By: Stevie Terando
You don’t have to be an avid investor to be familiar with the Gamestop hysteria that occurred in January 2021. Nonetheless, how does a stock manage to go up over 140% in only a few hours and over 1,800% in a month? The answer lies in the reddit forum r/WallStreetBets. Amateur investors created a trading-frenzy against multi-billion dollar hedge funds like never before, causing previously undervalued companies’ prices to surge, while delivering a message to the short-sellers betting against them.
"Shorting" Small Retailers' Stocks
Brick-and-mortar video game retailers such as Gamestop have been struggling for years since the rise of direct downloading on gaming consoles, and the pandemic has only accelerated their impending doom. Wall Street investors were confident of Gamestop’s demise, and were looking for a way to profit off of the store’s failure — also known as shorting. How does one profit off of a company losing money? By betting-against, or shorting, their stock means investors pay a small fee to “borrow” stock from someone, and sell those shares at market rate. Later on, those shares are purchased back and returned to the original owner. If the price of the shares has lowered by the time they are returned, the short-seller pockets the difference between their current price and the market price they sold. However, if the price of the shares has risen, the short-sellers lose money making up the difference to return to the owner. Shorting a stock is the opposite of holding a “long position” where instead of buying low and selling high, investors look to sell high and buy low. It’s high risk with potential of very high rewards.
So, where does Reddit come into play? Well, members of the Reddit forum r/WallStreetBets were not happy with how Gamestop was being treated on the market. Not only did they believe Gamestop, or its ticker symbol GME, to have more value than investors thought, they also saw an opportunity for growth when new leadership stepped in. By December 2020, founder and former-CEO of the pet-product online retailer Chewy, Ryan Cohen, accumulated over 12% of Gamestop’s shares, and wrote the company urging them to focus on becoming “the Amazon of the video-game industry.” In January 2021, Cohen announced he would be joining the Gamestop’s board of directors alongside two other former Chewy executives, and promised to reform the struggling retailer by focusing on ecommerce sales causing Gamestop shares to jump in price. Over the course of a couple months, members were consistently buying up shares, pushing up value, and undermining Wall Street’s big bets. Once this craze received media attention, it was game-over for the hedge funds as rookie investors all over the internet sent the stock up by over 14,000%. Meanwhile, Gamestop wasn’t the only shorted stock Reddittors had their eyes on: Blackberry, AMC Theaters, and Bed Bath and Beyond all saw their stock values more than triple thanks to attention from Reddit investors. Even celebrities such as Elon Musk, Mark Cuban, Jon Stewart, and Stephen Colbert tweeted out support of the message these amateur investors were sending to the big guys on Wall Street and wished them luck with their endeavor.
Pressure on Wall Street
As Gamestop’s value soared, it started to cost some hedge-funds billions of dollars, one in particular, Melvin Capital, lost over 50% of its assets. The members of r/WallStreetBets effectively pushed these hedge funds into a “short squeeze,” meaning the short sellers were forced to purchase more GME stock in order to cover their losses. Consequently, this short squeeze created a vicious cycle where the purchasing back of their stocks only increased the value, meaning more stocks were needed to cover the losses, which pushed prices up even more. Stock prices were fluctuating at such rapid rates, investing apps such as Robinhood began to take drastic measures to ensure its users could not run up more collateral than the company could afford. Meaning, the intermediary company that assists Robinhood with stock transactions between buyers and sellers require a certain amount of money in deposits to cover customer trades, and the Gamestop surge was writing a check Robinhood could not cash.
Robinhood took a severe approach to solve this problem, by completely restricting its users from purchasing GME stock and only allowing them to close out, or sell, their Gamestop positions. Meanwhile hedge funds were allowed to trade the stock as they saw fit. This not only caused Gamestop stock value to come crashing down, but also Robinhood’s credibility. Users of Robinhood were not shy about voicing their complaints with the company’s actions and the app’s rating went down to 1-star, albeit the 1-star was only salvaged after Google deleted over 100,000 negative reviews. By the next morning, Robinhood was being served over a dozen class-action lawsuits from around the country alleging market manipulation, negligence, and breach of contract with users.
Politicians Weigh In
Needless to say, Wall Street was beginning to unravel, and politicians from both sides of the aisle were quick to chime in with their thoughts on the matter. From the GOP perspective, Robinhood’s actions caused them to worry about overregulation of the free market. Meanwhile, Democrats opposed the unequal dynamics between Wall Street insiders and the heavily inexperienced investors on the app. Despite their slight differences in critiques, both parties agreed the freeze on trading by Robinhood called for investigation and Congressional hearings before the House Financial Services Committee.
The opportunity these politicians saw in this Wall Street scramble represents how both parties function in our era of growing financial inequality. Both parties portray themselves as working class allies and against the corrupt greed of Wall Street, yet consistently argue on the best way to help these working class Americans. Republicans are firmly against the notion of wealth redistribution, while Democrats push for higher taxes on the 1% and argue GOP candidates are out-of-touch elites. With the wealth gap in America reaching new heights, the bipartisan calls for Wall Street accountability proves one thing: being seen as an ally of Wall Street is deadly to any politician’s career. While the Democrats and GOP battled to be champions of the middle class, members of r/WallStreetBets were the ones actually inflicting change on these hedge funds. Citron Research, a short-selling firm that endured a 100% loss on Gamestop stock, announced they will no longer be shorting stocks, and instead only investing in companies they see have the potential to grow. The CEO stated in a YouTube video, “After 20 years, we noticed something. When we started Citron it was to be against the establishment, now we have become the establishment,” adding that the company had “completely lost its focus.” These amateur online investors realized Wall Street obviously does not have the informational advantage it once did, and were smart enough to understand the dynamics of a short squeeze.
What Does The Future Hold?
Wall Street’s former elitism and exclusivity is slowly deteriorating as information about companies and investing techniques become more accessible to the general public online. For those sophisticated enough to trade for themselves, this offers an abundance of opportunities for financial gains. Unfortunately, as countless banking scandals have demonstrated, there is always someone willing to take advantage of another person’s naivety. Particularly apps like Robinhood where people can gamble away their investments, or even more than their initial investments, with just a few taps on their phones pose a potential threat. Some people on r/WallStreetBets are genuinely trying to help others properly invest their money and succeed. However, if a person doesn’t know what they are doing it can be difficult to tell the meme-ers apart from the legitimate investors, and taking financial advice from the same website that has a page purely dedicated to furniture underwater may not be advisable.
Investors on Wall Street have a decades-long head start on the incoming self-taught online investors, and typically have upscale degrees and high-end connections. Every time a short-seller profits, someone on the other side is losing, and vice versa. Typically, hedge funds are not the ones losing, and despite this recent frenzy, that’s unlikely to change.