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How Reddit’s influential power has proven the hedge fund disaster

In stock market history, such a divisive manipulation of incidents hasn't ever occurred. Yes, we're talking about the Gamesto

It has been an extraordinary period of a week for the world. Nothing that great happened, but still, something worth excruciating happened. An incident that shook the stock market worldwide is what happened. Even though in India, we might not have to care about it, this case would be an example for many investors, the governments, traders, and the dangers of sentiment towards the value of money in the line of public perception. The way the market changed is one such case study that will be remembered and taught worldwide and will be a prime example of how social media can affect lives and finance. The Gamestop issue was the most trended topic for the past week and continues today across social media platforms.

Reddit is a social media platform with 82.5 billion page views (1) in 2015 and is now one of the top 30 of the world’s largest online websites. Users who are also known as Redditors sign up for pseudonymous accounts and submit posts, comment on others’ posts, and vote on content, up or down. Votes are used to rank each media content and to determine how visible it will be displayed. Reddit is made up of many subreddits, around 87,000 in 2015, each dedicated to a specific subject or purpose and operating with a degree of autonomy and independence. Reddit has been a major influencer and has changed many things in society (2).

The number of discussions, uprisings, and deeds have all been influenced by this portal. More than Twitter, Facebook, and Whatsapp were conclusive to be the main propaganda weapons used to spread fake information or anything that could impact society’s knowledge. Reddit is a portal that was mainly started to engage in topic discussions and is used to share material like Memes, Jokes, and life occurrences, and such of these things were very inspiring to many; they spread this far and wide and what is canon today is all because of Reddit. Many influencers also emerged out of Reddit who changed the way things occurred (3).

For example, other than the stock markets, elections, donations, and whatever that trended have been in the hands of redittors. Much to political growth, the fame has always been attached to Reddit. Reddit has contributed so much to the modern psychology of the social consumer (4). For example, during the 2016 US elections, edit also played a part in influencing the votes against Bernie Sanders. Reddit’s algorithms and pages are configured so that users’ votes select a small fraction of the posts submitted and broadcast them to the wider community. Collective decisions are made by the participants in the subreddit about which posts will be broadcast to that subreddit’s subscribers. The defining feature of the subreddit ‘community’ is that its members will tend to have been exposed to a similar set of posts, and these high-level posts can be the basis of shared experience. Starting in February 2016, Donald Trump’s community of supporters began to make their presence felt on Reddit through the/r/donald subreddit.

Getting to the point: The stock effect

If you ever switched your favorite economic news channel and witnessed the market crashing down, there was a reason for that. Like many firms in pretty bad shape, GameStop has been the focus of what is known as short selling, in which professional investors borrow shares of stock to sell and then start buying later so that they can return them, allowing them to pocket the profit if the stock price goes down. They’re betting the company’s going to fail. GameStop was one of the shortest of any publicly listed firms. Other firms on the list include AMC Theatres, Bed Bath & Beyond, and the mostly defunct Blockbuster. Gamestop and AMC trended on social media for days, and one morning, the most unexpected thing happened (5).

By the way, Reddit had their biggest hand in this.

The stock rise – explained

A trade frenzy has triggered a battle between an army of inexperienced investors and multi-billion-dollar hedge funds, sending the stock markets of some previously unseeded businesses to rise while delivering a kick to the short-sellers who are betting against them. Stocks do not get manipulated easily, and if they ever rise or fall, it is all based on market emotion, investor emotion, and public speculation (6). If a stock rises or falls, it may be because a group might have influenced such an occurrence. Thus, the same thing happened for Gamestop and AMC. Gamestop is a retail game store, and AMC is a group of theatres. GameStop is a retailer of video games. Like most retail outlets that somehow still sell products in person, it’s been a tough time lately when video game sales have moved online, and the Covid-19 pandemic keeps people away from stores. It’s still in business, but few people are expecting it to grow again (7).

GameStop’s shares fell by 2.57 dollars last year until they rose to 18.84 dollars by 31 December, following the company’s support by a notable hedge fund. The price rose steadily, but the large short-selling numbers of shares bet other funds against GameStop. The WallStreetBets inexperienced investors entered the fray at this point. Several Reddit users have asked people to stack in GameStop shares to pressure short-sellers a short squeeze process. Many Reddit users suggested that this was a way of penalizing hedge funds that wanted to benefit from a company’s problems. More interested other users appeared to make money as the share price of GameStop rose. Some funds were also involved in the hope of gaining momentum as the prices were increasing quickly (8).

A local news channel reported that AMC Entertainment was one of the hottest stocks of 2021, with shares rising almost 300 percent on Wednesday, 27 January. It has been explained that, among several recipients of an offer to penalize short-seller companies with rising prices this week, the ailing theatre chain was affected due to the pandemic (9). Reddit’s WallStreetBets Group’s amateur investors have already sent out more than 2,000 percent of their struggling retailer shares in the last month. And the community disrupted the market deliberately and disrupted hedge fund managers after other stocks, including AMC and Blackberry. “Hold the line, AMC. Time to pile in before blast off! ” one on Reddit user wrote.

At the beginning of 2021, AMC’s shares were estimated at under two dollars, before trading at around 20 dollars following the Reddit community’s action, following investment firms’ findings of shortening its investors’ shares. The US Securities and Billing Commission said on Friday after the campaign fueling social media send shares of GameStop and AMC to rise, they closely monitored and evaluated the extreme price volatility of certain stocks.

And as mentioned, this all happed due to one main factor in stocks – short-selling. Don’t understand it yet? We’ll explain it easily.

What is Short Selling?

This was a concept so misunderstood by many, and google searches over this shot to the moon. Short-selling is when someone sells something to gain a profit. For example, If A sells ten stocks at 10 dollars each, which is 100 dollars, B borrows from A. As the market fluctuates, B will wait for a time when the market falls or rises. If the market rises, B will buy those stocks back and sell them back to the broker at the original rate, thus making a profit. If the opposite happened, the investor could be making a loss. One way of making money on stocks that fall in price is called short selling (or going short). Short selling is a fairly simple concept. The investor borrows the stock, sells the stock, and then buys the stock back to the lender. Short sellers have been wagering that the stock they sell will collapse in price (10).

Short selling could be used for speculation or hedges. Speculators use short selling to capitalize on a potential decline in a specific security or market as a whole. Hedgers use the strategy to protect or mitigate gains or losses in the security or portfolio. In particular, institutional investors and skilled individuals often engage in short-selling strategies for both conjecture and hedging. Hedge funds are among the most growing short-sellers and often use short-term positions in selected stocks or sectors to secure long-term positions in other stocks. While short selling gives investors the chance to make profits in a dwindling or neutral market, this should only be tried by professional investors and highly developed traders because it risks permanent losses. Goldman Sachs says that the stock market is witnessing its biggest squeeze in 25 years. (11).

Short selling is not a tactic used by many investors, largely because it is expected that stocks will increase in value. The stock market tends to rise in the long run, although it certainly has periods when stocks fall. In particular, for investors looking to the long horizon, buying stocks is less risky than selling the market short-term. However, short selling makes sense if the investor is certain that the stock is likely to fall in the short term. For example, if a company has difficulties and could miss debt repayments.

The King of the trade – Robinhood

Robinhood was also responsible for the trade. It was one of the apps that regulated the stock buying and selling of stocks and IPO’s. The app fell into a crisis after it stopped buying and selling stocks after Gamestop had reached the high price. The people have immediately planned to sell their shares once Gamestop hit a record high. Still, once Robinhoood realized that I was going topsy turvy, they immediately closed the sale, which angered many shareholders (12). The irony of the matter is that their main motive was to let the people trade. After the fiasco, the number of Uninstalls versus the install on that day was higher than ever. This led to the debate on the dependence on such apps. Thus, people had to hold on to their stocks and wait till they re-opened. Currently, Gamestop is falling in the market and stand at 120 dollars per share.

Who were the victims?

Melvin Capital lost about 53 percent (13) in January to GameStop and more than a number of the other bets after the firm had found itself on the other end of a short squeeze initiated by retail investors motivated by Reddit, a person familiar with the firm’s performance. Melvin now has the lowest leverage since the company was founded in late 2014. The hedge fund said last week that it had recalculated the portfolio, including its GameStop short (14). Melvin now manages more than 8 billion dollars, including two billion dollars in funds that Citadel and Point72 Asset Management put into the hedge fund earlier.

Citadel’s hedge funds and its founder, Ken Griffin, and its firm partners have invested 2 billion dollars in Melvin. According to a spokesperson with Griffin’s firm, the funds lost less than 1 percent in January in their Melvin position. Point72, which had invested 750 million dollars and already had about 1 billion dollars in the company, was down between 10 percent and 15 percent by the end of January. It was not clear how much of that loss was due to his investment in Melvin. They have currently lost over five billion dollars over the issue and say that they have assets to survive. Recently, they had taken a loan of two million dollars.

The influencer – Reddit

The volume wins. For something like this to happen and at this scale, it would have required months of planning. The wall street bets channel had a huge number of such investors ready to manipulate the mind of those in the group, which caused the users to spread the information onto social media. Short sellers have lost an estimated 23 billion at GameStop. Melvin Capital lost 30 percent of the 12 billion invested in short-lived stock management. While social media posts claimed that the fund had declared bankruptcy, its spokesman dismissed the allegation. After hedge funds lost money, Wall Street requested that short selling be deemed illegal, although it is a practice commonly used everywhere. To avoid a market collapse, trading apps like Robinhood stopped buying GameStop on their platform. This led to a massive backlash on social media where even the rich have been accused of exploiting the stock market in a way that managed to keep others away. Several members of the Congress also cried out indignantly.