A section of retail day traders, newly-minted in the coronavirus lockdown, and who frequently populate Reddit boards, decided to take a stock higher. Why? Because a couple of hedge funds revealed they were short on the stock to the tune of $55 million: that is they would profit from a fall in its price.

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The battle between the upstarts, previously a bunch that barely had any influence on stocks much less Wall Street, and the influential fund managers, is for now going in favour of the former, with GameStop -- the stock in question – surging over 680 percent this month.

The rapid increase in the stock price was also a result of a short squeeze. A short squeeze takes place after a rapid increase in stock prices, amid a lack of supply and excess demand. This often forces the short sellers to cover their positions, resulting in an even bigger rise in the share price.

As Jason Calacanis, an angel investor, summed it up: “Professional short sellers never considered what would happen if they got squeezed by a legion of tiny retail investors with 20-year-old forum software, a free-trading app, and a $600 stimulus check at their disposal.”

The march by retail traders caused Melvin Capital, the fund that first announced its short position, having to require emergency funding from its investors.

Other professional short-sellers have not yet thrown in the towel: Andrew Left of Citron Research shorted the company’s stock when it traded around $40 a share, saying it would tumble to $20 a share. He said on Tuesday that he was still short the stock.

The stock rose 92 percent overnight after venture capital investor Chamath Palihapitiya further added fuel to the fire when he said that he had bought $115 call options on GameStop on Tuesday morning after an exchange with Reddit founder Alexis Ohanian.

There's further bad news for the short-sellers.

Elon Musk -- previously a driver of wild stock price movements, as in the case of Signal and his own firm Tesla -- tweeted “Gamestonk!!”, along with a link to Reddit’s Wallstreetbets stock trading discussion group. “Stonks” is a tongue-in-cheek term for stocks widely used on social media. The result: the stock rose another 131 percent in after market trading, indicating it could next open near $340.

Trading in GameStop stock was halted for volatility nine times on Monday and five times on Tuesday.

What the market regulator says

According to Barron’s report, Secretary of the Commonwealth of Massachusetts says there is something “systemically wrong” about the options trading surrounding the stock.

The share spikes are also raising questions about the potential regulatory clampdowns from the US Securities and Exchange Commission. “Such volatile trading fueled by opinions where there appears to be little corporate activity to justify the price movement is exactly what SEC investigations are made of,” said Jacob Frenkel, former SEC enforcement attorney. The SEC declined to comment.

The surge has also spurred concerns over bubbles in stocks that hedge funds and other speculative players had bet would fall in value.

Redditors at it again

This is not the first time when Robinhoods of Wall Street, having taken their name from the popular trading app by that name, have decided to bet against fund managers.

Recently, shares of BlackBerry rose 30 percent after Redditors started to discuss it -- causing a nostalgia wave on Twitterati about the former smartphone maker's iconic phones, and prompting the company to say it had no positive news to declare.

Much of the recent action among Reddit traders has centered around shares that have been heavily “shorted” by other market players - traditionally an area dominated by hedge funds.

It has also caused consternation on what it means for professionals, including short-sellers who were previously seen as vultures on Wall Street -- preying on the dying or dead companies.

But as a report in the Wall Street Journal put it: "For the hedge funds shorting specific stocks, the prospect that day traders could disrupt that positioning for their own gain is a live-by-the-sword, die-by-the-sword sort of issue".

With inputs from Reuters

First Published:Jan 27, 2021 4:31 PM IST