What's Really Behind the 'GameStop Bubble'

February 1, 2021

Dear reader,

To quote Elon Musk, “Gamestonk!!”

What a wild ride last week… Everyone was talking about GameStop’s stock frenzy – family, friends, and even the checkout girl at Safeway was asking us about it.

It’s the ultimate Wall Street versus Main Street… Millennials versus Boomers… as users of an online message board (the antithesis of an investor norm) created massive tidal waves in the stock market, shocking everyone.

The New York Times wrote on Friday,

Their show of force this week underlines how the financial markets have changed by merging with the world of social media and a younger generation of traders who have been empowered by online platforms. It has also made some in this new generation wildly wealthy.

Here today to dig into this riveting story for us is Stansberry Research finance editor Corey McLaughlin, author of daily e-mail The Stansberry Digest.

What’s Really Behind the ‘GameStop Bubble’

By Corey McLaughlin

Boy, this GameStop story escalated quickly…

“The rise of the short squeezes” against a few Wall Street hedge funds’ most heavily shorted companies, and the world’s most left-for-dead companies, has captured the investing world’s attention and gone mainstream too…

Jon Stewart, the former host of The Daily Show and a noted (and welcome, in our opinion) political influencer in recent years, has joined Twitter because of it, to defend those darn kids that started all the “trouble”… and to dig at Wall Street for messing with their “win.”

I saw cable-news networks spending 20 minutes at a time talking about it the other night…

People are interested, and for good reason, if you ask us…

By now, you probably know at least some of what happened. Last Wednesday morning, for example, again propelled higher by an army of risk-taking day traders, shares of largely forgotten video-game retailer GameStop (GME) jumped roughly 100% on the open… a line we never thought we’d write… throwing salt in the wounds of anyone still short the stock.

Being “short” simply means having bets on that the stock will go down in share price. I once had it explained to me by an investment pro as a wretched way of going about your day-to-day trading – making money off of other companies’ misfortune – but people and Wall Street firms have done it for a long time… And, in a good way, there is an element involved of keeping the bad companies accountable by pointing out their poor finances…

Anyway, as I write, the shares of GameStop are up roughly 1,900% since the start of the year, and about two dozen stocks of nearly bankrupt companies experienced similar unexpected gains over the last few weeks – like retailers Bed Bath & Beyond (BBBY), Express (EXPR), and Macy’s (M), as well as rental-car company Hertz Global (HTZGQ) and other nostalgic names that most folks haven’t considered buying in ages.

Now, to be fair, there is evidence that suggests a few sophisticated investors – who understand the plumbing of the markets and how big hedge funds could lose money – are the source of this frenzy. That may be true, but the way this plot has worked, it wouldn’t be happening if there wasn’t an eager crowd involved…

And that crowd is thousands of users on the popular WallStreetBets section of message-board website Reddit – many of them Millennials who have discovered stocks for the first time in recent months, or maybe even weeks… making small bets that collectively added up to big results, like costing hedge funds billions of dollars.

It’s become such a euphoric digital grassroots craze that some people are even buying the wrong stocks – AMC Networks (AMCX) instead of AMC Entertainment (AMC), for instance – because they’re so trigger-happy…

This Reddit crowd – kind of a digital mob – has even latched on to remnants of the once-proud but bankrupt movie-rental chain Blockbuster… The penny stock of BB Liquidating surged nearly 1,000% in two trading days last week, even though only one Blockbuster location remains (in Bend, Oregon).

Now, if you’re interested in what this all means for the broader market – if the whole thing is broken – I argue it’s not, just the opposite, in fact. It means more people are interested in stocks than ever.

But there is a caveat here too that folks should be aware of… Longtime observers of the market will tell you this is not the sort of stuff that happens in a “fearful” or boring, ho-hum days…

This stuff happens when folks all over are frothing at the mouth, armed with stimulus checks, and don’t even take the time to make sure they’re buying the right stock. They might be better off saving the money for the future, but they’re all looking to make a little extra money now – or a lot extra, in some cases.

Recommended Reading: Prepare for a ‘Cash Panic’

We’re at the very beginning of a mass financial panic – but not the kind most people expect. The words “mania,” “euphoria,” and “frenzy” are all over the press… while fund managers are STAMPEDING out of cash at record levels – and pumping billions of dollars into a specific corner of the markets. A dramatic financial event over 20 years in the making has finally begun. Here’s what it means for YOUR money.

So people hear about what’s happening (or they read about it on an online message board). They see winning screenshots of trades with huge returns, much like you might see a picture of a lottery winner holding an oversized check with all the zeros on TV or in the newspaper. Buying begets more buying… The stories get passed around.

Before you know it, it’s a bubble…

And – this is critical to understand – all bubbles pop eventually, and on the back end money can be lost as easily as it was made, with far less fanfare that never makes the headlines.

So a bit of practical advice, if you’re thinking of buying GameStop shares today, you’re probably better off doing the opposite of the “herd” and betting on its price going lower in the months ahead… or avoiding getting wrapped up in this story at all.

In any case, the word “greed” goes for everybody involved in this bubble…

The hedge funds that the folks on WallStreetBets targeted were greedy, combining by the end of 2020 to short more shares (71 million) of GameStop than actually existed (50 million). They could do it by using “leverage,” basically borrowed money that most folks on Main Street don’t have access to. It was a similar story with a number of other stocks… And then, these pros fell asleep at their monitors.

These bullish bets from the youths to “squeeze” the shorts – call options at large scale that pushed prices higher and higher – were telegraphed in public by amateurs (some, yes, more sophisticated than others) on the Internet… And yet, the pros didn’t budge until it was too late to not lose money.

And while we don’t know their full backgrounds or any of them personally, the individual traders who have piled in – judging from their very visible online comments – sound almost like a digital mob, simply looking to gang up on Wall Street greed, real or perceived.

Many of these folks don’t even know the details of the options instruments they’re using, but they know what they want… They want to pay off student-loan debt, to get some kind of break, or to take advantage of a “system” they feel has taken advantage of them.

We see a “bubble,” but it’s even more than that. This brings up a big point we haven’t seen discussed much around this “short squeeze” story…

The ‘how’ here is less important than the ‘why’…

One of the Reddit users who apparently kicked off this whole plot to push up GameStop’s share price with a post four months ago, quoted another user, “dlkdev,” in the initial missive, as if he was a martyr…

The only way to beat a rigged game is to rig it even harder. That’s the sentiment that has led to this entire story.

We’ve said it before…

Whether anyone knows it or believes it, the Federal Reserve and other policymakers have set the table for all of this, with decades of cheap-dollar policies that have made the poor poorer, through a less valuable U.S. dollar amid largely stagnant wages.

Meanwhile, the rich have gotten relatively richer.

Monetary policy, while not sexy to most of Main Street and difficult to explain, has all kinds of implications and a track record of results… It goes way beyond the scope of what I can explain here, and frankly, many of our Stansberry editors can explain it better than me anyway.

But the biggest consequence might be the large “wealth gap” in this country – from the 1% to everyone else, and then, from the top 30% to the bottom 70%. And a step beyond that, the perception of these divides, which might be as influential as the reality…

It has all fueled angst and distrust among more and more people over more and more years. Today, we’re again seeing the influence and the wealth divide grow as we (hopefully) edge closer to the end of the COVID-19 pandemic.

Since the pandemic began, the number of people living in poverty worldwide has doubled to more than 500 million, according to a new report from the anti-poverty group Oxfam.

Meanwhile, the collective wealth of all U.S. billionaires has increased more than $1.1 trillion since mid-March 2020, a nearly 40% leap during the past 10 months.

And in the middle, employment numbers are telling a similar story about the divide between the remote economy and the in-person economy, with those in the latter suffering more.

We’re seeing an environment of low interest rates and cheap dollars promised for years into the future by the Fed, which has pushed more people into the stock market – consciously or subconsciously – and prices higher and higher…

What’s the solution, at least economically, as far as central banks and governments are concerned? More “free money”… which, in the long run, just keeps the cycle going whether anyone knows it or not in the short term.

In a way, the WallStreetBets traders are simply leaving behind a trail of “wealth gap” inspired destruction…

Don’t get me wrong, the folks who engineered these short squeezes have Internet connections and the ability to trade stocks to begin with… That’s more than some people.

But hear me out…

Last year, Millennials became the generation with the most living U.S. adults, surpassing Baby Boomers. That means their desires and behaviors are going to start making their way more and more into daily life… They’re starting to make more money and buy homes, for example.

In the bigger picture, this may be a moment that puts more people onto the idea that no-fee digital brokerages like Robinhood are where a new generation of largely Millennial investors are accessing stocks and getting their trading feet wet… And as the country’s largest generation, they have large enough numbers to influence Wall Street.

And if we know anything about Millennials, we know that…

A lot of them who are at least poking around the stock market on the Internet and their smartphones probably went to college and have a lot of debt,

They’re largely disillusioned with capitalism and mostly everything else in the world, and

They’re addicted to their smartphones, where they can trade in an instant, send and receive information freely, and really “gang up” on a stock – push it up or down – in a few minutes before the mainstream investing crowd notices.

It’s sort of like a group of community-based activist investors.

Now, done effectively, you could do a lot by being part of this relatively small, contrarian mob – powered by one or two stimulus checks, or maybe a growing income from a work-at-home job. That is, as long as your “enemy” is not paying attention at all, as was the case here.

One WallStreetBets user posted last week… “I love you guys,” along with a screenshot of a final student-loan payment of more than $20,000, made with the profits from buying calls on GameStop. In the comments section of the post, the user said… “[I never] thought I would have this paid off so soon.”

_{(Screenshot: Reddit via Yahoo Finance)}

The end result of all this may be another goal of at least some of the Redditors… to perhaps save these companies from their childhoods from going bankrupt, or at least delay their inevitable demises. (That is sort of perverse in its own way, when you think about how these companies were managed into their overleveraged positions to begin with.)

Because GameStop’s stock surged so high – up roughly 1,900% year to date – and it now has a market cap of $24 billion, the company could sell just some of its own shares to help with its balance sheet at this point.

It would be dumping someone else’s pump of its own stock and surviving another day.

Anyway, here’s where we were going… This stuff didn’t just happen overnight, as much as it would appear that way…

A group of the 50 most-shorted companies on the Russell 3000 Index had risen 33% this year, as of the middle of last week…

Hertz was bid up last year by folks from this same message board… Tesla (TSLA), too, which is why its CEO Elon Musk has, in his own way on Twitter, voiced support for this whole episode.

The above user who paid off the student loans – a 28-year-old American with a bachelor’s degree in graphic design – said they started paying attention to GameStop back in November. They bought call options weekly before making about $80,000 last week.

But only now have the two hedge funds Melvin Capital and Citron Capital completely closed out of their short positions on GameStop. Andrew Left of Citron said in a YouTube video today that his firm covered the majority of its short bets at “a loss of 100%.” And on Friday said he would stop producing short-selling research altogether.

The Redditors won!

There have to be loads of hedge funds getting killed here, well beyond Melvin Capital and Citron.

If you’re not directly involved – though in some way, everyone invested in the market ultimately is – it’s been entertaining to watch everything unfold. The newbies struck the pros hard, and reminded everyone what a free market really is.

As for what happens next?

In my perfect world, all of these new investors who made fast money today will come across our long-term advice and learn how to be investors over the long haul. And in the process, they’ll see a lot of things…

They might realize that capitalism shouldn’t be “canceled”… They’ll see that the very platforms, smartphones, and computers they’re trading from – and the Internet connections they’re using – are a result of it.

They’ll learn that your broker can indeed change the rules on you in the middle of the game… like Robinhood and others did for a day last week by not letting people buy more shares of these targeted “short” names and only sell them.

There are nuances of why that happened, but safe to say, it’s because Robinhood wasn’t expecting all this to happen.

If they stick with it, all these new investors – and there are reportedly 4 million members of the WallStreetBets message board today – will see that the start of financial freedom really comes down to saving more than you spend and investing the rest in regular intervals. Of course, most people are never taught those basics in school… and need to figure it out for themselves.

I’m not naïve… I know that if these lessons ever hit the bulk of what is now America’s largest generation, it will take time – and a lot of pain. By pain, I mean the type that WallStreetBets users are inflicting on short sellers today… as well as the type that a 20% stock market correction would inflict on those same folks who have “taken up” GameStop and other left-for-dead stocks.

In the end, this “short-squeeze bubble” might be a relatively isolated story in the grander scheme of the market. But it’s already left a mark… In the short term, we all just bore witness to the latest stock market mania and bubble, but it only dealt with a handful of stocks…

In the longer term, based on our analysts’ research, it looks like the stock market has room to run higher in general. But if history is any indicator, this frenzy might very well portend the popping of a bigger, more spectacular bubble when most investors – especially a flurry of new, inexperienced, greedy, and aggressive ones – least expect it.