Short Circuits: What’s Going On With GameStop Stock

I didn’t follow the beginning of the saga with Gamestop (NYSE:GME). I did, however, pick up on a lot of social media noise over the subject. Apparently, some Redditors were pissed that some hedge funds were shorting the stock and decided to manipulate its price by buying a bunch of it. What is shorting a stock? I’m glad you asked! Shorting means you’re essentially borrowing someone else’s stock to sell on the market. You do this in one situation and one situation only: When you think the stock is going to go down. Shorting, much like options, futures, and other derivatives, must be underwritten by some financial intermediary. Some stocks cannot be shorted.

If the stock crashes, you get to cash in your borrowed shares, earning the spread between the current price and your sales price. But if the stock goes up, you’re liable for that difference. People cautioning against short selling argue that the losses are “potentially limitless.” In a normal market, I’d say that this is one of those “true, but vacuous” claims. In this current market, it’s apt. Tesla short sellers have had their asses handed to them. Same with other stocks.

Short what now?

Why does all of this matter? Well, short interest, a common measurement of the percentage of a company’s shares that have been sold short, is a way of measuring investor skepticism. Long-term investors don’t pay attention to things like short interest, intraday movement, or trading volume, because they represent inherently short-term things. Short interest is, by and large, a gauge of how much really rich people want to bet against a stock. Tracking this sentiment in short interest is much easier than tracking it in options volume, because options pricing is wonky. Options pricing is also multidimensional– it exists across price points and time as opposed to just a single percentage like short interest. (That is perhaps a story for another day, but it’s an interesting rabbit hole to go down). So, we use short interest to gauge how much sophisticated, wealthy investors want to bet against a stock.

What stocks are the most underwater in this regard?

Some you’ve heard of. Some you haven’t: Bed, Bath, & Beyond. Ligand Pharmaceuticals. IFF (flavors and fragrances– not the CDFI that won’t call me back when I apply for jobs with them). Macerich. Tanger Outlets. AMC Networks. iRobot. The Children’s Place. B&G Foods. Macy’s. Most of these companies are ones that have suffered some perfect storm of internal problems plus a sector-wide problem (like retail).

Tesla was one of the most shorted stocks, averaging around 20% short interest before its meteoric ascent last year. A lot of people kept buying, meaning that short-sellers (again, mostly really rich people) lost billions. Of course, Tesla remains astonishingly overvalued, and this suggests that it will, eventually, crash. Probably catastrophically. Some people– like my roommate Omar, who is an engineer and loves Tesla- will continue to sing the praises of His Electricness. We’ll give young Omar a break because he’s a top-tier Handbuilt City contributor. But the value of considering this sentiment remains. People buy things because they want them. Not because they’re considering them at fair value. And this is a dangerous game to play indeed! Whether selling short or buying long, the maxim remains: The market, to paraphrase a famous economist, can remain irrational much longer than your broke ass can remain solvent.

What about GameStop?

GameStop has struggled in recent years. The company makes money, but it doesn’t make enough money. Compare it to game platforms like Steam— which are entirely virtual and do not need to liaise with dozens of different retail operators in shopping malls. If you can buy a product online, why would you drive 20 minutes out to the mall to have to park, avoid getting run over in the parking lot by a pickup truck with a DAHHNL TRUMP sticker, fool with getting your credit card out of your wallet, waiting for the receipt to be printed, et cetera. Of course, there are many valuable things about physical retail shopping– but that’s a story for another day, and perhaps not for gaming purchases.

Redditors driving up the stock price is a petty move to screw hedge fund investors. And, to be honest, I’m here for it. It appeases, as I said on Twitter this morning, my MBA brain and my “stick it to the man” sensibilities. A strange Venn diagram indeed.

What’s going to happen?

Well, what has already happened is that a bunch of big investors lost billions of dollars. Thoughts and prayers, or whatever, I guess. This is called having to “cover” their positions. It’s also called a “short squeeze” when this happens because these investors get, well, squoze. What’s next? Anyone buying this stock right now is going to lose their ass. Take it to the bank. One writer’s likeness of this situation to The Big Short is ridiculous. What else is ridiculous? Most investors– retail and professional, hedge fund and Robinhood fund- underperform the indices. Meaning, an effectively random cross-section of the market managed by a computer will, more often than not, do better than you and your attempts to game the market. So, no, trying to game the market like this is really not a good idea.

As for me? I made $45 off a long, 24-hour options trade. I intend to spend all of this on pho tonight. The spike in options pricing seems to indicate that within 24 hours, probably some of the same people shorting the stock have since started buying options based on predictions of when it will crash. These things tend to go in cycles, and the cycles can get pretty nasty for anyone jumping on the bandwagon. And that, as they say, is all she wrote. Not touching the rest of it. And neither should you. 

Nat M. Zorach

Nat M. Zorach, AICP is a city planner, community development professional, and MBA candidate at American University's Kogod School of Business, based in Detroit.

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