The stock market is never an easy place to understand. Even seasoned investors are often caught out by surprise shocks in the market as a whole. Sometimes, even specific stocks perform very differently from an initial investment outlook. This week, one such stock caught hedge fund traders out, and that was GameStop. But what actually happened? And why? And, most importantly, what could this mean for the future?
What’s been happening at GameStop?
GameStop is a chain of stores in the US that sells games and consoles in traditional bricks and mortars stores. Customer numbers were already falling due to the increasing trend of buying goods online. However, owing to the pandemic, the company saw even fewer customer numbers coming through the doors. It saw sales numbers decrease rapidly as a result. Consequently, the company had seen its share price at all-time lows throughout 2020.
That’s not too unusual and is actually an excellent example of the share price reflecting the company’s underlying health. GameStop was doing poorly and did not look like its sales figures would improve. Its share price was rightfully low.
Recently, however, GameStop has seen its share price surge. In fact, at its high, it was trading on the New York stock exchange for $347.51 on the 27th January. Just four weeks earlier it was trading around $20. At some points in 2020, it was even trading at below $5 a share.
Why has GameStop trading been unusual?
Besides the massive surge in its price being highly unusual trading activity, what else has marked this stock market behaviour out as odd? Mainly, it is who has been causing this price surge that’s unusual. It has been driven by the social media activity of amateur investors on a Reddit forum. Those investors shared tips and promoted the purchasing of GameStop shares to rise against hedge funds. Hedge funds had been targeted due to short selling this stock.
Short selling is the process of selling a stock you don’t actually own at a specific price, believing that the stock will go down in price in the near future. You can then buy the stock at that lower price to deliver it to the person you initially sold it to. It’s an activity that some amateur investors take a strong aversion to. Additionally, some amateur investors are still angry about the massive part that hedge funds had to play in the financial crisis of 2008. Short selling was seen as something that materially exacerbated the credit crunch. It remains, however, a popular investment strategy and totally legal.
However, with GameStop, amateur investors essentially forced the price of the stock up. They managed to do so by so much, they caused hedge funds who were short selling it to make massive losses. Hedge funds will have initially bet that the price of GameStop would have decreased even further. However, it surged - causing them to lose that bet and money as a result.
Now, the stock price is still high in comparison even to its 2021 lows. However, it has fallen considerably too. Just a day after its heady $347 highs, it dropped to $193. Since then the price has enjoyed a volatile few days - picking up slightly but still very difficult to predict.
What does this mean for investing in the future?
If you are an amateur investor looking to increase your investments, it will be a good idea to keep an eye out for similar activity. There are several reasons for this.
Firstly, you could stand to make a lot of money. While many of the investors involved in the GameStop trading claim they gave their profits to charity, they could pocket their gains too. Those gains could have been substantial, given the meteoritic rise in price.
Secondly, and conversely, you could stand to lose a lot of money. Looking at the volatility of the stock’s share price in just the last week - let alone month - means it makes any investor far more vulnerable to market swings.
However, there is another implication that not many market commentators seem to be discussing at present. That is of the losses such flashmob style investing can have on the returns hedge funds see overall. That’s important because hedge funds do not just run money for the super-rich. They help generate returns for people’s pension pots too. Causing hedge funds to make losses could have caused damage to people’s retirement pots.
Finally, it will be interesting to see what the legal ramifications of all this will be. Some trading platforms actually stopped trades on GameStop. An action many investors took exception to. Understandably so too. Many argued that stopping the trading was not right and was protecting hedge funds’ interests as opposed to amateur investors. For that reason, there has been some call for a more granular investigation into the behaviour of trading platforms like IG and Robinhood. Both platforms either stopped trading on GameStop or at least limited trade amounts.
Who are the real winners in the GameStop trading game?
It remains to be seen what the long term implications of the trading on GameStop will be. If such situations arise again, there will no doubt be even more scrutiny of the regulations surrounding sharing tips on forums. The stock market works by being free of collusion and allowing free trade. However, when huge forces get behind it - like the number of amateur investors involved in this instance - the stock market is subject to distortion. Many would argue, though, that that’s what hedge funds have been doing for years.
