Here’s Why GameStop Shares Surged and What It Means for Wall Street

r/WallStreetBets Reddit users have pulled the joke of the decade.

If you were on Twitter at all yesterday, you might have noticed that GameStop was trending big time, and this was all because of a stunt some Reddit users pulled to up its stock market value.

Okay yes, the stock market and how it works is often very confusing (and sometimes boring) but before you click away, this is one you’ll want to know about ‘cos it’s absolutely hilarious.

Basically, a bunch of Redditors from the subreddit r/WallStreetBets wanted to troll Wall Street’s institutional investors—also known as hedge funds—who have consistently been betting that GameStop stocks will lose value. This is a process known as 'shorting' (don’t worry, we’ll get into what that is in a sec).

So, a bunch of these users got together and bought thousands of US dollars’ worth of their GameStop stocks. From there, they encouraged other Redditors to quickly buy and sell as the price rose, causing GameStop’s stock value to surge, and leaving big short seller investors scrambling to buy and weep as they lost millions of dollars.

Okay, so now that you know the gist of what happened, let’s break it down a little further.

What is GameStop?

If you’re not from the US, you’re probably thinking: What the heck is GameStop? Well, you’re not alone. Many of us hadn’t heard the name until yesterday because they’re mainly a US company.

GameStop is essentially America’s answer to EB Games. In fact, they’re actually the parent company to EB Games. So, uh, thanks for supplying me with Switch games, I guess?

Okay, but have you ever *been* inside a Gamestop?

— Nick Confessore (@nickconfessore) January 27, 2021

In the New York Stock Exchange, GameStop is listed as GME (keep that in mind because we’ll refer to them by that when we get into the ‘stocky stuff’), encompassing GameStop and all the other video game shops they own globally.

Since about August-ish, GME’s stocks have been slowly but steadily rising in value. In July, they were trading at about $US4, then rose to $US12 in October, and by late December they were sitting at $US18.

So, because GME’s stocks were doing relatively well, institutional investors were betting (literally) that GME would soon experience a drop in value. So, they decided—as many institutional investors do—to borrow some GME stocks and sell them for a profit when they inevitably dropped, therefore making a small profit (this is the very basic explanation of ‘shorting’).

What many hedge funds didn’t anticipate, however, was a bunch of social media users banding together and buying a bunch more GME stocks, causing their value to rise.

How did Reddit make this happen?

Long story short, Reddit users were just looking for a way to annoy the top 1 per cent. So, they spread the word on the subreddit r/WallStreetBets that a hedge fund was planning to throw GameStop under the bus and short sell their stocks.

Once the word was out, Redditors bought out heaps of stocks before it could drop in price, ultimately causing it to rapidly inflate in value, and consequently triggering a ‘short squeeze’ (don’t worry we’ll also get into that).

r/WallStreetBets is the subreddit you’d go to if you wanted to brag about your stock holdings and trades, many users aren’t big investors, but some have since made millions from this whole GameStop situation.

This one guy-who goes by DeepF***ingValue (DFV) on Reddit turned his $US50,000 position that he bought in early 2020 into $US47 million.

Some other users have been sharing how the quick buy and sell of their GME stocks have allowed them to pay off hefty student loans.

What is shorting?

Okay, so to understand why Reddit wants to stop hedge funds from borrowing and selling cheap stocks, you need to understand what shorting is and how it impacts a company’s value.

The general consensus about buying shares is that once you buy some, you hope that the value of them will rise so that you can then sell them at a higher price and make a profit. This is known as going ‘long’ on the stock.

But for companies that people predict will lose value, many investors like to make a profit by ‘shorting’ their stock.

Basically, investors borrow a bunch of shares at their current price amd sell them on to others; they never actually own the stock.

If you have betted correctly and the price of the stock does decline after you have borrowed it, you can purchase them back from the market at a lower price and return the shares to the original lender for a small profit.

Still with me? Great.

While the profit is usually only a few dollars worth for each stock, the total profit you make will depend on how many stocks you initially borrowed. So, in a case where an investor bought hundreds of stocks, they’d ultimately be making a tonne of money back in profit.

If you’re a company with a declining stock price, you don’t exactly want investors to short your stocks, because it encourages the value of your stocks—and therefore the value of your company—to be driven down.

What is a short squeeze?

When Reddit investors bought out a bunch of GME stocks and caused their value to skyrocket, investors who specialise in short selling—also known as short sellers—started to notice that they had betted incorrectly on GME and quickly joined Redditors in buying out more shares.

Investors did this so that they could return the stocks to the original lender at as low of a price as possible. This was likley at a higher price than they were hoping for, ultimately causing them to lose millions of dollars.

This quick buyout led to a massive increase in demand for GME stocks with a quickly dwindling supply, making the price surge.

The act of short sellers quickly buying more shares to mitigate their losses is known as a short squeeze.

What’s happening now?

Since this happened yesterday, Robinhood and other retail brokerages have taken steps to put a stop to the massive stock price hike of companies, like GME, by blocking retail investors from buying any more stocks and only allowing them to sell. On the other hand, hedge funds are free to trade however they want.

This has caused massive outrage from the public and even members of the US Congress who have argued that small investors are being treated unfairly, and that there is manipulation in the market to only benefit big investors.

After all of this went down, the conversation online turned to the bashing of rich hedge funds, brokerages like Robinhood and multimillion-dollar companies. The hashtag #EatTheRich started gaining massive popularity on Twitter, which is high-key very funny.

As for what is going to happen next, it's not entirely clear.

It is highly likely that GME’s stock will eventually plummet again when things start to go back to normal.

It’s also unclear if laws around trading and blocking small investors will come into play, but we’ll have to wait and see if small investors are able to pull something like this again.

Header Image: SOPA Images via Getty Images