How Chaotic Redditors Made GameStop Stock Skyrocket (and Made Short Sellers Cry)

GameStop is a company on the brink. In August 2020, its stock was in the toilet and trading at around $4 a share. Today, the stock is worth ten times that amount. Much of that rise occurred last week. Why? A subreddit that describes itself as ‘4chan with a Bloomberg terminal' is buying shares to drive up the price.

The story of GameStop stock, which uses the ticker "GME," has gone viral on Reddit and TikTok and in various finance communities. This is for good reason: The story is crazy, and lots of Redditors just got rich at the expense of institutional investors who had been betting on the company to fail.

Wallstreetbets is a subreddit filled with chaotic investment advice and surreal memes. In August, members of the subreddit began buying up shares in GameStop and several offbeat investors started to tout the stock's virtues. In general, GameStop hasn’t been doing well. It’s a brick-and-mortar store in a business that’s increasingly moving to digital sales. It closed hundreds of stores in 2020 and owes almost half a billion dollars in short- and long-term debt.

And yet GameStop's stock has gone through the roof. This has seemingly happened because of some relatively complex stock market machinations. GameStop was a major target for financial firms who were shorting the company—many investors on the WallStreetBets subreddit believe that a few investment firms have shorted millions of shares of GameStop. This means that investors sell stock they don't have, then hope the price goes lower so they can buy the amount of shares they sold at a lower price at a later date.

To accomplish that a seller typically borrows stock from someone, usually an investment bank, then sells it. When the price drops they purchase the stock back and return it to who they borrowed it from. The act of buying the stock back is called “covering.” If the stock price rises instead of falls before a trader can cover their bet, they’re getting squeezed on their short. It’s a short squeeze. Because they've already sold the stock (that they didn't have), they still have to "cover" the amount of shares they've sold. If the stock price goes up, they have to pay that higher price and thus have lost money. When this happens en-masse, investors who have bet on a short are basically cutting their losses and forced to buy up the stock, which can send prices even higher.

“If a stock has heavy short interest and gets squeezed, the mass move to cover can bid the price up even further, making the squeeze even worse and setting off a chain reaction that can cause rapid price increases,” J.E. Karla, editor of the business newsletter Contention, told Motherboard via Signal.

One of GameStops big problems is that it has negative float, meaning it has issued more shares than are actually available. According to the posters on WallStreetBets, this has allowed its traders to take the stock hostage. 

“There is likely not an original Gamestop issued share left on the market,” Redditor gardeeon said on WallStreetBets. “We can see that of the 79,519,042 shorted shares, 68% or 54,168,330 of all shorted shares are shorted on margin.”

So, essentially, people on WalStreetBets along with several YouTube and TikTok investors guessed as long as a year ago that if they bought shares of GameStop at a low price, the short sellers would eventually be forced to cover their short en masse, which would drive the price up. Most notable among these is a user named DeepFuckingValue, who posted screenshots of them buying more than $50,000 worth of GameStop stock when it was valued at less than a dollar in 2019.

A YouTuber named RoaringKitty predicted back in August that GameStop stock would also skyrocket at some point: “GameStop is one of the most compelling, asymmetric opportunities today,” YouTuber Roaring Kitty said in a video posted August 21. “GameStop is the most heavily shorted company on the market,” he added, in a video that largely discussed why he believed GameStop is a solid company but also touched on the short squeeze possibility.

In recent days, WallStreetBets users have been buying GME like crazy, at prices between $4-8. This increased buying activity, along with a not-catastrophic earnings report and the installation of Ryan Cohen, the cofounder of Chewy.com, as a GameStop board member (Chewy is a stock market success story), sent stock prices up, which likely spooked short sellers into cutting their losses on GameStop and caused them to cover their shorts before things get worse.

“So [WallStreetBets] has enough action that just their decision to buy the stock might send it up,” Karla said. He explained that, in addition to short bets, traders might use a “call” option, a bet that the stock will go up. “Basically you are allowed to buy the stock at the current price at a later date. These options are issued by big investment banks and every time they sell one they have to buy some amount of the underlying stock as a hedge in case they have to pay out. I am going to skip over a lot of technical shit here but basically this action can move the stock price up, forcing banks to buy more stock to cover their call positions, further raising the price and creating a feedback loop this way too.”

The effect of all of this is that some Redditors have just gotten very rich on a chaotic gamble that has, for the short term, worked out. The Redditor DeepFuckingValue, who continued to buy GameStop stock as his long-term bet paid off, has dumped more than $700,000 into the stock; according to screenshots they have posted, their stock in GameStop is now worth more than $7 million.

That doesn't mean that this is going to end well, of course.

“None of this price move has anything to do with the fundamentals of the company,” Karla said. “It's all pure speculation. That means that after the squeeze is done all these guys will cash out, selling off the stock and causing it to fall back to earth. It’s just froth.”

Source: vice.com

How Chaotic Redditors Made GameStop Stock Skyrocket (and Made Short Sellers Cry)