The GameStop saga: How hunters became the hunted

The frenzy is just the latest “ringing of the bell” that there are problems on Wall Street, but at the same time it's something much more

Last week the GameStop saga overwhelmed the headlines all around the world. It has been called everything from "the French Revolution of finance" to the "David and Goliath" of the Wall Street, as one struggling video games retailer from Texas has become the center of a trading war between billionaire hedge funds and ordinary retail investors. So in case you were living under a rock, here's what actually happened and why it blew up so big and so fast.

Let's start from the beginning. At the heart of the GameStop saga is a struggle between two drastically different groups of investors: a band of amateur day traders and the Wall Street elite upon whom millions of investors rely to make smart decisions to boost their portfolios.

The so-called hedge funds placed major bets on the demise of GameStop whose bricks-and-mortar shops were hit hard by Covid-19. But while they were doing so, a group of some mostly young day traders who congregate on the Reddit page WallStreetBets - aka the Reddit army - decided to save it.

The Reddit WallStreetBets community, which now boasts some 5 million followers, has been around since 2012. Describing itself as if "4chan found a Bloomberg terminal," the forum's giddy nihilism, inscrutable language and acerbic memes, it noticed the struggling retailer and decided to help it, but with a different approach in comparison to the short-sellers.

The Reddit crew decided to essentially “play the metagame” - a term used in role-play video games when players strategise outside of the rules of the game, said Joost van Dreunen, who teaches the business of video games at the NYU Stern School of Business.

“Retail investors do the same thing,” van Dreunen told CNBC. “It has nothing to do with the fundamentals of the actual GameStop company, they’re just playing the financial metagame.”

So what happened? Although it had been building for a while, the power of Reddit drove the revolt at lighting speed on Monday, 11 January, when GameStop announced three new directors would join its board, including Chewy co-founder Ryan Cohen. Amateur investors liked that Cohen brought digital experience to the table and began buying up shares of the company that they believed were undervalued.

GameStop's stock rose a little less than 13% that day. But this wasn't a normal, momentary stock surge. Two days later, it rose 57%. Then 27%...and so on. The Reddit crowd also drove huge jumps in AMC, BlackBerry, Macy's and other stocks that were heavily shorted.

The outcome? As investors following the Reddit group bought a ton of GameStop options, Wall Street's short-sellers were forced to buy shares to cover their losing bids - thus boosting the share price even further. This is what's known as a short squeeze.

“We've seen short squeezes in the past, but I call this one the grand awakening,” Kevin Simpson, portfolio manager at Capital Investment Management, told Yahoo Finance Live. “Seeing this mass chat room chatter do something that we've never seen before is a little bit reminiscent of the Yahoo chat boards from the 1990s. But this is something totally different.”

That’s because this time, the revolution started literally in a blink of an eye. What's more, the army of small investors that sent shares of depressed companies like GameStop and AMC up into the stratosphere, hurt the billionaire hedge funds that bet against those stocks as no one has ever dared before.

As CNN's Christine Romans put it, the saga quickly became "a populist uprising armed with no-fee brokerage accounts instead of pitchforks," And the only ones crying foul were the "sophisticated" Wall Street players.
"The irony is delicious," Romans wrote. "An online flash mob beats Wall Street insiders at their own game."

By Tuesday, GameStop was the most traded stock on the planet. Then Wednesday got even worse for the already scrambling hedge funds. Fueled by chatter on Reddit and other social media to take on Wall Street, investors used venues like online trading app Robinhood to bid up the brick-and-mortar retailer. Then Robinhood crashed the party.

Thursday morning, citing extreme volatility, the free trading app favoured by millions of amateur investors temporarily barred the red-hot Reddit darlings from buying GameStop and other heavily shorted stocks, leaving them no choice but to hold their position or sell. Meanwhile, hedge funds were free to trade those same stocks, without restrictions.

The backlash was swift. Those who'd been minting money on their GameStop stock positions were, to put it mildly, furious. The consensus on social media seemed to be that Robinhood, which built its brand on "democratising" investing, appeared to be caving to pressure from powerful institutions on Wall Street. Class-action lawsuit was then filed against Robinhood following outrage over GameStop stock restriction. It relented Thursday night, saying it would resume "limited" buys on the stocks the next day. It also tapped $1bn in cash from its private investors, signaling it was short on cash.

On Friday morning, the GameStop euphoria was back. By the end of the week, GameStop's stock was up a jaw-dropping 1,625%. The stock closed Friday’s session at $325. As recently as October it traded under $10.

However, facing pressure to address the recent moves, the US Securities and Exchange Commission on Friday said it’s evaluating the “extreme price volatility” of certain stocks and is working to identify potential wrongdoing. It added that companies “must ensure compliance with federal securities laws for any contemplated offers or sales of their own securities.”

So what happens now? While we don't know just how the so-called Reddit rebellion will change the future of investing, it's safe to say that The GameStop frenzy upended the status quo; it rattled the traditional ways of doing things - much like what the internet has done to almost everything else it touches - whether that’s publishing, media, creation, politics, and more. And now Wall Street will never be the same.

The very least, the extent of losses has exposed a big weakness on Wall Street. Analytics firm S3 said GameStop short-sellers had mark-to-market losses of nearly $20bn so far this year.

The meteoric rise in GameStop’s shares has also prompted some lawmakers to call on regulatory bodies to intervene.

“We need an SEC that has clear rules about market manipulation and then has the backbone to get in and enforce those rules,” Sen. Elizabeth Warren told CNBC. “To have a healthy stock market, you’ve got to have a cop on the beat.”

On Sunday she repeated her words, but this time adding that the GameStop saga is just the latest “ringing of the bell” that there are problems on Wall Street - ones the Securities and Exchange Commission needs to fix.

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