A hallmark of the recent rally in stocks is a surge in trading by individual (or retail) investors. While to some, this has brought back memories of the dot-com era, we see few similarities overall between then and now. For one, the stocks leading this rally (predominantly the big tech stocks) are hugely profitable. There are no pets.com, or etoys.com, or indiscriminate buying of any company having anything remotely to do with the internet, this time around.
That said, we do see some strange things occurring in certain pockets of the market that bear watching. The oddest of them all is GameStop.
GameStop is a dinosaur in that it is a brick-and-mortar retailer selling video games that can either be downloaded from home on a console, or purchased more cheaply on Amazon or other online stores. Revenues fell from $9B in 2018 to just $5B in the last twelve months, and the company is now losing over $1B per year. To sum it up, there is not a lot to like about the stock.
So why is GameStop up 1,300% this year?
The answer may surprise you: retail investors seeking revenge against hedge fund managers.
In a recent article, the NY Times traced the surge in buying to a series of posts on the blog site Reddit. The posts were by an individual investor who encouraged others to buy GameStop for the sole purpose of hurting large institutions shorting the stock (investors short a stock as a means to profit from a drop in the share price). The individual investor may have been merely upset that the institutions were betting against his favorite store, or perhaps was just curious to see what would happen. But in any case, people listened. And the stock began to surge entirely at the hands of retail investors.
What happened to the large institutions shorting the stock? They’ve lost billions, and have now had to cover their positions by buying back the shares at much higher prices. It was the ultimate revenge of the retail traders. And other heavily shorted stocks now appear to be the next “Reddit” targets.
While obviously a tremendous a problem for the SEC, GameStop is also a warning for investors everywhere. Just because a stock is rising, doesn’t mean it should be. Caveat emptor or buyer beware.