Wall Street vs the Internet:
The big story of January was GameStop. You could not make this stuff up! A couple of million David’s (individual investors, mostly under 35) vs a few Goliaths (evil hedge funds). This fascinating episode of investor rebellion has played out in three distinct stages. This story from Chartr, succinctly summarises parts 1 and 2. Part 3 is currently in it’s final stages. Here’s the lowdown.
Part 1: The setup
For the last few years US listed company GameStop has been a business in decline as a predominantly brick-and-mortar computer gaming retailer and its share price reflected that. GameStop had long been the target of short sellers and by mid 2020, it was among the most shorted stocks in the entire market. A range of hedge funds had effectively bet that the company’s share price would keep falling, perhaps all the way to zero.
As the shares really began to scrape the barrel (at around the $4 – $5 mark), a few investors began to see an opportunity. Among the more notable believers was Michael Burry, which is a name you might recognise from 2015 film The Big Short. Less notable investors included a Reddit user who we will call DFV (because his actual Reddit name is unprintable) who bought a bunch of call options back in the middle of 2019.
Throughout 2020, a few other investors jumped on the bandwagon, including subscribers to subreddit WallStreetBets. By late last year GameStop’s share price rice had risen to the mid-teens, closing out 2020 at just under $19.
Part 2: The sting
The uptick in fortunes in late 2020 resolved more hedge funds to bet against GameStop, anticipating it would eventually resume its downward trajectory. What the hedge funds shorting the stock didn’t bank on was just how determined and reckless a group of hundreds of thousands of mostly amateur investors could be. Meanwhile, as the price rose, DFV’s regular updates via WallStreetBets on his GameStop options revealed greater and greater paper profits – and reached a greater and greater audience.
Inspired traders jumped on the WallStreetBets train, and in January and early February this grew into an enormous movement with two goals. The first was to make money. The second was to screw over the Wall Street elite betting against GameStop.
Many of the small investors/speculators buying the stock were motivated solely by their experiences (or those of their parents) after the 2009 financial crisis. The quote below, from one WallStreetBets subscriber typifies the depth of feeling towards those perceived to have profited before and during the GFC at the expense of ordinary people:
“If I lose $600 and they lose $6 billion I’m good with that. I know what I’m risking.
Edit:Because I’m getting people actually telling me I’m being stupid with my money let me make it more clear. I would light $600 on fire if it meant one hedge fund took meaningful loss and was forced to realize why it happened.”
As these traders bought call options (betting the price will go up), the mechanics of the option market meant that it caused the price to move much higher. The hedge funds holding short positions began to show huge losses. As they ran out of courage, or money, they had to start unwinding that short exposure by buying shares or otherwise limiting their exposures. That sent the share price even higher in a vicious feedback loop known as a short squeeze.
One hedge fund, Melvin Capital, reportedly lost over 50% of its entire investment capital in January and had to have $3 billion injected into it to shore up its finances. In late January, GameStop shares reached a high of over $450. Remember, this is a company that is probably worth, at best, $15 a share. It was trading at 30+ times that value. It was Wall Street vs the Internet and the internet was winning big.
Part 3: Reality bites
Unfortunately for the little guys, when something trades at an unsustainable price, it’s unsustainable. WallStreetBets traders trying to make money were expecting an ever bigger price spike, driven by the belief that short sellers still had a massive exposure to the stock. Many pledged to never sell, just so long as they could inflict major damage on Wall Street.
Due to the opaque rules and timing delays around short selling disclosures in the US, we will probably never know exactly when or exactly how the hedge funds negated their exposure to the stock. But on 29 January 2021, GameStop started falling and kept going. At the time of writing it is back to around $50 per share. Before this is over it will probably be a $10 stock again. It looks like the GameStop squeeze of 2021 is done.
It is likely, when the analysis is complete, that the biggest winners were the value investors and others who bought before mid 2020. Of course, they also probably sold well before the top. The losers will probably include many hedge funds who shorted the stock. But unfortunately, it will also include most of the young WallStreetBets crowd who brought shares at between $50 and $450 and will probably lose almost all of it.
Quote of the month:
“Above all else…the stock market is people. It is people trying to read the future. And it is this intensely human quality that makes the stock market so dramatic an arena in which men and women pit their conflicting judgements, their hopes and fears, strengths and weaknesses, greeds and ideals.”
Bernard Baruch was born to a Jewish family in 1870 in South Carolina, USA. He was the second of four sons, including brothers Herman, Sailing Wolfe and Hartwig. In 1881 the family moved to New York City, where Bernard attended local schools. He graduated from college in New York and became a stock broker.
With his earnings and commissions, he bought a seat on the New York Stock Exchange. There he amassed a fortune before the age of 30 by profiting from the sugar and rubber markets. By 1903 Baruch had his own brokerage firm and gained the reputation of “the lone wolf of wall street” because of his refusal to join any financial house. By 1910, he had become one of Wall Street’s best-known financiers.
Bernard Baruch then made millions in the 1920’s US bull market in stocks. Showing an uncanny ability, he started anticipating a Wall Street crash as early as 1927 and sold stocks short periodically in 1927 and 1928. In September 1929, after the 1929 peak of the Dow, Baruch refused to join a bull pool of financiers to support the declining market.
Bernard was as prolific a source of quotes as Churchill (with whom he was reportedly friends). Here are some more classic Barnard quotes:
“Most of the successful people I’ve known are the ones who do more listening than talking.”
“Never follow the crowd.”
“The investing public was wary, as it always is when things are cheap.”
“The main purpose of the stock market is to make fools of as many men as possible.”
“I made my money by selling too soon.”
“Something that everyone knows isn’t worth anything.”
“During my eighty-seven years I have witnessed a whole succession of technological revolutions. But none of them has done away with the need for character in the individual or the ability to think.”
“Don’t try to be a jack of all investments. Stick to the field you know best.”
“I get the facts, I study them patiently, I apply imagination.”
“Approach each new problem not with a view of finding what you hope will be there, but to get the truth.”
“I think economists as a rule…take for granted that they know a lot of things. If they really knew so much, they would have all the money and we would have none.”
On life in general:
“Those who matter don’t mind, and those who mind don’t matter.” This was actually in response to question about how he handled the seating arrangements for all those who attended his dinner parties.
“There are no such things as incurable, there are only things for which man has not found a cure.”
“To me, old age is always fifteen years older than I am”
“I have always done some physical exercising, which undoubtedly has helped me stay in good health.” Bernard Baruch passed away just before his 95th birthday
A statisticians dream:
If you like financial charts then you’ll love this free resource. The JP Morgan quarterly guide to the markets highlights long term economic trends in Australia, the world and key economies.
Video of the month:
Video of the month: Last week, it was time once again for the most watched global TV event of the year. The Superbowl. And you know what that means. Superbowl ads. Here’s this year’s top 10.