So something really important happened today, and I want to talk about it a bit.
GameStop is a company that sells physical copies of video games. It's mostly located in malls and strip malls around America. For a long time, hedge funds have been targeting it with short sales. They think its business model is dead, like movie theatres, and they're trying to rip the capital out of it a little at a time.
Short sales are not well understood. Not everyone can do them; you have to have a broker and a margin account, and have passed through various forms for gaining permission. It's a game for the rich and connected, mostly. It's not for everyone.
The way it works is that you enter into a contract to borrow someone else's shares of stock, promising to return them on a particular day. Since you think the business is losing money over time, you immediately sell the borrowed stocks. You wait until the last moment, buy the stocks again, and hand them back to the original owner. You pay a transaction fee to make it worth their while, and worth your broker's while. They make money at no risk: you borrow 500 shares (or whatever), you return 500 shares plus a transaction fee. Your broker makes money at no risk. You make money only if you can buy the stocks back for less than you got when you sold them.
What happened today was that Reddit went hunting short sellers at hedge funds. They went after the ones feasting off GameStop, American Movie Company, and a few other places.
Reddit put together a coalition of people with money to buy GameStop (etc) stocks. Now this caused the price to rise. It rose a lot.
When the contracts come due, within about six days, the short sellers are obligated to return the same number of stock shares as they borrowed -- or else make up the difference in market value. They lost, last I heard, $14 Billion today.
When we get to the end of their contracts, they have to either pony up cash to the loaners of the stocks, or buy shares at whatever the cost is. Everyone who bought GameStop today, if they hold until that mark, is going to make a small fortune.
This model can be repeated anywhere hedge funds are shorting American (or other) stocks.
Connected firms and people panicked hugely today. They shut down trading on GameStop and AMC and others; they persisted in trading among themselves after hours (when most people are forbidden from trading) to artificially lower the prices, in the hope of scaring people who bought today into selling tomorrow. They're terrified.
Good.
Today we learned an important lesson for fighting back against these internationalist, corporatist scoundrels. Remember it and look out for chances to do it, because you can profit by it too.
25 comments:
Related, I think, and worth reading.
Oligarchy in America - Crossing the Rubicon of class (h/t Powerline but I've seen it linked other places)
Also related
Nasdaq CEO Friedman says the exchange will halt trading in a stock if they link unusual activity to social media chatter.
"The Big Short" is worth watching, too.
Grim,
Thanks- that was the clearest most concise description of the mechanism of of short sales I have ever read.
Interesting how a crowd sourced tactic like this can work- the ramifications will be playing out for a while.
Some years ago I made some money shorting NYT stock. Combining business and pleasure.
Does any of the money sloshing around actually get "invested" in GameStop, etc? Can a company benefit from new, confident, investors -- hold a marginal location open, buy the accountant a new PC, other uses of investment capital?
Or is the new retail investor no more "invested" in the actual business than the speculator?
Uh oh, Ted Cruz and AOC agree on this, next up, rain of frogs. I understand there already is a class-action suit in NY. https://twitter.com/tedcruz/status/1354833603943931905
I don't know the answer to that question, J.M. It depends on what the new owners decide to do with the stock, I suppose. If they sell it back at a high price to profit off the need to fill the short contracts, then the stock just goes back to whomever held it before it was borrowed. That probably doesn't change the trajectory at all.
On the other hand, the new owners of the stock don't have to sell it. It's their stock now.
Unless the company issues more stock at the inflated price it gains no benefit from the price rise. The crowd that bought and squeezed the shorts has no interest in actually investing in the company and will eventually dump the stock at the higher price to take profits. Once the squeeze is over the price will plummet as it always does when markets undergo parabolic rises.
Interesting how a crowd sourced tactic like this can work- the ramifications will be playing out for a while.
One way it'll play out will be for gangs of crowd-sourcers to act to destroy companies of which they disapprove--not just short sellers (or long buyers), but the companies themselves. This will drive even more companies private and off the public exchanges. Thus,
Does any of the money sloshing around actually get "invested" in GameStop, etc?
Most of the money from buying and selling on the public exchanges passes back and forth among the buyers and sellers. The companies whose stock is being traded benefit by their stock price, in the main, rising, which suggests the company is valuable, so outside investors are more likely to invest directly in the company--added capital for the company--and the company can offer additional shares to the market, which when bought constitutes more capital for the company.
Being forced to go private by shenanigans like crowd-sourced price manipulation (and it's a narrow needle's eye to do this legally for all that it's just as hard to prove the crime), companies are denied the public market capital and must rely on private sales and private advertising--which can be expensive, while advertising via market pricing on exchanges is free--of their worth to attract investors.
Thus
Connected firms and people...persisted in trading among themselves after hours
Which is done already: that's how private companies--companies that don't put shares on public exchanges--attract investment. That's both entirely legal and in the vast main entirely above board. But the public will be denied access to these investment opportunities.
Who is that public? Mutual funds, pension fund managers, company employees with access to now truncated 401(k)s, 403(b)s, IRAs, etc. whose investment options are now limited and so retirement funding is now much harder to accumulate; small investors now with truncated access to investments in their taxable accounts--all resulting in even greater dependency on Government for things like Social Security, Medicare, Medicaid, etc.
Notice that this leaves the hated rich and Evil Hedge Funds (and fund managers) untouched. They have access to those private investment markets. The little guy can't learn about those opportunities nearly as easily, and he generally can't afford those he does hear about. And it's harder for him than it is those Evil Ones to discriminate legitimate investments from scams.
This crow-sourcing to attack disapproved of investors is no advancement. Welcome to Kancel Kulture brought to public exchanges.
Eric Hines
Uh oh, Ted Cruz and AOC agree on this, next up, rain of frogs.
Not so much. Cruz isn't pure enough to suit the Precious One, so Ocazio-Cortez is repudiating him. 'Course her manufactured hysteria regarding Cruz doesn't help her case much, except in the eyes of, to coin a phrase, her base.
Eric Hines
It's gratifying to see the little guys on Reddit take down the hedge funds, and even more gratifying when the hedge funds are made to squawk. But mobs are ugly in any setting, even when they attack people you don't like.
The real money on Wall St has always been made by the Ruling Class, safely tucked away from the hoi polloi in their clubs or their Congressional Offices, and safely insulated from risk by virtue of their position. They will always benefit from insider information, and opportunities in advance of public release - witness Pelosi's purchase of Tesla options to the tune of $0.5-1 million shortly before the Biden E.O. was signed for the Federal Fleet to be converted to all-electric. Things like this are never prosecuted - although they certainly should be. But they keep their shares in the safe where the Sheriff has his feet propped up.
The hedge funds in this case were victims of their own greed, racking up the number of shares of GameStop held in short positions to more than 150% of the actual shares on float. The truth is, I don't mind seeing them getting their ass handed to them, if it's for stupidity and arrogance.
The hedge funds in this case were victims of their own greed, racking up the number of shares of GameStop held in short positions to more than 150% of the actual shares on float.
That's what struck me about this. It's far too reminiscent of the 2008/9 crash where - loosely speaking - the market was selling more "insurance" than there were actual assets. It's like the Road Runner cartoons where Wily Coyote is running along and suddenly finds himself running on air 10 feet off the cliff edge.
BTW, this really is a great simple explanation of the GameStop stuff. Thanks, Grim.
Eric, I get the GME situation does point to some disturbing possibilities but I have some disagreements with your analysis.
As you pointed out, GameStop itself has little if any skin in this particular game. The money flowing in and out of its stock right now is neither propping up nor breaking down the company. It's own fundamental business model is going to do that, somewhat regardless of the stock price.
This situation also seems to be more driven by the proven ability of large institutional investors to temporarily manipulate stock prices than the crowd-sourced response. Short the stock of a company with poor fundamentals, get a bunch of friendly analysists and financial journalists to pile on the publicity, profit when you can buy the stock back at a price driven down by people selling in reaction. As a number of people pointed it, this time the shorters got greedy and floated way too much for long enough for other people to notice the play. It's also a situation where the risks run exactly the right way for this to happen because the amount of money each crowd-sourcer can lose is limited to their fairly modest investment but the shorter has almost unlimited loss potential if they can't maintain control of the stock price. Could somebody crowd-source a pump-n-dump or attack the price of stock to drive it down? Maybe but I have a hard time seeing gathering enough people willing to positively lose the sums they invest to make that kind of operation work. The incentives run the wrong way. Also missing is the key element of being able to do the price manipulating without public notice until you are properly positioned.
Markets have always been subject to volatility driven by psychology rather than fundamentals. The phrase 'the market can stay irrational longer than you can stay solvent' was not coined on 27 January 2021. Any company funding on a public equity or debate market recognized this long before this particular episode. I'm also not quite sure that many 401(K) or other investment funds are doing their purchasing of investments on the retail market as opposed to private exchanges, and again, they've been dealing with price volatility for a long time. I'd be questioning the fiduciary concern of a fund that was invested in or playing a short-game on a company like GameStop long before I'd be worried about them avoiding good long-term investments because of price volatility.
The whole point of an open public market is to reflect the wisdom of crowds in generating a price. The answer to this situation is not to ban crowd-sourced wisdom but to recognize where the root cause lies. Regulators were giving a wink-n-nod approval to people engaged in a banned practice, naked short selling, by accepting a barely constructed adherence to the letter of the law. There are estimates that 130% of GameStop's outstanding shares were shorted at one point. The rule used to be "he who sells what isn't his'n, buys it back or goes to prison". We appear to be on the verge again of accepting 'too big to jail' for people with the clout or connections to avoid responsibility.
The real lesson here is that Robinhood shut down the little guys in order to protect the hedgefunds. It even sold the positions of some of the little guys.
The Ruling Class servants will be on the lookout for similar attacks in the future, and the little guys will be squashed again before they can do much good.
I've never done any trading, especially not on margin, so I'm trying to get up to speed. I wondered if there was something about margin trading that exposed investors to forced sales when the market prices are volatile. Investopedia says this: "A margin call occurs when a margin account runs low on funds, usually because of a losing trade. Margin calls are demands for additional capital or securities to bring a margin account up to the minimum maintenance margin. Brokers may force traders to sell assets, regardless of the market price, to meet the margin call if the trader doesn't deposit funds." If that's what's happening, Robinhood may not be in any hot water over the "unauthorized" sales.
Companies do care about their stock price, which is part of their financial reputation, but the rules about trading aren't really about the companies being traded, they're about the proper functioning of a market between third-party buyers and sellers of the stock. That's why, for instance, company insiders aren't supposed to get involved unless they're scrupulous about not relying on inside information available only to the company itself.
In this case, the scandal is about whether hedge funds are being treated the same when they're up against the little people as they are when they're up against the oligarchs. There is word that the regulatory authorities will harass the Robinhood trader group for having done some king of "pump and dump" scheme. The definition of pump-and-dump is distressing vague and depends on the idea that there is a natural "fundamental" value of a stock which it is wrongful to "manipulate." As Matt Taibbi cogently wondered yesterday, what do these guys imagine is the "fundamental" value of a lot of stocks in a thoroughly bubbly market subject to ceaseless manipulation by the Fed? What's more, while I don't like the idea of Mafia thugs dishonestly running up a stock price only to sell after Mom and Pop U.S.A. have unsuspectingly fallen for it (but they really shouldn't have been in the market to begin with), I feel less tender toward hedge funds who did a lot of naked shorts and ended up with a position that could be closed out only with a total number of shares that exceeded the number of shares actually in existence. Apparently this can happen because the people who loan their shares to enable the naked shorts are allowed to loan them more than once at a time. Weird, I know, but hedge fund operators are supposed to be sophisticated about the risks of this.
I consider hedge funds a valuable service to the economy. They are taking the opposite side of bets. But if they bet wrong they have to go down. You simply cannot be in the business of bailing out hedge funds, or of putting the screws on their counterparties just because they contributed to your campaign.
Comment just seen at Neo: "Maybe Robinhood should change their name to Nottingham Securities Services."
Unless the company issues more stock at the inflated price it gains no benefit from the price rise.
We're talking about small companies with low priced stock. Would it be possible for a company to get a bigger loan or a lower interest rate on a loan if their stocks "settle" at a higher price? I assume either the company as a corporate whole is holding some shares, or the directors have some shares or options to put into the deal as collateral.
Seems to me there are three motives or types of players in this play. One, those seeking profit -- players on both side and very traditional. They trade on price and direction of that price. Two, those who have an irrational or simply nostalgic fondness for the company. They buy and hold to marry their fortunes together, and put their treasure where their hearts lie. Three, there are those who buy -- to sell at the worse possible moment and the highest possible price -- all from pure spite, to "stick it to those bast@rds" to retaliate for ... whatever real or imagined injury.
With that (mis) understanding, I see forming an alliance among factions to accomplish a goal as VERY political. No wonder the prevailing politicians of the moment hate events.
Part 1 of 2: Christopher B: This situation also seems to be more driven by the proven ability of large institutional investors to temporarily manipulate stock prices than the crowd-sourced response.
I think it's unlikely that the short sellers colluded to manipulate GME's stock price, especially since the outcome of their shorting was a short interest in the range of 130%-150% of the float, the outstanding shares.
Could somebody crowd-source a pump-n-dump or attack the price of stock to drive it down?
The latter is what the RH small-time investors--or at least the influencer pushing the small-time investors--was accusing the hedge fund shorters of doing. There is a ton of money that can be made from shorting--the honest bet is that the stock price will drop; the shorters have a lower, "more reasonable" price in mind that better reflects the "true" value of the company; and the shorters will be able to buy their shorts back at some lower price. A dump-and-pump move--a dishonest version of shorting, more a dump-and-buy move, and the opposite of pump-and-dump, merely expands the money to be made, if the p-and-d-er(s) get away with it.
Nor am I suggesting a crowd-sourced pump-and-dump effort by the influencer or the others who jumped onto that bandwagon. What I'm suggesting--without proof--is the possibility of crowd-sourced manipulation simply to drive the price up--pump only--in order to hammer the shorters (and make money when the shorters have to sell at those higher prices, but making significant money seems to have been secondary to attacking the shorters). To the extent crowd-sourced manipulation actually occurred--that's the danger I see and predict will come to enough fruition to drive a significant fraction of currently publicly owned companies to go private and a significant fraction of currently private companies contemplating going public to not do so.
Would it be possible for a company to get a bigger loan or a lower interest rate on a loan if their stocks "settle" at a higher price?
This would be very unusual. Most lenders will lend to a company, of any size, based on the fundamental value of the company, not on its stock market price (which doesn't exist for a privately owned company). Of those to which they lend, the lenders also will charge an interest rate keyed to their assessment of the value and soundness of the company doing the borrowing.
Eric Hines
Part 2 of 2: T99: Brokers may force traders to sell assets, regardless of the market price, to meet the margin call if the trader doesn't deposit funds.
This seems unlikely in the case of the RH investors. They were mostly small investors with accounts in the range of $500-$2500 or a bit more (I surmise, since the size of the "recommended" buys was in that range. That account size, for most brokers (RH may have had different requirements), is too small to be authorized by the broker a margin account. The broker wants, usually, much larger accounts because it wants some confidence that the investor will be good for the interest charged and able to handle margin calls with cash. Brokers really don't want to own the shares they get via margin-forced sales. Also, forced sales in response to inadequately satisfied margin calls are done at the market price. This doesn't seem to be what happened in the RH case, since those sales occurred in the after hours period, where market prices are much harder to discern. It also doesn't seem to be the case that the investors were given a margin call or time to answer one if one was given. I had a margin call once with TDA (my screwup), and they gave me three days to satisfy it. And thanked me for satisfying it the day I got the call. None of that seems to have happened with RH.
The definition of pump-and-dump is distressing vague and depends on the idea that there is a natural "fundamental" value of a stock which it is wrongful to "manipulate."
No, pump-and-dump is keyed solely to price manipulation. Fundamental value, natural or otherwise, doesn't enter into it. What's watched is the market behavior of the price itself, how much touting of that price occurred during the runup (the tout might key his calls to his claimed fundamentals, but that's just his snake oil spiel), and what happens at the peak when the touter dumps his shares.
naked shorts and ended up with a position that could be closed out only with a total number of shares that exceeded the number of shares actually in existence.
This is, strictly, legal because the shorters can pay the price with cash equal to the value of the shares not available to buy back in lieu of the shares themselves.
Eric Hines
Yes, I understand it's quite legal to do enough naked shorts that the total closing shares exceed the number of shares that exist. Any hedge fund that gets into a short position without taking this danger into account may go broke without arousing my sympathy. I understand they watch each other carefully to expose weaknesses; they just didn't think a lot of amateurs they don't play squash with could pull it off, so they didn't bother monitoring them closely enough. Expensive lesson learned, no broad cost to society in general.
I'd like to think that the Robinhood investors can't be harassed legally for a pump-and-dump for just the reason you propose: they weren't lying about the essential value of the stock in order to pump up its value so they could sell at the peak. They had opinions about the actual value it was rational to pay for the stock, even though others might disagree with their opinions. There is no "fundamental real value" of a stock. Its value is what a willing buyer and seller can agree on, both operating on their own private perceptions. These guys didn't lie about anything, and by my lights they didn't defraud anyone. They just guessed more intelligently about how certain predictable rules and pressure would play out in a complex system. Their crime is being smarter, or at least luckier, than the guys who think their position in the world as the smartest, luckiest guys EVAH was less than warranted.
Again, not to say I dislike either hedge funds in general or shorts (naked or otherwise) in particular. Someone has to take the side of the bet that says a stock is overvalued. If not, all we'd see is nonsense prices with gold stars of approval from corrupt rating agencies and government bureaucrat pinheads.
There are two questions here regarding the Reddit little investors (they apply to the hedge fund shorters, too), and they illustrate why it's so difficult to prosecute any illegality associated with this kind of situation--if there was any illegality to prosecute.
One question concerns pumping-and-dumping (and dumping-and-pumping) and it has nothing to do with underlying values or lying about them--value doesn't enter into the matter except as a verbal (not fiscal) vehicle for the pump (or dump). This is the question of why someone or a group of someones is touting or deriding a stock. Is it for the purpose of running up (or down) the price so the tout(s) can later offset their position at a profit? That motive is hard to prove, and it must exist for there to be a crime.
The other question is whether there was, or is, collusion among a group doing the pumping/dumping. Collusion is hard to prove, too; a bunch of folks acting in apparent concert aren't, of necessity, colluding.
There is considerable circumstantial evidence against the Reddit investors on both questions, but none of it that I've seen is dispositive, even in the aggregate.
But that's never been my concern. My concern has centered on the idea of crowd-sourcing to go after another group of investors or a particular company. That would be dangerous to a free market.
Eric Hines
On a lighter note, there's this r/wallstreetbets Sea Shanty:
https://www.youtube.com/watch?v=rejpDqQUcV0&feature=emb_logo
It's fun and, interestingly, it was posted on the 19th, certainly long before any of this caught my attention.
Short squeeze to su0er short sq to gamma squeeze.
https://www.reddit.com/r/wallstreetbets/comments/l7bpf5/30_seconds_from_triggering_market_nuclear_bomb/
Set them up the bomb
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