stock of a particular company, the short selling itself may cause the value of that stock to fall. Investors who learn about the short sells might believe the short seller knows something they do not. So, these other investors sell their shares, the stock price falls, and the short seller wins. The problem here was that trading had been stopped for a specific group of investors, and the SEC will be looking into it.
WHY GAMESTOP?
As word spread on its message board that a hedge fund was planning to short sell GameStop’s stock — users decided to get their own back with what is described as a bull raid. They bought up stock before it could drop in price and rapidly inflated its value. It meant all those traders who had bet on a decline in value were losing serious amounts of cash.
WHAT’S HAPPENED?
One big hedge fund, Melvin Capital, needed a bailout as GameStop stock spiked but denied it was facing bankruptcy. There are predictions more big players will need an injection of funds to stay alive. A short seller at hedge fund Citron Capital, Andrew Left, said he was being threatened and harassed for betting against the stock. According to analytical firm S3 Partners, short sellers in GameStop were down $US5 billion, which included $876 million of losses early Tuesday, reported the New York Post. Meanwhile, three of GameStop’s biggest investors gained as much as $US5.5 billion from the stock frenzy. Trading was halted on GameStop shares nine times on Monday and three times on Tuesday due to the volatility.
WHO’S WEIGHED IN?
Well, the world’s richest man, Musk tweeted “Gamestonk” and a link to the Reddit forum, which pumped about $US4 billion into the stocks. Then there was New York congresswoman Alexandria Ocasio Cortez who called on the rich to be taxed in a series of tweets.
White House Press Secretary Jen Psaki said President Joe Biden’s team was “monitoring” GameStop’s current situation.
The author of The Big Short, Michael Burry, also tweeted in a now deleted post: “There should be legal and regulatory repercussions,” he wrote. “This is unnatural, insane, and dangerous.” The top securities regulator in Massachusetts, William Galvin, said he wants to see a 30-day trading suspension of GameStop on the New York Stock Exchange, adding that “small and unsophisticated investors are probably going to be get hurt by this”. He believes that GameStop’s trading needs “regulatory intervention” and an “example” needs to be made of GameStop to prevent similar occurrences.
WHAT’S NEXT?
Some people will make millions, but others might lose everything because the bubble will burst. There’s no doubt GameStop’s share value will drop significantly. But GameStop is not the only innocent player being used in this game of fat cat and mouse. Other struggling companies like Blackberry has shot up by 172 per cent this year and cinema chain AMC, Nokia and Bed Bath & Beyond have also had their stocks skyrocket. Analysts predict that amateur investors are going to continue to chase tips from Reddit discussion threads and private Facebook groups to move in on loss-making firms. “I don’t think this is a fad, it is a generational shift in how people think about investing their money,” John Patrick Lee, ETF manager at VanEck told the New York Post. “A retail trader will not lean on Wall Street to manage their money and I definitely now see an antagonistic relationship between the old guard (Wall Street) and individual traders who are on the rise.”
At the present time it is hard to know if this case hides something we might one day find out. It is, however, a significant event because social networks might have found the key to break the monopoly of big and powerful firms. A sort of a more sophisticated “Occupy Wall Street” or just une “pièce théâtrale”? Whatever the case a valuable lesson could be learned: investing needs, after all, professional advice. Do it yourself platforms can sometimes do the trick, but at the end of the day the risks of getting burned are extremely high. Ultimately, fighting what’s already written (i.e., the most certain decline of companies like GameStop) is never a good idea.
Marcello Tedeschi, Jan 31, 2021
