GameStop is the world’s largest retail gaming company. Think Blockbuster but for video-games.
Thanks to the digitalisation of video games, compounded by the pandemic, GameStop was struggling in the past year. Their physical shops – the basis of their business – weren’t doing well.
In April last year, their shares were priced at $US3 and were expected to fall. Instead of slumping, though, they surged.
Why? Because a group of people on Reddit wanted to disrupt Wall Street, the home of the New York Stock Exchange. And they did so, extremely successfully.
Sooo… why do I keep hearing about ‘shorting’?
‘Shorting’ is basically betting, but for really rich people. It’s when investors guess a company’s share price will drop and so place money on it.
Let’s pretend that instead of a share, it’s a new dress.
I borrow a dress worth $100 from a friend. I decide to sell that dress to a local market for $100, predicting no one will want it and I’ll soon be able to buy that dress on sale. I return a few months later and I was right. No one wants the dress. It’s now on sale for $60 and I buy it. I have made a profit of $40 – the difference between what I sold it for, and the cost of replacing it. I then return the dress to my friend. In financial terms, this is called ‘shorting’.
This is risky because fashion is unpredictable. If that dress suddenly becomes trendy, then its price could go up. Let’s say the dress becomes stylish, and the dress is now selling for $140. That’s annoying, because I still have to return this dress to my friend. So I buy it, before the price goes up even further. In this case, I’ve lost $40, because I bought it back for more than I originally sold it for.
This is what happened when wealthy people shorted GameStop shares, predicting their value would decrease, but it actually increased.
How did it happen with GameStop?
A few US hedge funds shorted GameStop’s stock. (A hedge fund is a high-risk investment fund that is usually reserved for very wealthy investors.)
Enter: Reddit. Specifically, a subreddit called “WallStreetBets”, which has about two million subscribers.
Some people on Reddit noticed that a few hedge funds had shorted millions of dollars of GameStop shares. They thought it would be a good idea to ‘stick it to the big guys’ and force their bets to fail.
The Redditors’ plan worked and the hedge funds lost their bets badly.
Shares in the company are currently at $US325 ($AU424), which is an increase of 1,700 per cent from one month ago.
Those hedge funds have since had to buy back GameStop shares at the inflated price to return them to the brokers they initially borrowed them from.
Hedge funds = not happy.
Money = lost.
Melvin Capital, one of the hedge funds who had short-selling bets in GameStop, lost 53 per cent of their investments in January, according to The Wall Street Journal.
Why do I keep hearing about something called Robinhood?
No, the legendary outlaw Robin Hood has nothing to do with this.
Robinhood, rather, is an American app that allows users to trade stocks commission-free. Many Redditors were using Robinhood to buy GameStop’s shares.
The app is targeted to younger people and specialises in low-cost trading – the perfect platform for amateur investors.
But on Friday, Robinhood suddenly banned users from buying GameStop shares. This manipulation of the market infuriated its users, because people saw it as Robinhood trying to protect the hedge funds – an accusation Robinhood denies.
American congresswoman Alexandria Ocasio-Cortez also got involved, tweeting: “This is unacceptable.”
Her tweet gained support from billionaire Elon Musk and right-wing senator Ted Cruz.
Robinhood has since lifted their restrictions, allowing amateur investors to invest in GameStop again.
WHY CAN’T THIS HAPPEN IN INDIA?
It is basically is a phenomenon in which the trader who has short sold the shares buys the stock at a higher price to cover the losses. A buying by the short seller further pushes the price of the stock leading to a situation called short squeeze.(that is what the hedge funds had to do)
This is exactly what happened in case of the company Gamestop.The traders anticipated a short squeeze situation in the stock.
So now the question is can this happen in India?
There are basically two aspects in it. One do the derivative market regulations allow such trade to happen in India and second what are the legal implications of it.
The regulations put in place by the Securities and Exchange Board of India (SEBI), it is very difficult to carry out such trade in India.
There are a few reasons behind it. One, in US brokers are allowed to lend shares to the traders. So, they keep shares in a pooled account, which makes lending possible. However, In India the shares are kept in the demat account of the particular trader and brokers are not allowed to use them for lending. “In India the regulatory environment is stricter. Lending in stocks has to be done through an Exchange platform called Stock Lending and Borrowing Mechanism (SLBM).
Also, legally there are regulations which prevent traders from manipulating stock prices.
SEBI has regulation under the Prohibition of Fraudulent and Unfair Trade Practices relating to the Securities Market, which defines manipulative and unfair trade practices and prohibits a trader or investor from carrying out such practices,
If SEBI establishes that an activity is conducted for the purpose of manipulating the stock price of a company, such persons can be liable under the law.
It is impossible to create that kind of short squeeze in India. SEBI and stock exchanges closely regulate Stock Lending and Borrowing Mechanism (SLBM) which itself is reviewed half-yearly. Also, SEBI and Stock Exchanges have robust surveillance systems and any concentration in stock or F&O is keenly watched through limits on market-wide position limit (MWPL)