A Reddit user who goes by the name DeepF**kingValue made more than $50 million investing in the video game retailer GameStop. Yes, this is the same GameStop with stores at the mall where one would buy video games or video game consoles. And no, GameStop has not restructured the company or adapted to a market that now takes place almost entirely online. While most people download their video games to their consoles and purchase their game systems from online retailers or big box stores, GameStop stores continue to occupy a space at the mall fading into obsolescence, much as Blockbuster did two decades ago.
As DeepF**kingValue made his millions, Melvin Capital, a multibillion-dollar hedge fund, is facing bankruptcy trying to short GameStop stocks. This means that they borrowed shares of the company, sold them immediately for their original price, and then waited for the price of the stock to decrease so they could buy back the stock and sell immediately again for a profit. In other words, they made a bet on the company’s stock devaluing in the future.
But, in this case, the stock didn’t devalue but did the opposite, causing Melvin Capital and every other investor who attempted to short GameStop stocks to pay gargantuan sums when buying back the stock. Retail investors continued to “short squeeze” GameStop stock and increased its value more than 8,000 percent. What resulted was a massive wealth transfer from large established financial firms to thousands of individual investors.
The importance of GameStop’s “epic short squeeze” cannot be overstated. It turns out that quite a few investment firms make their profits from shorting stocks on fading companies. And these firms are managing massive accounts that not only include the fortunes of the super-rich but pension funds and retirement accounts. While it satisfies the populist itch to see fat cats in finance get taken down a peg, it’s sad to know that they can bring down innocent workers with them. This has always been the dilemma with such companies, and the solution traditionally has been to bail them out, which may very well happen once more.
The short squeezing won’t stop with GameStop, however. Seeing the power they wield—and the money to be made—individual investors have invested in other highly shorted stocks. Investors on the subreddit community r/wallstreetbets have the potential to ransack a number of hedge funds and large investment firms. It would be like the plot of Fight Club except without bombing office buildings in major cities.
Fearing this scenario, the Nasdaq repeatedly halted trades on GameStop along with AMC and Bed, Bath, and Beyond. Additionally the trading companies Robinhood and Interactive Brokers which serve retail investors also stopped trades on “meme stocks” (low-value stocks hyped up on social media) while Discord temporarily closed Wall Street Bets.
While such moves may have averted a financial catastrophe, many have rightly complained that these moves violate investors’ rights and favor institutional investors over individuals. Far from being a free market, trading platforms and stock exchanges will restrict trade to protect the big fish. After all, where are these same protections when large investment firms intentionally distort the market for their own gain? This only seems to be an issue when small investors take collective action.
While both the large hedge funds and retail investors have their reasons for acting the way they do and share the blame for what continues to unfold, the real victim caught in the crossfire are the investors who neither shorted nor short-squeezed, but invested in companies they honestly believed would become profitable. What is happening disrupts their activity because so many investment firms are having to sell their stocks from real companies to pay for the shorts on meme companies. This has left many shares of otherwise solid businesses to lose value. Sure, the big unpopular hedge funds are punished for taking a bad risk, but by extension, so are good companies and their shareholders.
Therefore, the ideal solution is to keep the market free and allow anyone with capital to invest in the stock of his choosing without the entire stock market being affected. Shutting down social media platforms and halting trades and trading activity is wrong, as is compromising other investments by making such bad bets in the first place.
What should be done instead is to stop the practice of shorting stocks altogether. As Elon Musk points out, people can’t sell houses or cars they don’t actually own, but they can sell a stock they don’t own. The whole movement back and forth and the accompanying technicalities that produce money without creating value comes off like a scam—and in the case of GameStop, it was very much a scam.
Moreover, it seems counterproductive to incentivize making a profit from a company’s losses. At least when people conspire to increase the value of a company’s stock, that company stands to raise money which it can use to pay off its debts or restructure and investors take on the risk. When people conspire to decrease the value of a company’s stock in order to short it, a potentially good company and its investors lose money.
And it’s this point that concerns all Americans: Where do they want their money to go? Do they want it to go to businesses that make a product and create jobs, or do they want it to go to speculators who make nothing and profit from losses? When this question is posed without financial jargon and complicated math, most people would probably choose the former. If they never hear the question, as is usually the case, it’s quite likely that these speculators will call in favors from their people in Washington (like Janet Yellen) and keep up a deeply flawed system that keeps the little people in their place.