How an online group caused financial chaos
The stock market can seem to many, especially to college students in the midst of their studies, as a concept more foreign than debt-free living. The inner workings are dense and seemingly impenetrable, with only one aspect clear to the general public: somehow, people make a lot of money. As for what they’re actually doing, what value they’re providing to the US market, and why they’re able to profit so much, well, that remains steeped in mystery. This shroud over the market’s inner workings have led many to view Wall Street with varying levels of envy, unfairness, and scorn. Why should they make money when the rest of the country can’t?
It was these feelings that prompted the sub-Reddit r/WallStreetBets, a group of small-scale traders in an Internet community, to take on an ideological crusade against those enmeshed in the market. They saw it as criminal that hedge fund managers were making a killing amid a pandemic that left much of society hurting. Their goal was very simple: force these hedge funds to lose enormous amounts of money through manipulating the market. And to that end, the Redditors were wildly successful. Short-sellers lost a projected $19 billion as a direct result of the fluctuation in GameStop stock. This raises a few questions. Does a win for the Redditors mean a win for the common investor? To fully understand what happened, as well as the implications of the Redditors’ actions, first one must understand some inherent things about the market.
A stock, very simply, is a share or portion of ownership of a company. When a stock of GameStop is bought, for example, that means the investor is now part owner of GameStop. That doesn’t mean it’s time to move to New York and join the advisory board though; companies have millions of stocks, so the ownership is very small. Even with a little piece though, the investor still receives certain perks. If the company does well, say they release a new product that becomes widely popular, the stockholder experiences at least a part of that success. With that in mind, picking stocks with potential to grow is crucial to an effective investment strategy.
On the company’s side, their incentive to sell stocks in the first place is also straightforward. In exchange for giving up part of their company ownership, the money the investor pays goes straight to the company. This allows them to invest in research and development, pay employees, and take more actions that will lead to long term success.
That’s a lot of explanation, but what does this mean to the young investor? Quite a lot, actually.
A significant portion of the stock market is made up of retirement funds, and even if students aren’t investing now, chances are they will be in the next couple years. Long-term investing like this makes a lot of sense. While saving for retirement, investors will see a higher return on their savings than they would in a bank, and their money is actually contributing to the economy rather than being hid away.
The same goes for the money of wealthy people. When one hears about a billionaire’s massive wealth, it’s not like that money is squirrelled away in a vault, or at least not all of it. The majority of that money is in the market, contributing to the economy in real time. The billionaire may be making money, true, but the sheer size of their investment is also helping businesses innovate and grow.
So, lots of investments are made long term, they affect the general public’s retirement, and the goal of an investor is to make money by providing resources for a company to grow. But what happens if a company is overvalued? How do investors make sure they aren’t giving more money to a business that will squander it?
This is where shorting comes in. The details and specifics are easy to get bogged down in, but here’s a simple way to think about it: a short is the opposite of a stock, at least functionally. If an investor thinks a stock will rise and a company will grow, they buy a stock. If they think a stock will fall and a company will fail, they short.
Shorts can be seen as a cynical way to profit from a struggling company, and indeed this is how r/WallStreetBets saw it, but they also are important. Shorts are the way the market adjusts itself, making sure that a stock isn’t overvalued, and allowing general investors to make more intelligent choices with their investments.
Now, with all of that background established, to the story at hand. A group of hedge funds figured out, through their financial models, that GameStop was far overvalued. They decided to short the GameStop stock, making money for their investors while also adjusting the market. These groups were poised to make billions of dollars.
The Redditors noticed this. They became enraged that these hedge funds would make so much money off a struggling business, and so they banded together to stop this. Basic economics posits that when there is less supply of something, the price will go up. As the Redditors bought more and more GameStop stock, they restricted supply and in turn raised the stock price. Since the hedge funds only made money if the stock decreased, the skyrocketing price started a tidal wave of them losing money. And yes, working with other people to raise the price of a stock is legal, at least for now.
The irony of the situation is that the hedge funds lost money, yes, but so did many of the Redditors. People that bought stock early on were able to sell at the peak, making significant amounts of money. People that joined the crusade late were stuck with the bill, losing much of their money once the stock started to decrease, as it inevitably would.
In the end, hedge funds lost money, but they’ll recover. Redditors lost and gained money, with the ones who gained doing so at the expense of their fellow members. The market got manipulated for almost no actual gain, and faith in it was undermined.
The rocky GameStop saga has raised serious questions to investors and society as a whole. Is it worth shaking an institution, something millions of Americans rely on to build their retirement, to make rich people lose money? These Redditors say yes.
As for the investors on the other side, they ask: is it worth keeping the institution strong and profitable for the general public, even if that means some people make massive amounts of money? Is pulling people down in the name of equality worth harming prosperity for the general public?
For now, both institutional investors and government agencies are now looking at new restrictions to make sure something similar can’t happen again, and groups like Robinhood, an investing app, aim to restrict the freedom of their investors. Robinhood blocked trading on GameStop all together as the stock market chaos ensued, and has now changed several of their requirements for users. Currently, GameStop stock has dwindled back to around $50 per share, far below the over $300 peak it hit last month.
This is a selection from the Feb. 17 issue. To view the full issue, visit: https://online.flippingbook.com/view/316311/