2021’s David vs. Goliath battle

This week Wall Street witnessed a real-life David vs Goliath story that played out like a scene from a Hollywood blockbuster movie. Wall Street hedge fund managers were caught off-guard by an army of amateur traders who congregated together via the online forum Reddit to play out a classic ‘short squeeze/pump and dump’ scheme to send a stock price skyrocketing.

How did they do it?

The mob of traders targeted a company called GameStop (NYSE:GME). At the time of writing the stock’s share price is down 44 per cent to US$193.60 having hit a meteoric high of $483 the previous day. For a stock that was trading at $19 a few weeks ago, this share price increase is astronomical. It took Afterpay (ASX: APT) roughly 45 weeks to rise from $19 to $140 and that increase occurred on the back of exponential organic growth in Australia and the US. There is only one thing that fuelled the meteoric rise of GameStop stock… a mob of Gen-Ys determined to beat Wall St.

Here is a dot point explanation of what happened:

• GameStop is a US electronics retailer offering games and entertainment products in its more than 5,000 stores and comprehensive e-Commerce properties across ten countries (in Australia, the brand is EB Games.)
• The stock has largely tracked sideways the last few years, rarely trading above $20 as its mostly bricks-and-mortar business model is outdated, and has been superseded by e-commerce. In a nutshell, GameStop was destined for technological disruption.
• Knowing this, hedge fund managers started ‘shorting’ the stock, betting against it in the hope of profiting from the price falls. Short-selling is the opposite of buying. It’s when an investor borrows shares and sells them, with the aim of buying them back at a lower price, returning the shares back to the lender.
• The company is thrown a lifeline after Ryan Cohen, founder of e-commerce platform Chewy, joins the board of directors, determined to turn the company around.
• A Reddit community called WallStreetBets of +4.5 million bored, working-from-home-due-to-the pandemic Gen-Y share traders bands together to share barely researched stock tips.
• A 19-year-old millennial going by the name of DeepF***ingValue (DFV) takes up a US$50k position in the stock and successfully persuades a bunch of clueless millennials that this was a sure thing and the Wall Street goliaths can be beaten.
• Game on – Redditors vs Wall Street.
• Armed with their pandemic cheques and student loans, the millennials started buying the stock using trading app Robinhood. What started off slowly, quickly gathers pace as more investors joined the chorus, arguing that GameStop is worth squillions. The stock rises 13 per cent in one day, then 57 per cent, 27 per cent and then it doubles.
• Then comes the short covering ‘squeeze’ – hedge fund managers who had taken out billions worth of short-selling positions to push the stock price lower, are over-run by the buying power of the mob. Realising they are wrong, the fundies all swarmed in to cover (buy back) shares in an attempt to minimise losses and close out their positions.

The end result?

GameStop shares skyrocketed due to the size of Wall Street’s short covering squeeze. The stock rose 1,745% for 2021 through Jan. 27. User Deep F***ing Value was given the title “King” and is now worth a cool $US47 million, having invested $50k initially. Hedge funds had roughly $5 billion in open short positions. While the story itself will go down in the history books, was it market manipulation or just dumb luck? Proving manipulation would probably be extremely difficult given the circumstances. But one thing is for sure – the “Greater Fool Theory” that states there will always be a greater fool ready and willing to pay a higher price, still rings true.

Ishan Dan

Ishan is an experienced journalist covering The Inside Investor and The Insider Adviser publications.