Last week, I was busy minding my own business in Byron Bay when perhaps the investing story of the century (so far) broke. In case you missed it, an army of Redditors started pouring money into GameStop, which is the world’s largest video game retailer, and a few other stocks.
This resulted in a “short squeeze” that caused major ripples, especially for short-sellers.
A short squeeze occurs when a stock unexpectedly skyrockets in price, forcing short-sellers to buy it in order to thwart any further losses. A short-seller is a trader who has “borrowed” stock from a broker and sold it at its current price. Believing the stock is overvalued, they plan to buy it back when the price drops, keep the difference, but return the stock to the broker.
This is an advanced investing strategy, and it can fail. For instance, if the stock doesn’t drop (as they predict), the short-seller will lose money buying it back.
But back to GameStop.
Followers of Reddit’s /r/WallStreetBets subreddit noticed that a few hedge funds had shorted millions of dollars worth of GameStop’s stock, so they coordinated mass buying of GameStop stock and thus drove the price up. This meant that the hedge funds that had shorted GameStop had to scramble to buy the shares back before the price inflated further.
One of these hedge funds, Melvin Capital, lost 53% on its investments in January and had to accept a US$2.75 billion rescue package from fellow fund managers.
Since last week, GameStop stock has beat a hasty retreat, though it’s not yet back at pre-short squeeze levels. This tumble could mean that the hedge funds who bet against GameStop and were caught in the short squeeze have now closed out their positions.
For us here at Spaceship, this has been a riveting story to follow, but as per our senior portfolio manager, Jason Sedawie, we’re “investors, not traders.”
“We have no exposure to these short squeezes. GameStop would have been nice [to have in the Spaceship Universe Portfolio while it peaked], but it doesn’t meet the WWG methodology criteria. We believe a bricks-and-mortar game retailer is structurally challenged over the long term.”
It remains to be seen what the fallout of the GameStop saga is, and what it might mean for the stock market. Of course, if there are any updates from Spaceship, we’ll let you know!
