A group of Reddit users pulled off a Short Squeeze with GameStop stock using an app called Robinhood and upset numerous powerful, wealthy people on Wall Street.
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The Big Short
The Big Short (2015), directed by Adam McKay and based on the Michael Lewis book The Big Short: Inside the Doomsday Machine, is a watchable and engrossing film. It has an impressive cast featuring Ryan Gosling, Brad Pitt, Steve Carell and Christian Bale. It entertains while handling complex financial concepts and dealing with ethically challenged characters.
Fund manager Michael Burry (played by Christian Bale in the movie) realises he can bet against the housing market (or short it), though his investors are sceptical. He eventually makes $100 million and earns his investors $700 million. Then, however, the American economy collapsed, losing 5 trillion dollars, eight million people lost their jobs, and six million lost their homes.
Gamestop
GameStop is the largest Video Game retailer in the world. An American company, with its headquarters in Grapevine, Texas, within the Dallas-Fort Worth metropolitan area. GameStop has 4,816 stores worldwide (2021). In Australia, it operates under the name EB Games.
GameStop’s business model is a traditional retail shop selling physical video games, gaming consoles, hardware, collectables, and toys. They also deal in the trade-in of games, consoles or electronics.
The company has faced significant competition from online shopping, downloads and streaming, which are now the dominant delivery mechanism in the gaming market.
“The Big Short” investor Michael Burry started the GameStop frenzy when he bought a stake in GameStop in 2019, thinking the stock undervalued. Burry spent $US14 million to amass 3.4 million GameStop shares as of April 2020. He reduced his position to 1.7 million GameStop shares worth about $US17 million as of September 2020.
Wall Street
Wall Street had low expectations for the video game retailer, GameStop, believing it had no future. So Wall Street hedge funds worth billions made bets that the company’s already low stock price would keep going lower. One Hedge fund, Melvin Capital, had taken a significant short position in GameStop.
Roaring Kitty
A Youtuber called Roaring Kitty posted videos for several months, proposing a “short squeeze” of GameStop. His real name was Keith Gill, a 35-year-old financial adviser from Boston who followed the stock market.
Roaring Kitty was also a high-profile member of a Reddit group called WallStreetBets, under the name u/DeepF***ingValue. He purchased approximately $53,000 of GameStop’s stock in 2019 and began posting updates about the performance of his stock on Reddit.
By January 27, 2021, they would value his GameStop stock at $48 million.
Reddit Users: r/wallstreetbets
https://www.reddit.com/r/wallstreetbets/
Wallstreetbets is a Reddit group where participants discuss stock and options trading. It focuses on aggressive trading strategies that are highly speculative and leveraged. Because of the constant high risk-taking, the behaviour is more akin to gambling than investing.
The Reddit group now has an extremely high profile, with its membership totalling 12.1 million. The group had existed for ten years but began building momentum during the pandemic when its subscribers surged. It is notorious for its colourful jargon and memes.
GameStop Short
The Reddit group took notice of over-leveraged hedge funds in their bet against GameStop. The group members bought the stock in a coordinated buying spree, forcing up the price by 1800% and backing the Hedge Funds into a precarious and costly position. They estimated the losses incurred by hedge funds at $19 billion at the height of the share price. Melvin Capital eventually required an infusion of $2.75 billion in cash to recover and remain solvent.
The hedge funds were trapped in a short squeeze, creating a feedback loop. They now have to buy more shares to offset their previous bet on a fall and limit potential losses. However, that buying forces the share price further up, making their position worse.
The “short squeeze” caused the price of GameStop stock to skyrocket from $5 a share to about $325 a share, an increase of 6,400% in the stock’s value. At its trading peak, GameStop became a Fortune 500 company.
Robinhood
Robinhood is a popular investing app launched in 2015. Its users can conduct a variety of investments commission-free. Robinhood has played a crucial role in this saga as the prevalent app used by these Reddit users. However, it also caused enormous controversy after it froze trades for GameStop on January 28, 2021.
Robinhood users retaliated with negative app reviews on Google Play Store and Apple’s App Store. It led to thousands of one-star ratings, with Google removing many of them later. Many regulators are investigating what happened.
Conclusion
The GameStop Short Squeeze saga would show that a tremendous shift in power was now occurring from Wall Street and Institutional Investors to individual investors. With the availability of apps like Robinhood and the existence of a significant number of members of a Reddit group that have the capability to act together in an organised fashion. Then they could compete directly against Wall Street with considerable impact.
The Financial Regulator and the various investment commentators expressed their horror at the event unfolding. There was, however, widespread support in mainstream media for these everyday retail investors. Many raised concerns about Robinhood’s actions in stopping trading. There remained a lot of anger in the community towards Wall Street after the Global Financial Crisis. Consequently, there was a view that any reduction in its power was positive. Reddit users who held onto their stock experienced significant losses when the share price dropped.
Disclaimer
It is not intended as legal, financial or investment advice and should not be construed or relied on as such. Before making any commitment of a legal or financial nature, you should seek advice from a qualified and registered legal practitioner or financial or investment adviser. High-risk or volatile investments that are not appropriate to your situation could result in significant financial losses.
