The Big Short Squeeze

January 31, 2021

I am absolutely loving the drama unfolding right now with GameStop and other highly-shorted stocks. The FED, SEC and White House are literally freaking out that a bunch of retail investors could band together on a social media group and take down big hedge funds in a classic short-squeeze. Here is how it happened.

It’s Game On

An investor named Keith Gill from the social media platform Reddit noticed extremely high short activity on a number of stocks, including GameStop, AMC, Blackberry, Koss and Nokia. Keith and other members of a subgroup on Reddit called WallStreetBets, decided they could buy enough shares of GameStop to “squeeze” the short-sellers and make a profit in the process. They were wildly successful, with some of the Reddit investors making millions of dollars, while the short-selling hedge funds lost over $5 billion.

This is definitely the most entertaining story of 2021 and the greatest triumph of retail investors I can remember. WallStreetBets has nearly 3 million members now and there is nothing stopping them yet from causing further mayhem. Wall Street hates to lose money, especially in such a humiliating fashion and I expect them to fight back.

As fun as this has been to watch, I predict it’s going to end badly for the majority of GameStop investors. Exiting these highly-inflated positions is going to be extremely costly. Those who got in and out first will profit handsomely. Those who bought the hype and got in late, will likely lose most of their investment.

Robinhood Lays an Egg

I wasn’t a big fan of Robinhood before and I’m even less of a fan now. I’m all for an App that allows small investors to get started in the market, with a small amount of money. I’m not a fan of how they allow a hedge fund to front-run people’s orders. Users have to pay for the platform somehow, but the SEC clearly lays out how front-running cost Robinhood customers more than fees would. (SEC Article Below) The way they blocked investors from buying GameStop, while allowing them to sell is telling. Either trading on a stock is halted or it isn’t. Even worse, they sold some of their investor’s GameStop stock, based on a raised margin call, which caused a lot of anger.

No matter how Robinhood tries to spin it, this has the appearance of protecting hedge funds at the expense of their customers. To be fair, they did have to raise a billion dollars to cover these trades and I’m sure they are under intense regulatory scrutiny. I would also bet they were under pressure from the hedge fund partner that executes their trades. Even the Wolf of Wall Street said on Newsmax the other night that Robinhood was in a no-win situation. But, they rolled-over on their customers in the most egregious way. With an upcoming IPO and on the heels of a $65 million fine from the SEC for misleading customers, this was the worst possible type of PR.

Regulators to the Rescue

The most comical part of this story is the way regulators have over reacted to all of this. The very same regulators who allowed the dotcom bubble, the Great Recession of 2008, the Flash Boys, the Flash Crash and the London Whale are suddenly up in arms. Where have they been for the past 20 years, living in a cave? They are taking aim at a bunch rouge nerds on Reddit, while completely ignoring the real danger to the markets, Naked Shorts. How is it even legal for a hedge-fund to short a stock it doesn’t even own? Why are they allowing short-sellers to attack publicly traded companies, like GameStop and even Tesla, with short positions up to 140% of the company’s stock? The real gambling casino is the dangerous misuse of derivatives and we all saw the devastating effects of this in 2008. Why aren’t regulators limiting the abuse of derivatives? Are they completely inept or complicit in the swindle?

My Takeaways

I’m so proud of WallStreetBets for their brilliant short squeeze on GameStop. Somebody needed to shake up the rigged-nature of the markets and they have brought plenty of attention to the cause.
Investing can be a fun and lucrative hobby, provided you don’t get caught up in a Ponzi-scheme. Wild speculation often leads to wild results. Invest for the long-term and you may have a prosperous future.
Investors should find a brokerage that doesn’t limit your trading, force you out of positions or allow someone to front-run your market orders. There are lots of great brokers available and most of them have an App.
Regulators function to protect the interests of big money, not retail investors. If regulators protected investors and markets, they would ban naked shorts, instead of going after investors who executed a short squeeze.

The Bottom Line

Institutional investors have been allowed to fleece retail investors for centuries. If regulators were really concerned about the integrity of the markets or protecting investors, they would have put a stop to it a long time ago.