Economic students explain the GameStop controversy

In January of this year, an unprecedented movement started online and managed to flip the script on the usual buying and trading that occurs on Wall Street. 

People united by the social networking site Reddit managed to turn one of the tactics used by large scale stock traders. In the process, they are making some solid cash while causing some issues for those hedge fund traders. 

Those who are not actively involved in the stock market might not know much about this situation, but a deep dive into the incident demonstrates a complex dynamic in the world of stock trading.

“This whole deal is massive,” Master of Business Administration student at UW Harlan Gipps said. “Businesses that exist in Wyoming and that employ and support many of us were involved.”

It all starts with GameStop: a video game retailing business with locations across America. 

GameStop as a business has been under some pressure for a while. Shopping trends, especially those during the COVID-19 pandemic, saw the store take massive hits to their profits.

Wall Street investors began betting heavily against the company believing its brick-and-mortar business model was set to fail. 

“The idea was that having physical stores was no longer possible. It cost too much and it just wasn’t worth it,” Gipps said. “With people doing online shopping, investors believed that GameStop would lose more and more profit until it sunk under the cost.”

“We have a GameStop right here in town,” UW Economics major Garrett Cullen said. “These are actual stores that are Wyoming businesses that offer services to Wyoming people. However, because shopping trends became more online during the pandemic, these stores became a liability to some.”

Gipps says that Wall Street investors started placing their money accordingly, showing a lack of faith in the company and hoping to “get what meat was left on the bone”.

The investors involved in betting against GameStop are often labelled as hedge funds.  

“A hedge fund is a partnership or organization between investors that often coordinate their tactics and use their larger pools of wealth to secure more stock or gains,” Cullen said. 

In the analogy, hedge funds would be the big fish in the pond who are able to manipulate the market and make it harder for small fish to lay claim according to Cullen. 

This is exactly what the investors did. 

Hedge fund investors used a common tactic known as short-selling. A slightly convoluted high-risk tactic that can be used to artificially sway the price of a stock. 

Cullen and Gipps described short-selling in the following way. 

An investor will take a number of stock shares from a lender. They will then sell those loaned stocks on the market to artificially drive the price down. 

According to economist and UW graduate Mike Grant, this is a simple supply and demand thought process. 

“The more of a product that exists, the less valued it is and therefore the smaller the price tag,” Grant said. “In the case of the GameStop stock, the more shares of the stock that were pumped into the system, the less it was valued. Think of something like fine wine. Fine wines are rare and the rarer they are, the more expensive.”

The process of short selling is similar. 

In Grant’s analogy, short selling would work like this. 

An investor would ask a friend to loan them that rare wine. They would then sell that wine to make it appear like there was more of it on the market. The resulting price drop is the goal. 

The investor would then buy up as much wine as possible for the reduced price. Returning what the friend loaned and keeping the rest for themselves. To either buy or have, making a profit either way. 

However, hedge fund investors were challenged in their attempts to short-sell GameStop shares. 

On the social networking forum site Reddit, a subreddit dedicated to the happenings of Wall Street known as r/wallstreetbets became a hotbed for the offensive. 

“As soon as the stock price of GameStop was going down, we knew what was happening,” active Reddit user and UW Economics major Paul Hinkley said. “It was then that Reddit users began to buy up the stock as much as possible. 

“There was a quick move to buy all the stock they could. Not just the ones that were there, but even the ones the investors had sold to drive the price down,” Gipps said. “This is called a short squeeze. Buying up the stock they wanted and squeezing in on them to keep stocks out of their hands.”

This short squeeze by smaller investors had large shockwave effects. 

The sudden activity and massive buy rate lifted GameStop’s price up 1700%. Turning it from a struggling company into one with tangible success.

The other came when those buyers decided to implement the Hold Strategy. 

“The hold refers to the idea that no one sells anything. Not even if it’s dropping or rising. You just have to hold that stock no matter what,” said Hinkley. 

Holding the stock, no matter the circumstance, has since gained popularity under the analogy of having “diamond hands”. 

Holding the stock made it so that those hedge fund investors who implemented the short-selling now couldn’t buy stock to pocket or to replace the ones they had borrowed. This meant as their lenders came calling for the stocks back, the investors instead had to give them money to replace the lost stock. 

As the price rose, so too did the money hedge funds had to shell out to lenders. 

“It’s a great example and one of the first times where a coordinated effort by the average person cost the big guys so much money,” said Cullen. 

“The people were benefiting in a way that normally on Wall Street guys do,” said Hinkley. “It was a little like the Occupy Wall Street thing all over again.”

GameStop was not the only stock affected as similar strategies and counter strategies were used for the likes of AMC Theaters, Blackberry, and more. 

Specifically, a corporation known as Black Rock Holdings LLC out of Buffalo, WY was also subject to the short-sell/short-squeeze dynamic. 

“Black Rock is a bit of a smaller catch on the trading circuit,” Gipps said in a follow-up interview. “That being said, this company could have been sunk or entirely swallowed up by hedge funds if they so desired. That would have been a very direct blow to Wyoming.”

Multiple Wyoming based companies such as Weyerhaeuser lumber and other national companies with locations and businesses in Wyoming were subject to the short as well. 

Some of which are still suffering some financial downturn according to Cullen. 

“If a stock doesn’t see a massive inflation of support like GameStop did, they are likely to have trouble fully recovering if they even manage to stay open,” Cullen said in a follow-up interview. 

In the dust of the incident, some on Wall Street and in Congress began to cry out saying that what happened was unfair. Even some trading sites like Robinhood, an app often used by small time traders, barred users from buying GameStop or other affected stocks to keep users from taking more ground from the hedge funds. 

“I think it’s a joke,” said Gipps. “Robinhood stopped people from buying. Wall Street investors were wanting some Redditors arrested. Members of Congress made a Redditor testify. All they did was use the same market manipulation tactics, but in reverse.”

Democratic Senator Sherrod Brown of Ohio said, “People on Wall Street only care about the rules when they’re the ones getting hurt. American workers have known for years the Wall Street system is broken — they’ve been paying the price.”

Brown also argued that it was time for the government body overseeing the stock market to regulate the stock markets more. “It’s time for the SEC [Securities and Exchange Commission] Congress to make the economy work for everyone, not just Wall Street.”

Other members of Congress have joined in as well in calls for the SEC to put more regulations on the market or probes into Robinhood for limiting trade of stocks. 

“I think no matter what way you look at it, the little guy bit back at the big guy. Normally they’re the ones manipulating the market at our expense,” said Cullen. 

In the aftermath, a few different stories are being told. 

GameStop and other stocks are still profitable, but experience massive points of fluctuation randomly.

Hedge funds overwhelmingly reported a loss. Such as investment fund Melvin Capital which reported a 30% loss over the year so far and others such as Morgan Stanley reporting a $6 billion dollar loss. 

Several other stocks were affected and still see an increase in their stock price. 

“In the end, I hope people remember this and find the big takeaways. Otherwise, those hedge funds will just do it again in a couple years or sooner,” said Hinkley. 

Gipps recommends people look into the incident online as “there is much more than can even be covered and everyone should know.”

As for what is next for Wall Street and r/wallstreetbets, only time will tell.