The GameStop Investing Saga Explained
You might have seen it on the news. You might have heard it that friends that always has “hot investing tips.” GameStop stock, GME, or “Gamestock” as Elon Musk called it, has been soaring to unbelievable heights the past few months. In November, shares were trading around $11–12, but as of last Friday they had reached an unbelievable $65 a share and have only continued to climb since. What’s going on?
Before I explain, I have to say that this is not financial advice and I am not a market expert. I’m simply someone who has followed the markets on Robinhood and reddit (a social news aggregate site), particularly since the pandemic rocked the stock market back in February. Now, the new developments:
In recent months, GameStop has become the darling of Reddit’s WallStreetBets investing forum. Users there picked out GameStop because of their love of gaming, and because it was a cheap stock for a struggling company. It was also a place that inspired some nostalgia for many users who had fond memories of going there to pick out games and toys. In September, GameStop also got the endorsement of Michael Burry, the focus of the film The Big Short, when his investment firm bought 1.7 million shares in hopes of potentially saving the company. This created hype which only grew when a WallStreetBets user known as DeepFuckingValue jumped on board with a “YOLO” buy, picking up roughly 50,000 shares around the same time.
This is the first half of the story. The second half of the story involves hedge funds and large investment firms. Believing that GameStop was likely to die, they took short positions on the company. In essence, they borrowed lots of shares to sell for the going rate at the time ($10–20 between September and January), with a promise to buy them back later. Ostensibly this is a risky maneuver. If the price continues going up, the firm is forced to buy the shares at a higher price and return them from whence they came. However, given that large investors can sway prices with billions of dollars in buys and sales, they can create a sort of self-fulfilling prophecy — selling large amounts of shares, declaring a “price target” in a certain range, and essentially watching as, usually, other investors come around and follow suit. In this case, however, reddit users noticed that 148% of the stock was shorted — an enormous wager.
So what’s happening now? Reddit users decided to buy in and “long” the stock, buying lumps of shares and holding over a longer period of time. I should emphasize that, taken by itself, this is a totally normal investment strategy. If you believe in a company, you buy the stock and hold onto it. However — here’s the juicy part. If small investors hold so much of the stock that there’s not enough for the shorts to buy back, they’ll be forced to pay higher and higher prices for shares due to the demand and the scarcity, resulting in what’s called a short squeeze, which can make a stock’s price skyrocket as it did with Volkswagen in 2008. The squeeze at the time cost investment firms over $30 billion.
Reddit users who continue to hold, or even buy the stock at escalating prices, are counting on another short squeeze to drive the prices up, and so far it seems to be working. Shares today traded at over $145 before market close, and more afterward. Meanwhile, Melvin Capital, one of the firms shorting the stock, is already down over 30% this year and was recently rescued by a pair of billionaire investors who bailed them out.
Is there something criminal going on here? Again, I’m not an expert and the SEC may investigate, but it’s tough. Certainly it feels irresponsible for people to risk their life savings or student loans on a “meme” stock, as internet users call it. However, freedom of speech allows individuals to discuss investing all they want, and to buy up a certain stock if they choose to. As Jim Cramer explained when analysts complained on NBC yesterday, what’s to stop people from saying “We like the stock!” (now a WallStreetBets slogan) After all, investment firms make such declarations all the time, even announcing price targets.
Of course, investing like this is risky for the average Joe’s on reddit, too. They’ve seen their GME shares and portfolio values skyrocket, sometimes to values in the millions. However, a profit is not truly a profit until the shares or options are sold. When will folks do that? Of course, no one knows. Some joked that they would only sell if the share price hit $420.69. Others said $1000 a share, but as the true target seems ever changing. Of course, suppose something goes wrong, investors get “paper hands,” as some reddit users say, lots of shares are sold, and people are left having bought shares at $150 that are now valued at $25 or less. For someone who has invested tens of thousands — or more — that could mean their life savings is cut to 1/6th of it’s size.
There is also potential that big investors will retaliate. Some are already calling for an SEC investigation of the GameStop rally. They may also hire lawyers to sue reddit and attempt to shutdown the discussion on WallStreetBets, as difficult as that may be to do (users can easily go somewhere else to discuss things). Finally, they might also pressure GameStop executives to issue additional shares to prevent a big squeeze on the shorts. Is this fighting dirty? Absolutely. Is it impossible? No. After all, the government has come to the assistance of banks and big investors before.
So why are people continuing to jump on board? Some are hoping to pay off their college debts. Others talk of finally moving out of their parents’ basement or buying their own houses. Some have donated to charity. Finally, there’s a contingent who claims they’re just in it to go after the big money. “This is the real Occupy Wallstreet,” one user said on Tuesday — a sentiment echoed by many. After all, the pandemic is still a huge issue for workers around the world, many have lost their jobs, and others are struggling financially with little assistance from the government, all the while the stock market has been soaring to all time highs and leaving Average Joe behind.
“Power to the players” has been GameStop’s slogan for many year’s now, and has recently taken on new meaning for the users on reddit and WallStreetBets. Though it’s not clear if it will bring power to their portfolios in the long term, it has certainly lifted their spirits in an otherwise trying time. The era of meme stocks is here, and likely here to stay.