GameStop: Modern Day David vs. Goliath

GameStop: Modern Day David vs. Goliath

February 12, 2021

Chances are you’ve caught wind of recent market news involving Wall Street traders, GameStop, Reddit & Robinhood. Clients have reached out to us wondering if any of the related market volatility could impact their portfolios. Here’s a quick summary of what’s happened so far and what could happen moving forward.

Most investors in the stock market look to profit by “buying low and selling high” but, some investors seek to profit when the price of a stock falls. This strategy is known as “short selling” which is when stock shares are borrowed from a lender and then sold on the open market. The stock shares are then repurchased within a specific timeframe and returned to the lender. The assumption is that the price of the stock will go down before being repurchased, thus repurchasing at a lower price than what they sold for. They lose money if the stock price rises. One approach is to short sell businesses in financial jeopardy, like GameStop, hoping that their stock price will decline.

Reddit is a social news and discussion website with topic-specific communities. One Reddit community called WallStreetBets caught wind of certain hedge fund companies short-selling shares of GameStop. They organized a movement to get back at hedge funds by bidding up GameStop’s share price. The rapidly rising share price “squeezed” the short-sellers, forcing the hedge funds to buy the stock back at astronomical prices.

To manage the fallout, several online brokers, including Robinhood, temporarily restricted the trading of stocks targeted by Reddit’s WallStreetBets community. This “control” has been met with both agreement and opposition. There has been much speculation over Robinhood’s reasons for limiting trades in GameStop. While the answer has not been clarified, the simplest explanation is that Robinhood received a capital call, as is common in the brokerage industry, to cover for pending trades.

Hopefully, this summary was helpful! Because this situation is still unfolding, it’s hard to predict how this will shake out. Rest assured, we are carefully monitoring the markets and will reach out if anything changes.