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GameStop, a brick and mortar store selling video games and gaming consoles, that plans to shut over 1000 of its stores by April 2021 became the hottest company this past month with its share skyrocketing from $18 to $480 apiece before plummeting to $64.
How a business that is destined to die a slow death, unless it reinvents itself for the digital age, sent the financial markets and the social media world into a tizzy?
The answer is due diligence and memes of members of the Reddit community called r/wallstreetbets.
The Subreddit started in 2012, describes itself as a community for making money and being amused while doing it. Or realistically, a place to come and upvote memes when your portfolio is down has been around for years now.
While the community discussed stocks, options, daily trades, investor calls, and quarterly reports, its most popular posts were memes about stock markets and screenshots of users’ portfolios YOLOing large sums of money resulting in either massive gains or losses with comment section filled with users affectionately calling the uploader a retard or an autist with IQ in the negative range.
What changed in the past few months is that a user discovered that Melvin Capital, a hedge fund having $13 billion of AUM in their mandatory public disclosures declared that were holding a short position of GameStop of 54,000 15 Put Contracts equalling a short exposure of 5,400,000 shares. Melvin Capital was not alone. Another investor, Citron Research, whose operator Andrew Left is an activist short seller, publicly announced reasons to short GameStop. Other users shared their own due diligence regarding the stock and how retail traders could “punish” those who have put positions.
Now, what is “short-selling”? A short sale is the selling of a stock which an investor does not own. The stock is borrowed from somebody else, usually the large stock market financial behemoth, and sold by the investor. The investor later closes out the deal by purchasing the stock from the open market and returning the borrowed security to the stock lender, pocketing the difference between the price at which the stock was borrowed and at which it was purchased.
Simply put, the investors (or, the short-sellers) expect the price of that particular stock to fall, borrow those stocks, sell, and finally buy those again from the open market at a lower price. The price differential then becomes their source of profit. If the price falls, as expected, then the short-seller profits, but if the price rises later then the short-seller incurs losses.
The bet that a brick and mortar store’s stock price would fall amidst nationwide-lockdowns, changing consumer preference towards purchasing digital copies of games and consoles online from Amazon, Best Buy was hardly a remarkable call. A lot of Wall Street Analysts would have made the same bet but Melvin Capital used the options market for its bet, which forced it to disclose the position resulting in a target on itself.
Following the news, a number of users did their own due diligence and concluded that Game Stop was undervalued compared to its peers, and the new management under CEO George Sherman, an industry veteran in the brick and mortar store business will be able to deliver positive results in the future.
Members of the community started buying GameStop shares and what ensued was nothing short of a David versus Goliath battle. These posts went viral as there was not only an opportunity to get rich quickly, something all investors are frequently advised against but also to make hedge funds pay for it. Any increase in share price would result in institutional investors bleeding money when they close their publicly disclosed positions. Millions of new users joined the community, shared their insights about the stock, and started buying the stock making it more expensive for institutional investors to purchase the stock.
It was as if a group of retail investors, with high-risk appetite, had figured a way to beat Hedge Funds ran by experts and funded by boomer billionaires. If investing is akin to gambling, the retail investors of a Reddit Community had discovered a way to beat the House.
Soon, Users of the Community started sharing their Due Diligence of other stocks that were being heavily shorted including those of AMC, Blackberry, Nokia, Bed Bath and Beyond, etc. which presented a similar opportunity even though the underlying businesses of these companies remained the same.
The bets made by retail investors miraculously moved markets of these stocks and some of these stocks have doubled in price in the past month.
(Image: Blooomberg)
As the sentiments regarding these stocks changed and the price started to skyrocket. Users expressed their love for the stock and the sentiment of sending the stock to the moon while calling themselves smooth-brained, diamond hand apes who will never sell the stock and it is only the paper hands users who will sell the stock for small gains.
The memes and speculations made by the small Reddit community coupled with a bizarre rally caught the attention of experts and experienced entrepreneurs, some of whom joined the retail traders by purchasing the stock while others accused the community of manipulating the markets by incessantly pumping the stock of a failing business.
Elon Musk shared the Reddit community’s link on Twitter, Chamath Palihapitiya announced he has purchased call options of GameStop and David Portnoy of Barstool Sports announced he’s also investing in the legacy business.
The increased spotlight made the community grow exponentially from under 2 million users to over 8.6 million users and has since made it subject to SEC investigations.
User u/Deepfuckingvalue who shared his trades instantly became a role model for the Reddit community as the one who outfoxed the hedge funds. The user had been trading the GameStop shares and call options since 2019 and as of February 3, 2021, his holdings in GameStop purchased for $700,000 were now worth over $7.8 million.
(Source: Posted by u/DeepFuckingValue on Reddit on 4th February, 2021)
The user u/Deepfuckingvalue was recently interviewed by Wall Street Journal and will soon be testifying in the upcoming Congressional hearing on the GameStop frenzy.
On 25th January 2021, Melvin Capital had received a $2.5 billion bailout from fellow Hedge Funds Citadel and Point72 pointing towards a tiny victory for the Reddit Community. In the days following this announcement, Point72’s Hedge Fund Manager deleted his Twitter account after receiving threats and backlash for bailing out a hedge fund. Citron Research announced that it will no longer be publishing short-seller research and instead be focussing on long-only research.
If you thought it was yet another example of internet justice and the saga ended then and there with the small guy winning, you’re mistaken.
On 28th January, Robinhood and other zero brokerage stock trading apps popular amongst retail investors announced that they will no longer allow its users to trade in some of the meme stocks citing higher risks, excluding retail investors from trading the stock and causing the price of the share to fall massively.
While Robinhood blamed Clearing Houses for the restrictions, it has resulted in multiple class-action lawsuits against the trading platform and politicians calling for an investigation into the company for manipulating the market to the benefit of hedge funds and leaving the retail investors bearing the brunt for its poor arrangements.
Robinhood has since eased the restrictions but users have continued to migrate from the platform. Users also review-bombed the app on Google Play Store. The app is currently listed on Google Play Store with 1.2 stars.
While the stock has plummeted from its high of $480 to $64 resulting in a lot of new members who joined the community in late January starting at heavy losses, the memes and optimism don’t seem to be slowing down. Marc Cuban recently did an AMA with the community and advised them to hold the stock if they truly believe in the company. Users have been purchasing billboards in cities across America including in Times Square encouraging people to hold the stock. Others visited GameStop stores in their local malls, purchased Nintendo Switches and games, and donated them to Children Hospitals. The increased footfall from memes, the launch of new consoles, and a high stock price might give GameStop enough revenue to reposition, refinance its debt and stay afloat.
What wasn’t anticipated is how destabilizing the situation could be. The sentiment of some Reddit-linked traders is likely caused as much by feelings of exclusion from prosperity, as inclusion in their social media community.
As NPR Planet Money’s Alexi Horowitz-Ghazi said: “this thing we all just witnessed was, if anything, a kind of light switch moment, where all of a sudden, WallStreetBets bros — along with the rest of us — have realized that they have this powerful tool, that by swarming together, individual investors have the power to move the market and force the hand of major financial institutions.”
The mass mobilization on Reddit may mark as a turning point in the rebalancing of the power between “main street” and Wall Street. Both Reddit’s WallStreetBets community and the practice of day trading have been around for years. What’s changed was not just the anti-goliath sentiment but the technology enabling the public to act and take advantage of the situation they were creating.
Ravneet Singh is a final-year law student at Campus Law Centre, University of Delhi and holds a B.A. (Hons.) in Business Economics.