GameStop — a once popular, now faltering, video game store — made international headlines over the past few weeks when Reddit users drove its stock price up 1,700 per cent. The astronomical increase was largely driven by ‘Redditors’ of r/WallStreetBets, a subreddit dedicated to investing-related memes and humour.
Despite its grassroots origins, the frenzy impacted large hedge funds like Melvin Capital — causing losses of billions of dollars — while online brokers such as RobinHood were forced to halt trades. Moreover, it revealed how delicate and absurd the stock market can be at times, and potentially shed a light on what can guide ‘the invisible hand.’
The stock market can be thought of as the Eaton Centre, but instead of the Apple store selling iPhones, companies sell shares. Shares are pieces of ownership in a company which investors can buy that entitle them to a part of the company’s profit.
“A well-functioning stock market is crucial for our economy,” David Goldreich, a professor of finance at the Rotman School of Management, wrote in an email to The Varsity. “Its primary function is to channel money into the most productive uses, to businesses that will hire people and produce the goods and services that we all want. It allows entrepreneurs to build businesses that make us all more prosperous.”
Short sellers are investors who borrow stocks with value they believe will decline in the future. They sell these stocks to other buyers at market price while continuing to bet that the price is going to decline. When it is time for them to return the borrowed shares, they buy them back at the lower price and make a profit.
If their hunch that the price is going to fall turns out to be wrong, they end up losing a lot more than just their selling price since they have to buy back the shares at a much higher price in order to return them. This is what happens in the case of a short squeeze, when the price of an asset rises abruptly, leaving investors who had bet against it to lose money.
“There is something distasteful about profiting when a company loses value. But that view is wrong,” wrote Goldreich. “Short selling can be a good thing for the market. It is wrong to view short sellers as harming companies (or other investors). Instead, short selling is a reaction to – not the cause of – poor company prospects.”
GME? To the moon?
GameStop is an American video game retailer that flourished in the early 2000s but eventually fell prey to e-commerce. Its dire straits were intensified by the pandemic since people were not going out to malls or physical stores to buy its products.
Many hedge funds had bet billions that GameStop would lose money. A group of amateur investors on r/WallStreetBets bet against them.
People on the subreddit collectively decided to buy GameStop shares — which trades under the stock symbol GME — and drive up its price, leading hedge funds and other big Wall Street traders to lose billions of dollars. Before r/WallStreetsBets took notice, GameStop stock was hovering around $4 USD — at the peak of the craze, a share could fetch $483 USD. Trading got so out of hand that popular internet broker RobinHood was forced to halt trading — an action that itself led to outcries.
“The enormous price rise of GME (and others) was in no way related to fundamentals,” Goldreich wrote. “No one even pretended that the price rise was related to the value of the company. Instead, it was a new form of a pyramid scheme. Those who started it bought shares cheaply and then urged masses of small investors to keep buying shares and push up the price. But ultimately gravity will prevail.”
As to why it happened, some people believe that they were exacting revenge on greedy Wall Street traders. They used “boomer money” as their war cry and blamed traditional financiers for the financial hardships of the crash of 2008.
For others it was just a laugh and a chance for some really good memes. “Human nature plays an important role in the way people make financial decisions, and this led to the emergence of behavioural finance as a scholarly field of study in recent years,” Lisa Kramer, a professor of finance at UTM’s Department of Management, wrote in an email to The Varsity.
“For example, some people may buy a stock because they learn lots of other people are buying that particular stock, or because they discover friends have made money on that stock and they’d like to do so as well.”
True blue trading
Reddit is no mystery to many U of T students. r/UofT, the subreddit dedicated to the University of Toronto, has over 65,000 members and saw an influx of GameStop-related posts at the height of the craze.
With the advent of no-fee trading platforms like RobinHood, an activity that was once the purview of the rich and powerful is now able to draw the attention and participation of ordinary students. The Varsity interviewed student investors to hear their perspectives on what it means to invest in 2021.
Some invest in uncertain and exciting assets. Nicholas Soulikias, a second-year student history and history and philosophy of science and technology student, holds an interest in cryptocurrency. “I have not been investing very long, but one thing I have learned is the importance of outside influence on the market,” he wrote. “For example, Elon Musk tweeting a VOGUE magazine cover edited with a dog and say [sic] DOGUE on it caused the price of Dogecoin to spike.”
“[Cryptocurrency] is something I can see myself doing long term, but not very seriously and not with large investments as I don’t want to overdo it,” he continued.
Other students invest more traditionally. Jacob Landau, a fourth-year political science student, places his trust in safe, long-term total market index funds. “I invest because I want the money I save to grow in the most stable and effective way possible,” he wrote. “The pandemic has made it clear how fragile the financial well-being that most middle-class families take for granted really is.”
“Since the market itself is the only thing we can safely assume keeps growing in value over the long term, the only reasonable option is not an actively managed fund, but one that passively tracks the market instead,” he continued. “It’s not sexy, but by making regular monthly contributions over a thirty-year period, it’ll make sure that when I do have a family, they don’t need to worry about taking care of me when they’re adults and I’m elderly.”
For Goldreich, just the fact that many have the ability to invest is a step in the right direction. “The cost of retail investing is much, much lower than ever before,” he wrote. “In the US, Robinhood allows investors to trade for free. In Canada, Questrade only charges a few dollars. [Exchange traded funds] allow investors to get a diversified portfolio for very low fees. It’s night and day compared to the high cost of investing in the past. This is a very good thing. It is good for more people to be invested in the stock market.”
Like any activity with a passionate following, investing enthusiasts can find a home in a number of U of T student societies. Two such organizations are the Rational Capital Investment Fund (RCIF) and the Qualitative Impact Investing Club (QIIC). The former is U of T’s oldest student investing group. The latter is Engineering Society-affiliated and promotes modern investment theories. The Varsity asked both the same question: does the GameStop phenomenon herald a new era in ‘meme investing?ʼ
The answer, it seems, is no.
“The only change I see is a shift in the credibility and perceived power given to these reddit forums – as [institutions] and individuals will be more likely to use research on reddit in their investing decisions,” Kelvin Wallace, a president of QIIC, wrote. “People have been sharing… ideas going back years on public internet forums, from r/stocks, r/options etc., however people only seem to give them any credence because of the chicanery on r/wallstreetbets over the past few weeks. Nothing has changed besides exposure and perceived credibility.”
Peter Sypnowich, President of RCIF, had similar thoughts. He compared r/WallStreetBets’ obsession with GameStop to a “pump-and-dump” scenario. In a “pump-and-dump,” owners of low-valued stock would extol their assets’ merits in public forums with the intent of selling once enough interest — and corresponding value — is raised.
“Will things change greatly because of Gamestop and r/wallstreetbets? I personally doubt it,” Sypnowich wrote. “I think those who were lulled into buying shares of Gamestop and the like at insane prices and who subsequently lost money might not be too eager to return for more. Others might learn to appreciate the hard work of research and analysis that needs to be performed before becoming an investor in any given security. Very few strategies work long term for investors. Following forums and using ungodly amounts of leverage are not one of them.”
Despite Reddit’s enthusiasm, the consensus — at least among student investors — seems to be that there’s no such thing as free money and that someone, somewhere will have to pay eventually. Kramer agrees with their words of caution.
“I suspect some people will continue to seek investment ideas from forums such as TikTok and Reddit, but they need to realize that doing so entails a great deal of risk and they need to be prepared to lose all or most of their investment,” she wrote. “Most investors are better advised to accept the fair and reasonable rate of return they can earn by investing in a diversified portfolio and holding it for the long haul.”