Meme stocks: the gift that keeps on giving?
Apart from incredible shocks due to Covid restrictions, what do a video game chain and a theatre firm have in common? Surprisingly, they've become among of the year's most profitable stock market investments. Gamestop was trading at around $4 a year ago and hovered around $18 at the start of the year. In January, it hit an all-time high of $347, and it's currently trading in the mid-$200 range.
AMC has had a similar success story, starting at just over $5, with a rise in January, albeit not on the same scale as GME(GameStop), and a newfound high of $72.62 last month.
And these are only two of the most well-known instances of these "meme" stocks, which also include BlackBerry, Wish, and Wendy's. For the sake of simplicity, this article will focus on Gamestop.
So, how about we start from the beginning?
Due to the economic consequences of the pandemic, GameStop announced tremendous losses. This saw the company on the verge of liquidating even more stores by the end of 2020. At that time, some individuals began to believe it was undervalued, so they began to speak out about it, particularly in a Reddit community called WallStreetBets. In this community, one user recognized that due to the danger of even bigger losses, the stock's price was below its real value. It was one of the most heavily shorted stocks on the New York Stock Exchange at the time, with a short ratio of over 100 percent, implying that there were more stocks shorted than there were available. Short squeezes quickly followed, with these short squeezes affecting many "meme stocks".
The shorting of stock refers to the “borrowing” of it with the promise of returning it to the seller. That identical stock is then sold to someone else for the same amount you paid for it. Now, if you short a stock and the price drops, you buy it back, and your profit is the difference between what you paid for it initially and what you paid to return it. The most significant distinction from traditional stock trading, and the reason for its popularity, is that, in traditional stock trading, you can only lose the amount you invest, with short selling you can lose as much as the market price. However, if the price rises, the investor can conceivably lose indefinitely because you are obligated to purchase back the stock.
What happened in this specific movement, powered primarily by inexperienced traders on Reddit, was that they elected to hold their stocks or even buy more, thus inflating the price and forcing hedge funds that had shorted the stocks to buy them back at much higher prices. As a result, in January, these new traders scored a significant win, causing hedge funds to lose almost $3 billion, which was portrayed and welcomed as a form of retaliation for the financial crisis of 2008, becoming almost like a Robin Hood situation.
These traders have kept the momentum going, demonstrating that the financial market can be more than just a playground for the wealthy, that the stock market can be open to everyone, and that if it were, it'd be a lot more volatile. This volatility will be seen in the coming months and years with the expansion of trading apps and services, as well as the influx of new blood into the market.