The drama of the GameStop stock bubble has provided an interesting study in herd behavior, and a demonstration of one reason that there will always be both rich and poor people.
Some background: GameStop is a national brick-and-mortar video game retailer struggling in competition with online sellers, whose stock was trading in a relatively low price range. Some hedge funds had purchased massive short positions in the company’s stock. Simplified, a “short” is a gamble that pays off if the price of the particular stock falls within a specific period. Essentially, the short trader “borrows” the stock for a specified period, and sells it at the current price. When due, they must purchase replacement shares to return. If the stock price has sunk, they gain by paying a lower price for the replacement shares. But if the stock has risen, they must buy it at the higher price, thus losing the additional amount paid. The higher the stock goes, the more the short-trader stands to lose. In summary, the hedge funds had bet that the price of GameStop would tank. Instead, it soared and they took a big-time beating from having to replace it at a higher price.
It has been a real roller-coaster ride. Between September 2020, and mid-January 2021, GameStop was trading in the relatively stable range of $10 to $20 per share. It then suddenly soared as high as $483 per share, before collapsing to $40 by Feb. 19. The price had since partially recovered to $158 as of April 21.
Unlike the typical situation with wild fluctuations in a stock’s price, the
business and prospects of GameStop remained fairly stable during this wild ride, and the wild price fluctuation had little connection to the intrinsic value of the company and its prospects. In theory, a stock’s price should be the net value of the company’s assets, divided by the number of outstanding shares, and perhaps adjusted by its prospects.
Instead, this boom was driven by social media as a sort of populist crusade against the hedge funds and Wall Street. Posters on the WallStreetBets forum on Reddit tempted followers into buying GameStop as a way to punish the hedge funds and Wall Street, and to make some money in the process. It worked, at least initially. The hedge funds lost billions, and the early investors who sold before the collapse made a lot of money. “Roaring Kitty,” the screen name of the chief Reddit tempter, made around $20 million.
It is hard to sympathize with the short-trading hedge funds. As sort of financial vultures, these corporate carrion-eaters learned that sometimes your planned dinner manages to crawl away.
The GameStop mania was a tout-driven Ponzi scheme, in which the early investors made money off of the latecomers, as well as from the hedge funds. Some losing investors bought on margin (with borrowed money), and must now repay the loan. Some of the losers are gamers who are just now realizing that investing does not have a “reset” button.
What I find amazing are the continuing exhortations on Reddit to buy and to hold the shares. In their forum, shareholders are pledging to each other to “hold the line,” hoping that their “belief” will drive the price back up and keep the party going. Sort of like playing financial chicken. Most of the GameStop short-traders are gone.
Of course, investor herd mania is nothing new, as was demonstrated by the famous “Tulip Bubble” in the Netherlands during the 1600s. There, investors were paying up to six times the average annual salary for a single tulip bulb before the market crashed.
Most people jumping into a bubble lose money. Why act so recklessly? Some are impulsive gamblers, like those who invest their entire savings in lottery tickets when the prize grows to a newsworthy amount. Others have unrealistic notions of their own financial savvy, certain that they possess the instincts to spot and time a good investment.
But many are just following the herd. Seeing everyone else doing it, they are afflicted with FOMO—fear of missing out. When, as a child, a parent rhetorically asked them, “If everyone else were jumping off of a cliff, would you?” they answered “of course I would!” To them, the herd’s wisdom will only be questioned in retrospect.
Which brings me to my theory of “Economic Darwinism.” This holds that in the financial world, there are both predators and prey. Some people habitually do such dumb and impulsive things with their money that they doom themselves to a lifetime of financial struggle. The more cunning are posed to profit off of them, and will end up either rich or in jail. A third group avoids any attempt at quick, easy money and tends to remain financially intact.
Most of those who risk their savings chasing the latest financial big, new thing captivating social media are facing the natural selection of the financial world. Δ
John Donegan is a retired attorney in Pismo Beach who is awfully tight with a buck, and is too cautious to put the little darlings in peril. Send a response for publication to letters@newtimesslo.com.
This article appears in Best of SLO County 2021.
If you didn’t have wealthy parents to send you to an ivy league school, or if you lived in a red-lined district, you likely did not have the same opportunity to grow enough wealth to play the stock market, so I’m not convinced Darwinism applies. Perhaps the lesson here is that Wall Street should not be a casino, but get back to the original intent of financing home-based industry. One way to achieve that is a transaction tax, so at least this non-productive facet of capitalism could benefit our communities.
Most of us have an interest in the stockmarket, not just the rich. Most people who have a decent job have retirement plans which are invested in stock and bonds, either directly or through mutual funds. They have the power to direct how their funds are invested, and the ability to make reckless choices. While having the government beat up on the stock market and investors may feel good to the social justice warrior, it is just hurting the workers who are trying to provide for their own retirement instead of becoming parasitic wards of the government.
Can anyone explain in a sentence or two what’s the point of this article?
In my opinion, the prey include anyone who invests directly in stocks. One exception might be people who take a buy and hold position long term on a company that they believe in, but in reality most people are not equipped to invest intelligently in stocks (or bonds). This is especially true of those who think they can “beat” the market. For most of us the best we can do is a mutual fund, generally a broad spectrum index fund. Even trying to use asset allocation can be risky for novices. I am bemused by those who offer investment advice over the internet, and I wonder about their motives. If they really know so much, why don’t they just follow their own advice and beat the rest of us to the punch? Could it be that they have already invested in the stocks they recommend and are hoping to create a surge in the price so they can dump their shares before the stock reverts to something like what it is really worth? Maybe I am just too cynical.
Just buy Amazon, Apple and Alphabet and be done with it.
To quote SNL, the stock market has been bery bery good to me.
Although Mr. Trump touted the markets as evidence that he had the greatest economy in the history of the world, he actually trails Mr. Obama and Mr. Clinton for expansion. Under Trump, the market gained 11.7%. Under Obama it went up 12.1% and under Clinton, a whopping 15.94%. In fact, my best investment days were definitely under Clinton and Obama. I was always hesitant under Trump because he played favorites and talked way toooooooooo much. Add that to a general distrust of Republican administrations because I lost most of what I had gained under Clinton in one month at the end of the W. admin.
Ill have to let the kids know that the New Times is now publishing high school essays. Todays theme: In what ways is the Game Stop stock rally similar of the famous 17th Century Dutch tulip craze that people, for the past hundred years or more, keep reminding us about every time the stock market rises?
John this isn’t a remotely new or exciting idea. What absolute gall to riff on GameStop for a handful of paragraphs in order to formulate a completely unoriginal thought and label it “my theory of Economic Darwinism.” If you want to talk about GameStop and Reddit just call a friend next time.
To paraphrase Dr. Johnson: “You have presented some good and original ideas. Alas, the good ideas are not original and the original ideas are not good.”
The author tells us the GameStop rally is “one reason there will always be both rich and poor people.” Seriously, bro? That doesn’t even make sense. And what the hell has happened to the editorial standards of the new times? Did an editor even read this? Other than filling up white space, what could possibly be the point of publishing this?
@rightword: First, you’re baffled by the point of the column. Then after getting an 8 year old to explain it to you, you offer some investment advice. Then you complain that it doesn’t meet your exacting literary standards. You are gibbering like a bipolar chimp on badly adulterated amphetamines.
John,
Please go easy on Rightword, he flat out struggles with even the easiest concepts, and complex thought is beyond him.
Yesterday I saw him riding a seatless bicycle down Higuerra!
OK, so tell us: what is the point?
John, if youre really interested in communicating anything worthwhile, it would be best to not act so hostile and defensive toward questions. Insulting readers doesnt help anyone. If someone doesnt understand or fully appreciate any point youre trying to make, it doesnt mean that reader is stupid. And even if the reader is stupid, it doesnt accomplish much to insult him or her in public.
Sentences such as this one you wrote may be flamboyant but they are not particularly well crafted or thought provoking: you are gibbering like a bipolar chimp on badly adulterated amphetamines. That says more about the writer than the reader and I dont think that was your intention. Its not a particularly apt metaphor either.
Im still not quite sure what your point is with any of this. Sorry. But if you want to explain yourself in a sincere and productive manner and show respect for your readers, I would welcome that.
As far as GameStop is concerned, the truth is is that some people made a lot of money and some people lost money. Some people use the stock market as a place for investment, others uses it as a place to gamble. As we all know, most gamblers end up losing. Some end up winning. As for myself, Im not a fan of gambling and would never recommend it. Investing in something different.
I SUPPORT John Donegan!
These other trolls are so simplistic, they cannot even understand basic concepts!
Let’s start a GoFundMe to buy Wrongword a ‘Hooked on Phonics’ starter set!
What “basic concept”? What is your point?
@Rightword: “hostile” and “defensive”? Nah, I was just offering a possible explanation to explain your comments. Admittedly, attributing them to adulterated amphetamines was conjectural, as the long term abuse of many inhalants will produce similar symptoms.
But what’s your point?