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There’s a lot of education involved to try and understand the speculative trading that has taken the American economy by surprise this week, especially if stock markets aren’t your thing.
Riley Sittler, an investment adviser with PWM Private Wealth Counsel and IA Private Wealth, is here to help.
A group of users on the forum-based website Reddit targeted large hedge funds looking to bet against failing companies, the most popular of which has been gaming retailer GameStop.
“The community is effectively banding together, purchasing these stocks, rising the prices of these stocks higher and higher in order to squeeze these hedge funds out to the point where they’re effectively compelled to purchase the stock, close out the short positions, which will shoot the stock higher and higher,” Sittler said.
The amateur nature and focus of the trading is what’s most peculiar about the pressure on Wall Street as small “retail traders” look to use tactics rarely seen before.
“It’s kind of a concerted banded effort by hundreds of thousands, if not millions, of smaller investors who are artificially pushing these prices higher just in order to basically take down these hedge funds and gain money on their position by hurting the big guys,” Sittler said.
The instability in the stock market has created more spillover effects as traders flock to retail brokerage apps like Robinhood and Wealthsimple to get in on the action.
“These trading apps have really enabled this, and they’ve really given the every-day, average citizen the ability to participate in the stock market,” Sittler said. “I read this morning that over 50 per cent of traders on the Robinhood app have at least some exposure to GameStop currently.”
Robinhood and other retail brokerages are taking steps to tamp down the speculative frenzy surrounding companies such as GameStop, but the actions only sparked more volatility and an outcry from users of the platforms and some members of Congress that small investors are being treated unfairly.
GameStop stock rocketed from below $20 earlier to close around $350 Wednesday as a volunteer army of investors on social media challenged big institutions who had placed market bets that the stock would fall.
The action was even wilder Thursday: The stock swung between $112 and $483. At midday it was down 27 per cent at $255.
Robinhood said Thursday investors would only be able to sell their positions and not open new ones in some cases, and Robinhood will try to slow the amount of trading using borrowed money.
Besides GameStop, Robinhood said trading in stocks such as AMC Entertainment, Bed Bath & Beyond, Blackberry, Nokia, Express Inc., Koss Corp., American Airlines, Tootsie Roll, Trivago and Naked Brand Group would be affected by the new restrictions.
Interactive Brokers also placed option trading of AMC, BlackBerry, Express, GameStop and Koss “into liquidation,” citing extraordinary volatility in the markets. It also tightened margin requirements indefinitely on “short stock positions.”
Charles Schwab and TD Ameritrade took similar steps to restrict trading on their platforms Wednesday.
Robinhood’s stated goal is to “democratize” investing and to bring more regular people into investing. The company has forced huge, ground-shaking changes for the brokerage industry, such as its decision to charge zero commissions for customers trading stocks and exchange-traded funds. That’s why some users took Thursday’s actions as an affront.
Robinhood investor Carlos Amaya said the app’s action Thursday was a disappointment to users like him who prided themselves on being a “different breed of investors.”
The 28-year-old school operations manager in Washington, D.C., said his parents immigrated from El Salvador and he was the first person in his family to buy stocks when he started using the app in 2017. He’s since made several thousand dollars.
“We pride ourselves in the name Robinhood because we’re trying to make more money and be the next people at the top,” he said. “You would expect Robinhood to let us do our thing instead of blocking us and saying it’s for our protection.”
Investors such as Amaya are getting some sympathy from some members of Congress.
Rep. Alexandria Ocasio-Cortez, D-N.Y., called Robinhood’s actions “unacceptable,” noting that as a member of the House Financial Services Committee, she’d support a hearing, if necessary, to explore why the online brokerage is blocking small investors from buying stocks while hedge funds “are freely able to trade the stock as they see fit.”
Democratic Rep. Ro Khanna, whose California district sits in Big Tech’s Silicon Valley, said the GameStop episode “has demonstrated the power of technology to democratize access to American financial institutions, ultimately giving far more people a say in our economic structures.”
In a statement Thursday, Khana called for “more regulation and equality in the markets,” and accused Wall Street of spending billions to “crush” GameStop and “put workers out of business” instead of investing in future technology.
The recent surge in GameStop has been the product of a tug-of-war between small investors and some big institutions. Citron Research and Melvin Capital had placed bets that GameStop shares would fall as the company tries to transform itself from a bricks and mortar retailer to a seller of online video games.
But smaller investors rallied to the stock. By sending GameStop shares soaring higher, they forced the big players to cover their bets by buying the stock, increasing the stock even further. But there is some concern that small investors could face significant losses when and if stocks like GameStop plummet.
— With files from The Associated Press