By: Elizabeth West
In January, video-game retailer GameStop made headlines after the company’s stock surged from $40 to almost $400 in just days. Redditors in the r/WallStreetBets subreddit, led by the pseudonymous “DeepFuckingValue,” purchased huge amounts of GameStop stock (“GME”) after analyzing the markets and concluding the stock was undervalued. Traditional investors, through hedge funds, had already shorted the stock, betting it would fail.
Short selling occurs where brokers borrow shares of stock from investors to sell and buy back later, profiting off the stock if the price goes down. Essentially, they are betting that the company will fail. Short selling is the flip side to the traditional investment strategy of buying low and selling high. Short sellers are typically hedge funds due to the risk and strategy required to successfully bet against a company’s success.
With GameStop, the r/WallStreetBets subreddit sparked interest in GameStop stock, causing its millions of followers to buy shares, raising the stock’s price. This, in turn, piqued even more interest in GameStop stock in what’s termed a short squeeze. A short squeeze occurs when a stock price suddenly jumps, forcing short sellers to continue to buy more stock to stave off their losses. This scramble to purchase only serves to drive the stock price higher, contributing to the squeeze.
While short squeezes are not uncommon, with “hundreds in a typical year” and “more at times of market volatility,” the situation with GameStop is unique. GameStop has become one of the most shorted of all publicly traded companies, along with AMC Theatres, Bed Bath & Beyond, and Blockbuster. Most short squeezes are prompted by some positive news event, driving trust and interest. In the case of GameStop, the stock movement didn’t take off until January 13, continuing for weeks without any proactive news from the company itself.
This led to GameStop stock rising to 600% in nine days, costing traditional short sellers, like Melvin Capital, more than $6 billion–with hoards of r/WallStreetBets utilizing apps like Robinhood and unified behind memes and hoping to get a piece of the action. Robinhood advertises “commission-free investing, plus the tools you need to put your money in motion.” Robinhood was crucial for r/WallStreetBets investors, so-called meme investors when squeezing GameStop stock.
Robinhood gained popularity by offering no account minimums or trading fees. In the first month after its debut five years ago, more than 100,000 people signed up for the Robinhood app. By 2018, the platform had more than four million brokerage accounts, surpassing E-Trade. The popularity of Robinhood’s no-fee brokerage services is, in part, a reaction to the expensive, fixed-rate commissions that traditional brokerages have charged for nearly 200 years. In the 1970s, the Securities and Exchange Commission (“SEC”) ended overly expensive commissions, and $70 commissions became the standard. That standard dropped even further by the 1990s, pushing commission costs below $20. After the GameStop short squeeze, Robinhood made additional headlines after temporarily freezing trading of GME.
Why did r/WallStreetBets get involved in short squeezing GameStop in the first place? For some, it was a joke. The COVID-19 pandemic has left many people bored and with the time to start a new hobby and spend time trolling the internet for stock advice. While some traditional Wall Street commentators have called the recent interest in meme investing a “phenomenon…insane” and “like nothing [they’ve] ever seen,” for many, the aim was to “stick it to the man.” As Reddit co-founder Alexis Ohanian put it on Twitter, the GameStop squeeze is “the public doing what they feel has been done to them by institutions.” Many cite their motivations as an effort to take back money and power from the big banks and corporations that they see as having caused the 2008 financial crisis.
While short selling is not illegal, the recent happenings surrounding the GameStop short squeeze have prompted federal regulators to take a closer look. The SEC is looking into whether Robinhood and other brokerages were in compliance with federal regulations after restricting GameStop trades in the days following the short squeeze. The Department of Justice’s fraud section is attempting to gather information about the recent frenzy over GameStop.
Additionally, Reddit is reportedly under investigation by the Commodity Futures Trading Commission (“CFTC”) for its involvement with meme investors in the r/WallStreetBets subreddit. In early February, Congresswoman Maxine Waters announced that the House Financial Services Committee will hold hearings about the recent market volatility. The hearings, to be held on February 18th, will see representatives from several key players, including Robinhood, testify before Congress. Representative Waters announced that the hearing “is going to be educational” and “a learning experience for everybody.”
Efforts by Robinhood and other markets to block further GameStop stock purchases in an effort to stop further losses have sparked outrage by lawmakers and the general public alike. In a January statement, Senator Sherrod Brown (D–OH), who is the incoming chair of the Senate Banking Committee, said, “people on Wall Street only care about the rules when they’re the ones getting hurt…[I]t’s time for the SEC and Congress to make the economy work for everyone, not just Wall Street.” Senators like Brown and Elizabeth Warren (D–MA) are now calling for additional regulation in the financial industry. In a recent statement, Warren promised to hold the SEC and other financial regulators accountable, stating that “[f]or years, the same hedge funds, private equity firms, and wealthy investors dismayed by the GameStop trades have treated the stock market as their own personal casino while everyone else pays the price.”
Calls for regulation are well-founded. Recent events may appear to be democratizing Wall Street, even signaling a huge shift in wealth towards the middle-class. However, without regulation, these meme investors are acting less like Jordan Belfort and more like an Average Joe, gambling their life savings in Las Vegas-based on a few tips they learned online.
Student Bio: Elizabeth West is a second-year law student at Suffolk University Law School. She is a staffer on the Journal of High Technology Law. Elizabeth graduated summa cum laude from The University of Massachusetts Boston with a degree in History.
Disclaimer: The views expressed in this blog are the views of the author alone and do not represent the views of JHTL or Suffolk University Law School.
