A flash mob of online traders briefly sent an unloved stock really high
Lesson summary
Hi there, welcome to Plain English lesson number 338. I’m Jeff; JR is the producer; and this full lesson is online at PlainEnglish.com/338.
Coming up today: GameStop is a chain of video game rental stores. They’re in shopping malls all across America. For most of 2020, investors thought it was a dying business. And then its shares increased over 1,000 percent. We’ll talk about what happened today. The expression is “run for cover” and we have a quote of the week. Let’s get started.
Wild ride for GameStop stock
A flash mob of online traders sent the stock of a little-loved video game chain soaring—and some powerful hedge funds running for cover .
GameStop is a publicly-traded retailer that sells video games in shopping malls. For the better part of last year, the investing community thought that GameStop was a dying business: video games were moving online and the chain of in-person stores didn’t seem to have an answer to shifting consumer trends. Meanwhile, foot traffic in shopping malls is down. The stock was trading for about $18 per share at the beginning of the year. It had been trading as low as $2.57 per share earlier in 2020.
On January 11, news came out that a single investor had accumulated almost 14 percent of the company’s stock (which is a lot for a public company). As a result , that investor would be able to appoint three members to the company’s Board of Directors. The activist investor, RC Ventures, has a reputation for success in online business. This was legitimate good news for GameStop: there would be changes at the top, driven by investors with success in online business. Perhaps GameStop would be able to turn its business around. Its stock rose 10 percent in a day, reflecting greater optimism for the future.
So far, so normal: these are the typical ups and downs in fortune that smaller public stocks experience. But then something very strange began to happen.
On January 25, a Monday, the stock finished the trading day in New York at $76 per share, now four times higher than it began the year. That’s a big gain. Yes, there were good signs for its future, but was the company now really worth four times more, without having executed a change in its business model?
On Tuesday, the price almost doubled again: it closed the day at $148 per share. On Wednesday, it more than doubled yet again to $348 per share, now 20 times higher than it began the year; at one point during the day on Wednesday, it reached $469 per share. By Thursday, it plummeted to $193 per share; on Friday, it was up to $325 again. There was so much trading that some brokerage firms had to stop customers from buying new shares because their brokers were unable to handle all the volume. All of a sudden, this unloved company that serves teenagers in dying shopping malls was front-page news around the world.
The dramatic rise in GameStop’s share price was out of all proportion to the company’s success or prospects. There was something crazy going on with GameStop and it came from—of all places—a message board on Reddit.
Let’s take a step back in time. Remember when I said that GameStop was unloved? That many investors thought it was a dying business? Some larger investors have a way to bet against a stock, and it’s called short selling. Selling a stock short is complicated, so I won’t explain the whole thing here. But in a short sale, if the stock’s value goes down, those big investors profit; if the stock’s value goes up, those investor lose—just the opposite of what most people do when they buy stocks.
There is one more thing to know about a short sale, though: there’s no limit to your potential losses. The value of a normal investment can fall to zero and you lose everything, but you never lose more than you invest. In a short sale, however, you can lose much, much more than you invest. That’s why it’s risky.
Now let’s go to Reddit. An online forum called WallStreetBets advocates—even celebrates—taking risks on stocks, sometimes crazy risks. A movement started on Reddit to buy up the shares of GameStop. Small, individuals started piling into GameStop, driving the price up. Some did it because they thought GameStop’s future was bright; remember, there was legitimate good news. Others bought GameStop to follow the crowd. Still others did it for a different reason.
They knew that some large investors had sold GameStop short. The higher GameStop’s stock went, the worse it would be for those large investors. A lot of people in the forums took some joy in buying a stock and driving its price artificially high, so as to inflict the most pain possible on those investors who were betting against GameStop. And it worked: the large hedge funds that had bet against GameStop lost billions of dollars in a week. Two had to be rescued by other funds—essentially, they were at risk of going out of business. Some people on Reddit took particular pleasure in seeing that news.
The GameStop story is the story of a classic financial bubble; the same story has repeated in different forms for many kinds of investments for hundreds of years—not just stocks, but land, houses, gold, oil, currencies, bitcoin, even tulips as far back as the mid-1600s. Bubbles start with some legitimate good news. A herd mentality takes hold. People see others making money and they experience the fear of missing out, so they pile on. People get an adrenaline rush, and some people get really rich in the process. A bubble can last for a week, a month, or several years. But eventually people realize the price of the investment is out of proportion to its true value—and they sell, one after another, and the price falls as dramatically as it rose.
The air started to leak out of the bubble the next week, as the shares fell to about $63, down from their high of $347 at the height of the mania.
Where is GameStop today?
I said that in a financial bubble, there’s usually a source of new money. It’s actually related to a recent lesson we did here at Plain English. In Lesson 199, we talked about how the price to buy and sell stocks has fallen to zero. Since that time, new apps have made trading stocks as easy as playing a game—and a trade is free. A lot of individual investors are now buying individual stocks in much greater numbers, thanks to no-cost trades and modern apps like Robinhood.
I’m writing and recording this on February 7, so who knows what has happened since then. Check on Google Finance to see what happened to GameStop since then—if the mania came back, or if its price settled back down to where it was earlier in the year. And if anyone is a new GameStop millionaire, be sure to take a picture with your new yacht and post it to our Facebook group at PlainEnglish.com/Facebook.
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