GameStonk - A Short Story on GameStop | Reddit Takes On 2 Powerful Hedge Funds

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What Is GameStonk (GameStop)?

GameStop is an American retailer that sells video games, gaming consoles, merchandise, and other consumer electronics. Founded in Dallas, Texas, the company has over 5000 stores worldwide. If you have lived in the United States, most likely you have been to one of their stores or at least have seen them in a mall.

GameStop: Power To The Players

The company’s stock trades on the New York Stock Exchange (NYSE) under the ticker symbol GME.

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What Is Going On With GameStop?

GME Stock Price LIVE

GameStop has been in the news recently because of a tremendous surge in its stock price in a very short span of time. Beginning January 2021 with a stock price of $17 per share, GameStop stock (GME) finished at $325 per share on January 29, 2021 (the last trading day of the month).

In just one month, the share price grew almost 19X (i.e. 1,900%).

[update] As of the first week of July 2021, GME stock is still trading over $200 per share, almost 11.7 times its value at the beginning of the year.

GameStop (GME) Stock Price

From $17.25 on Jan 4, 2021, to $325.00 on Jan 29, 2021

Image: Google Finance

Why Does GameStop Matter?

The rise in the GameStop stock price is not a random event. It is perceived as a battle between some hedge funds and some retail investors who actively discuss their stock analysis on Reddit. The hedge funds are precariously positioned to lose a lot of money and even go out of business, in this battle.

There’s a whole story we will cover in this article. Let’s see what Reddit and what WallStreetBets are.

What Is Reddit?

Reddit: The Front Page of The Internet

The logo belongs to Reddit

‘Reddit – the front page of the internet’ is a network of communities based on people’s interests.

Anyone can create an account with a username and password on Reddit and can participate in discussions in groups or ‘subreddits’ of their interest. The subreddits have their rules and have ‘bots’ as well as moderators overseeing the activities to ensure compliance with the rules.

What Is WallStreetBets Or WSB?

WallStreetBets (r/wallstreetbets) or wsb is a community on reddit. The group describes itself in the following words “Like 4chan found a Bloomberg terminal”.

As of writing this article, the group has about 7.4 million members. The members discuss stocks, share memes, post screenshots of their losses or gains. While some stock analysis is very basic and is supposed to induce humor through ‘memes’, others can be very well researched and detailed.

Note: The language on the subreddit can be offensive to some people, so reader discretion is advised.

Why is WallStreetBets in The News?

Some members of r/wallstreetbets identified a very unique opportunity to benefit from the GameStop (GME) stock. A user u/deepf**kingvalue believed that the GME stock had strong balance sheets and that it will survive for a few more years if not more. He also discovered that there is an unusually high ‘short interest’ in the GME stock. In plain language, some funds were betting heavily on the downfall of the GME stock. He shared his analysis and many other users agreed with it.

One major catalyst that started the rise in the stock price was when GameStop announced that Ryan Cohen (Chewy co-founder) would join the company board. This infused a new belief in GameStop’s survival and transformation amongst the shareholders. Many investors bought some shares, driving the stock price up.

The price of the GME stock going up had its consequences. It impacted a group of hedge funds that had ‘shorted’ the GME stock, and panic ran through their camps.

Let’s understand what ‘long’ and ‘short’ mean for positions on a stock.

What Is ‘Going Long’ On Stocks?

Investor believes a stock price will go up and wants to make a profit from upward price movement.
Investor buys the stock and holds it, with plans to sell it later at a higher price (or never sell and keep collecting dividends).
Generally, regular investors use this strategy to benefit from a company’s growth.

What Is ‘Short Selling’ Or ‘Shorting’ a Stock?

Investor believes a stock price will go down and wants to make a profit from downward price movement.
Investor ‘borrows’ the stock on a margin account (aka takes loan) and sells it at the then market price, with plans to buy it back when the stock price falls (this is the bet they are making).
By selling the stock at a higher price and buying it later at a lower price, the investor makes a profit.

What Is The Problem With Shorting?

The investor can make huge losses if the stock price keeps going up! Theoretically, the loss on a short is INFINITE.

Who Shorted GameStop?

The two hedge funds that came to the limelight for shorting GME are Melvin Capital and Citron Research.

Even though the funds communicated last week (Jan 27) to several media houses that are no longer short on the GME stock, investors believe that those media statements are false and they still have short positions.

The theory is that the media statements aimed to take the heat off hedge funds so they can cover shorts at a lower price.

Link to the article claiming Melvin and Citron have surrendered bearish bets

How BIG Was The SHORT?

Insanely high, 140% of the available stock, according to some analysts! This level of shorting is just unprecedented. When Redditors realized the precarious position of hedge funds, that they will have to buy back these many shares to close their short positions, they knew there is a huge potential for a ‘Short Squeeze’.

Did others realize the opportunity and jump on the opportunity? Absolutely, most likely including some other funds!

Why Did The Price of GameStop Go Up?

Both short squeeze and gamma squeeze are at play to some extent currently. While the squeeze is not yet over, they have played a part in the rise of the stock price until now. Investors are expecting a steeper squeeze in the coming weeks.

What is Short Squeeze?

When the stock price goes up, instead of down, the investors (‘shorts’) who shorted the stock start buying the shares to limit their losses.

Remember, the higher price they buy at, the higher their losses.

This buying activity leads to a further rise in the stock price, forcing more ‘shorts’ to buy more stock to contain their losses.

Guess what – additional buying further pushes the stock price up!

This self-fulfilling prophecy drives up the stock price steeply.

What is Gamma Squeeze?

Without getting too technical, let’s understand the dynamics here.

As you might know, investors buy call options to benefit (leveraged) from upward movement in stock price. But, some short-sellers also buy call options to hedge (mitigate) their risks on short positions.

Once the share price starts rising, the gap between the share price and the ‘strike price’ of the call options narrows. The person or organization that sold (wrote) the call option now buys more shares to reduce their risk of losing money.

For example, a stock trades at $50 now, and a person wrote a naked call option (i.e. selling a call option without owning 100 shares of the stock) for $100 strike price.
Suddenly the price of stock rises to $90.
He or she realizes the stock price can go much above $100 before the call option’s expiration date, say to $150, there is a risk of monetary loss for them.
Technically, they would have to buy the stock at a higher price ($150 * 100) and sell them for $100*100 making a loss of $5,000 per call option.

In simple words, a gamma squeeze also creates an upward pressure on the stock price because the call option sellers must buy shares to reduce their risks.

Guess what buying more shares does? Yes, it drives the share price even higher.

How High Will The GME Stock Price Go?

There is no easy answer to that. We simply do not know!

If the short sellers have ‘shorted’ 140% of the available stock, they WILL HAVE TO buy those shares back to close their short positions.

Investors should also keep in mind that gamma and short squeezes are double-edged swords. While they make the stock price skyrocket, a steep fall in the stock price follows soon.

Will the hedge funds rush to buy the shares?

Maybe, and that can trigger both – short squeeze and gamma squeeze

Why don’t the hedge funds just wait for the price to fall down?

Technically, they can.

However, when the hedge funds borrow the stocks to short sell, they have to pay crazy high-interest rates, 20% and higher. So, every day they hold those shares, they lose money. The hedge funds have to make a decision on how long they can afford to wait before buying to cover their short positions.

The Reddit community on the other hand is not willing to sell its stock. They know that by simply holding on to their shares, they can cause unrest among the ‘shorts’.

Should I Invest in GameStop?

High Volatility = High Risk!

GameStop stock at this stage is very volatile. Please do your due diligence before making a decision. If you are new to investing, there are relatively safer investment options in other stocks and ETFs.

FAQ on GameStop SHORT Story

What does ‘GameStonk’ mean?

GameStonk is a tweet posted by the billionaire and Tesla CEO, Elon Musk, on Jan 26, 2021. He captured the essence of crazy price movements going on with the GameStop stock (stonk as called by some Redditors) and combined them to form a new word – GameStonk.

Gamestonk!! https://t.co/RZtkDzAewJ
— Elon Musk (@elonmusk) January 26, 2021

Do Stonks (Stocks – In Reddit Language) Only Go Up?

Well, no!

It’s a Reddit meme, but actually, stocks can go in any direction, up or down or sideways.

What Does ‘Diamond Hand’ Mean?

In Reddit language, ‘diamond hand’ means the shareholder will hold the shares no matter how much volatility the stock faces.

What Does ‘Paper Hand’ mean?

In Reddit language, ‘paper hand’ means the shareholder will sell the shares if the stock price starts falling.

What Other Events Happened During The GameStonk Episode?

A lot!

The below items are our opinions, not established facts, so please use your judgment.

Media statements (probably false) made by hedge funds they have covered their short positions already.
Low-volume after-market price drops artificially created (allegedly done by hedge funds to trick investors the stock price is falling and making them sell their shares)
Some brokerages restricted common investors from buying GME shares [this is a fact]. After that an ‘artificial selloff’ was triggered by hedge funds to trick investors into believing the share price was falling (again, to make them sell their shares).

Disclosure: The article is for information purposes only. This is not investment advice.
We are long on GameStop (GME).