Abstract: This article looks at the GameStop stock’s inflation incident through Reddit, its causes, effects and future ramifications. It analyses the arguments by sides for and against such collusion and short-selling scenarios and discusses the volatility, power dynamics, wealth-building, morality and political background that underlies it.
Among the many controversial happenings during the pandemic, one was the recent incident concerning the subreddit r/Wallstreetbets and the stocks of the American video-game company, GameStop. This artificial inflation by Reddit users in January 2021 shocked the Wall Street investors and can potentially disrupt the investment world in the long term.
It began when the subreddit r/wallstreetbets, joined by millions of users (mainly small traders), noticed that hedge funds were short-selling GameStop stocks as it was overvalued as a heavily declining company— short-selling happens when a company borrows stocks for a small fee, sells them and then buys it back later at a lower price to return to the lender and profit off the change in stock price. After noticing this trend of short-selling, these Reddit members discussed and colluded to buy and inflate this stock, leading to an artificial bubble of over 3000% of the original price. It has led to some members earning massive amounts of money, while the hedge funds have suffered immensely since they are obligated to rebuy the stocks even at the high price to return to the lender. Business Insider reported that the short-sellers lost around 5 billion dollars, with Melvin Capital lost over 50% of its value. The inflation happened due to the low share price of GameStop before the event, making it accessible to many people to add to the short squeeze to cover losses from a falling stock. While GameStop was the first targeted company, the trend caught on and similar strategies were used then on AMC Entertainment (480% change), Blackberry, Nokia and Koss Corp (3715% change), to name a few. It also spread around as Asian markets inflated heavily shorted Australian stocks, like Tassal Group, a few days later, despite a drop in the market. With such incidents being repeated by different investors on different stocks, it presents a case that is not a one-time occurrence and can occupy a larger share of the market over time.
The trading app Robinhood restricted trading on these stocks during this time, citing market volatility, which caused widespread backlash regarding unfairness and market manipulation and even led to few customers suing the app. One of the principal economic arguments surrounding this entire event is the riskiness and volatility that it causes. While some experts argue that regulation is required to avoid hindrance in raising capital by firms, it is important to note that social media collusion is more transparent than short-selling. Short-selling has often been associated with market crashes since they work on predicting declines; so a rapid sale of stocks can crash the value and even bring bankruptcy to the shorted companies. Examples include the crashes in Malaysia, Dutch Market and the financial crisis of 2008 when Bear Stearns, Fannie Mae and Freddie Mac collapsed. If this volatility does not warrant regulation, then regulating the response by retailers presents a skewed picture of what ought to be regulated.
Short-selling however, is a catalyst to a healthy financial market, since the expectation of losses competes with otherwise optimistic investors and this balance helps accurate stock pricing, increases liquidity and checks overvaluation to prevent risky bubbles. Improving disclosure regulations for short-selling is the real protective move that should be taken to allow this dichotomy of pros and cons to function efficiently.
A different but valid criticism of such events is the diversion of funds from productive ends and hence from the purpose of the stock market. The stock market connects willing investors to productive uses of their funds that will gain them returns, and these funds are directed into well-performing companies and with their products or services, increasing society’s satisfaction as consumers. Here, the companies getting the funds is not because of performance but because of frivolous reasons like getting revenge on hedge funds or trying to make fast money off collusion – such transfers ultimately take away from the funds that effective companies could use to produce value for society and affect economic activities including employment. That is a legitimate issue but can be refuted by saying that it will not be a major shift due to the size of such events. Additionally, the issue began when hedge funds slyly did the same, implying that the problem already exists due to these large investment options. Speculation has dictated the stock market as much as companies’ potentials have. Contrarily though, this event provides a strong incentive to invest and create more equitable distribution to those with lesser influence. The number of investors and funds partaking is a positive sign for any society looking to empower ownership and passive income for the majority rather than a few.
But while the economic ramifications were the reason behind the subreddit and the individual event, it is rooted deep in philosophical beliefs. While 1000’s of amateurs became overnight millionaires, many lost out and even deliberately held on to stocks aware of losing money (millions in total), to send a message. It was a populist movement about chaos stemming from distrust about wealth inequality and gatekeeping, further exacerbated during the pandemic. The unique aspect lies in the fact that these were essentially strangers, spending their money by trusting each other anonymously online. The “little man”, after being dominated and unhappy with Wall Street, fought the inequality of power, manipulation and wealth as a unit.
Apart from the hedge funds’ activities, another reason that GameStop was chosen was because of its status as a declining video game company, and the connection of gaming culture to Reddit essentially made it into a running joke revolving around the “stonks” meme. This message, of a joke against the past grievances being used to profit off and destroy an enormous hedge fund, was a story the majority could get behind as they attempted to gain their comeuppance. Professionals have argued against the fairness of such “manipulation” of the market. But these Redditors and their supporters, including Elon Musk, whose tweet raised the share-price by 150%, accuse them of corruption and insider trading. Media and news have caused stock volatility for years, often fuelled by the same people looking to further their interests, and then this is not a different case than others, just “who” has the influence has shifted. In fact, if the trading app Robinhood, Facebook or the government can impede, is this really a free market as boasted by the nation which claims to be the most capitalistic and free is an important question. Since this act was done online, it actually increases the transparency of movements rather than having it done by the elite behind closed doors with restricted information. One counterargument to acknowledge is that such events negatively affect the savings of ordinary, often retired, people that were in the hedge funds, but the same can be used to the activities of hedge funds making it a null point. While losing out on money just for revenge might not be a utilitarian paradise, the potential effects to topple the opaque stronghold by expert investors, do present an argument that is ethically credible.
The political background of this conflict lies in a divide amongst groups, and is surrounded by government structures and big technological companies. There was pressure on the American government and the Stock Exchanges to act because of “market manipulation”, including the head of NASDAQ Exchange calling for regulation. President Biden and his economic team responded by claiming they are monitoring the situation and claimed that the government was working appropriately while the Securities and Exchange Commission looked through. Senator Elizabeth Warren criticized the short-sellers, but also called for regulation so that markets could reflect the “real value” of stocks, ironically playing into the very argument of the retailers claiming that the activities of big funds dictate the price rather than their “real value”. It has almost become a battle between the camps, who share different opinions, backgrounds and lifestyles essentially depending on a power-status hierarchy. The Wall Street investors were the status quo believing that the stock market should be a particular way and think of retail investors like the Redditors as “irrational”, while the Redditors are resentful of these formal traders dominating the marker with their gatekeeping attitudes.
The resultant disturbances by the “stonks” meme shocked the Wall Street, and it is used as a symbol to question why companies get corporate bailouts all the time but retail investors’ actions are criticised. In principle, the financial sector aims to spread the message of democratizing access to finance. But this incident sheds light that the investors just want retailers to get their feet in the water, but not so deep that they take control and power from these financial “experts”. This incident at least temporarily inverted the pyramid of power dynamics. Upon this, Robinhood restricting access, and Facebook disallowing similar communication, has fuelled the amateur investors’ beliefs about the existing power structure and market manipulation. The Congress even held a hearing in February and March, but no tangible outcome came out of it, essentially an indicator that a clear regulatory action is not possible in such a complex situation. Moving forward, this difference in opinion can be mediated better if the authorities first bring changes to the way financial experts toy with the market, rather than focussing solely on these Redditor’s inflations.
While the debate about morality will rage on, it will be to implement regulations on retailers if they do not involve wider implications on hedge funds and the like. One definite outcome is increased access and usage of stock market by a larger fraction of the general public, as this event encourages retailers, making it is possible to outsmart the experienced investors. The January bubbles have long died down now, and such incidents do not completely change the future – still they will likely lead to similar events. Among the massive power structures surrounding the stock market and the political lobby, a statement of chaotic unity and distrust certainly has been made.
Author bio: Aryan Malhotra, a rising second-year, is passionate about economics, philosophy, new creative ideas, and methods of self-expression.