Why all the fuss about Wall Street, Gamestop, Reddit and Robinhood?
I also wanted to step my foot on a hype subject for the last week to summarize for those who are not relevant and keen to find out why all this fuss between Wall Street, Gamestop, Reddit and Robinhood.
First, you need to understand what a “short” is in trading. A”short” is when you borrow a stock from a broker and sell it immediately at its current price. Then you hope the stock’s price falls such that you can buy the stock at a lower price and return the shares you borrowed to your broker, but keeping the difference for yourself.
Example: Let’s say I want to short ABC which has a current of $10. I borrow 1 share and sell it immediately at $10. I have $10 now but I owe my broker the 1 share I borrowed. Then let’s say the price of ABC drops to $7. I now decide to “cover” (buy it back) my short position and buy 1 share at $7 and return the 1 borrowed share to my broker. I made $10 when I sold and only had to pay $7 to buy it back lower, so my profit is the $3 difference.
But, things in real world do not always go in favor of your foresights. Let’s say instead of the ABC price dropping to $7, it goes up to $15. I still need to return the 1 borrowed share to my broker, except now it’s going to cost me a lot more to buy it back. If I buy it back at $15 so I can return the borrowed shares, my losses will be the $5 difference between sellilng at $10 and rebuying at $15. Since the price can rise indefinitely, my potential loses as a short seller are unlimited. At some point I have to buy it back to return the shares I borrowed. The more the prices rises, the bigger my losses.
Back to what’s happening with Gamestop is exactly how it is in basic terms. A few weeks ago a redditor noticed that a hedgefund had taken huge amount of short trades against Gamestop. Redditors convinced themselves within the community and joined forces to buy as much Gamestop stock as possible. This action naturally made price rise and the hedge funds short position started to lose billions. Their losses even exceeded the 13.1 billion which the hedge fund itself’s worth.
Eventually, the hedge fund had to close their short positions and buy all the gamestop stock back at much, much higher prices, causing the price even higher. This is called a “short squeeze”. Now, the hedge fund is declaring bankruptcy, and the reddit thread is combing through other hedge funds with massive short exposure so they can short squeeze them into bankruptcy as well.
As for Robinhood, which is one of the countless applications that provides services as an intermediary for buyers and sellers for to be able to perform transactions smoothly and in a fast way now has made public announcement that they have intervened the transactions in the statement starts with as quote “In light of current market volatility, we are restricting transactions for certain securities to position closing only, including $AMC and $GME.”. This public announcement has naturally triggered questions of how fair the system and parties when they start to lose money. Is there any solid existing regulator to inspect and draw the lines when things go sideways?
Wall Steet is now claiming that the public joining together in such cause should be illegal, but really they just lost at their own game to the masses.
