Worlds & Time

Thursday, January 28, 2021

A simple (but long) explanation of Gamestop, RobinHood, Capitalism, and Socialism

First, let me say that capitalism isn't "less government" and socialism isn't "more government." But seeing as how many people are confused by that, I'm going to relate them to those concepts in a general way because for some people that will make the sides clearer.

Second, this is laid out in three parts.  The first indentation at the top is a description of what has happened so far. After that, without indentation are the answers to questions about socialism and capitalism. At the end are two indented parts, one for other considerations and the other for what will happen.

This is what happened.

Several institutional investors (hedge funds) placed large bets that GameStop, the company that sells computer and video games in malls, was going to fail.

GameStop, it should be said, made money last quarter. That doesn't mean that their business could continue forever, just that they weren't insolvent yet.

The bets that were placed on the failure of GameStop are called "shorting" the GameStop stock ($GME).  The bets were noticed by other investors, and so more bets were placed.

When this happens, people generally see the end coming and they try to sell their stock for the best price that they can get, which means that they sell their stock *NOW* before it goes down further.

Selling stock reduces the price of the stock, creating more rush to sell stock.  The stock would then go down further, and if it would go low enough, generally the company would be unable to get loans because they would be considered worthless on the markets, and they would have to declare bankruptcy.

However, in this case what happened was that Redditors from /r/WallStreetBets looked at the shorting of GameStop stock and decided that it was creating what might be called an upside-down bubble. GameStop *wasn't* dead yet, and so acting as a group of small investors, they went out and bought $GME.

Buying stock increases a stock price.  This countered the slide started by the shorting and was enough to increase the value of the GameStop stock.

So, here where I don't know if it was just the original /WallStreetBets folk or a second layer of people that I'm going to call the F*ckWallStreet people. They realized that if the $GME stock didn't go down, they hedge fund bets would lose, and they would lose their money.

So the F*ckWallStreet people doubled down on the $GME and the price went WAY up to at least 14,300% of what it originally was. 

Now, shorting is a bit different than a bet you'd have with your friends. Instead of being out just the money they laid out on the bet, if the stock price went UP above the original price of the stock, you OWE the difference on the increased price of the stock to the person you bet with. (Technically, you need to purchase the stock, so that means that this is driving the stock price higher as you fight with small investors for them).

That meant that at least one of the hedge funds, Melvin Capital, was bankrupted by the increase on the stock price.  There may be more by now.

And here's the thing about the psychology of the F*ckWallStreet people, their main motivation was that they wanted to fuck Wall Street (the institutional traders, basically). The name I chose was no coincidence, eh?

So they realized that they could really, really hurt some hedge funds, and so the strategy spread to a few other companies.  AMC movie theaters ($AMC), BlackBerry ($BB), Macy's ($M), Nokia ($NOK) and National Beverage ($FIZZ) have apparently also seen increases.

Ok, now if you invested at few hundred dollars on Monday, on Wednesday you could have tens of thousands of dollars, and the news was reporting on the "GameStop stock" thing. That news exposure actually increased the demand on GameStop stock by two groups, the loveable F*ckWallStreet group and people that wanted to make money (i.e. Latecomers).

Today is Thursday, and what happened is that retail (RE: small investor) trading platforms suspended the ability of users to *buy* $GME and other affected stocks.

The reason that RobinHood gave is that they were trying to "protect" their users from the bubble that was being created. This would be the Latecomers that were mentioned two paragraphs back, who were buying high priced GameStop stocks on the hope that it would go even higher.

But you'll notice, they still allowed users to *sell* GameStop and other affected stocks ("close their position" is the jargon they use). And when a stock is sold, the price goes down. So users could sell their stock, but only for *less* than what it was worth at Wednesday's high point.

So if all the small individual investors were only allowed to sell their stock, you should ask "Who was still allowed to buy?" Funny thing, the answer is institutional investors, like the hedge funds that desperately needed to drive down the price of the stocks that the individual investors were holding in order to cover their short positions.

Here's the thing though, the F*ckWallStreet people were never really in it to make money.  They didn't want to be "protected" from bubble losses, their whole point was to create a bubble that was going burst under Melvin Capital and other hedge funds. So when RobinHood and other platforms froze their ability to buy, they were actively protecting hedge funds from the F*ckWallStreet investors.

You might enjoy the irony in that: a company called RobinHood was protecting the rich from the poor(ish).

Knowingly driving down the price of a stock could also be called "stock price manipulation" so now there is at least one class action lawsuit (same link as last time) by the people affected by RobinHood closing down the ability of people to buy more $GME stock.

Lots of people are pissed, including politicans from both sides of the aisle. They have differing motives, but are coming to similar basic conclusions.  

First off, the left side you have Alexandria Ocasio-Cortez, who is pissed off about the manipulation of the stock price to hurt small investors, because until recently she probably wasn't rich enough to own stocks, and identifies with those small investors.

On the right side you have Ted Cruz, who is pissed off that the F*ckWallStreeters were stopped, probably because hedge funds give millions of dollars more to Democratic Party politicians and seeing them collapse is highly enjoyable for a Republican.

The politicians that you probably won't hear excoriating RobinHood et al., are people like Schumer (D, who got millions and millions of dollars from Wall Street), Pelosi (D, the same), McConnell (R, who suckled on the Wall Street teat too) and former Senator Kelly Loeffler (R, who is married to the head of the NYSE).

So, in the comments on Twitter, I see a lot of people arguing about FREE MARKET CAPITALISM and SOCIALISM and wondering which of those would have solved this.

Neither of those things works like that, but let's look at what people are actually asking.

So the first question is "Would a free market have helped?" and what they usually mean is "Wouldn't free trading of the stocks have helped?"

It certainly would have helped the users of the RobinHood App, who wanted to keep trading. But RobinHood App is a private company, and they are free to set the rules by which their users trade.  I'm sure there is some language in their user agreement that allows them to close down trading if they wish.

So what people that want a "free market solution" are actually asking for is to be free of the rules that the RobinHood App set, they want to take their ownership of stocks to a different platform and continue to buy and sell there.

Except, by asking for a free market, they don't seem to realize that RobinHood would still be able to set their own rules for use as a private company.  Additionally, in a free market, stock price manipulation wouldn't be illegal, so there would be no class action lawsuit through which they could seek redress.

The next question is "Would socialism have helped?" and what those people usually mean is, "Wouldn't increased regulation have helped?"

Maybe. Some kinds of regulations could have helped people get their money and stocks out of RobinHood and the other retail stock traders, but only if regulators had seen this coming (which I don't think anyone could have). Thankfully, at least the "don't fuck with stock prices" regulation was in effect so that users can sue the apps that they used that ended up screwing them.

The next question is "Would socialism have helped?" and what *these* people mean is, "Wouldn't socialism have helped?"

No. Socialism doesn't work like that. Stock markets like the NYSE would be incredibly different under any *remotely* socialist system. Under communism, any kind of stock exchange would be virtually impossible.

But here's the thing, we exist in a system that is mostly capitalist and partly socialist. Pure free market capitalism has never existed because it fucks everyone so quickly. "Pure" socialism, as it has been previously been attempted, still fucks up people, but slower.  Things could be better, but that means different regulations (maybe more, probably not less). That doesn't mean America is going to be more socialist or more libertarian. Being better means better politicians.

Next, there is an additional concern that I need to address that I feel is relevant to the story but I didn't want to include above.

One thing that has been talked about in a few places is the existence of high frequency trading (HFT), where a computer system buys and sells stocks based on algorithms in fractions of a second.

Apparently, RobinHood the app, was selling their user's trades to HFT companies, so that the high frequency traders could see the trades that users were making fractions of a second before RobinHood could make them.

This means that it wasn't just users that were making money on the stock increases that were occurring when they bought shares of $GME and other affected stocks, some institutional investors were making money buy buying stocks fractions of a second before the small investors.

And when you buy a stock the price goes up.

These HFT sales are, in my opinion, a kind of mirror to the other investors that sell a stock when they see an institution short a stock. What they are creating is "momentum," that is, more people follow along when one person does something. Maybe "person" is the wrong word there.  Maybe "actor" would be more precise since there are small traders, HFT computers, and big investment firms all involved.

Momentum is seen throughout this entire situation. Shorting creates momentum.  r/WallStreetBets created momentum.  The F*ckWallStreet people created more momentum. Then the Latecomers created momentum. When RobinHood and the other stopped their users from buying, they were meddling with momentum.

Momentum is a huge deal in stock trading. Any opinion on a financial news show is probably an attempt to create or increase momentum, and those networks are built around that.

It's also dangerous. The latecomers are probably going to lose thousands, maybe millions of dollars because they were following the momentum. Melvin Capital was effectively killed by momentum, created not only by the small investors but the HFT competitors that magnified what those small investors were doing.

I'm personally in favor of a trading tax, probably a cent or less per transaction. That would instantly kill the HFT. It would also make following along after other actors slightly less desirable, and so it might slightly reduce momentum in stock trading and decrease volatility overall.  I think that would be a good thing.  You might disagree.

Finally, what do I think is going to happen with this?

People are angry at RobinHood, and that's pretty reasonable. They did something to protect rich investment firms from their clients. This lawsuit is not good news for them.

On the other hand, they protected the big rich investment firms, and investment firms don't like it when they get hurt, so they might pull some strings in the background to help out RobinHood.  And maybe the SEC will just give RobinHood a slap on the wrist.

That would be really bad.  Not for RobinHood or the big rich investment firms directly, they'll probably be happy with an outcome where they take zero responsibility for screwing people. It would be really, really bad for confidence in the stock market, specifically the New York Stock Exchange, which is currently owned and operated by Intercontinental Exchange, a public company traded on the New York Stock Exchange under the symbol $ICE. That's the company that Kelly Loeffler's husband started and runs.

Is anyone else smelling a market opportunity?

It seems like a stock exchange that guarantees that it treats the small individual investor equally to the larger institutional traders, perhaps by requiring institutional firms to abide by the same rules and restrictions as small investors and forbidding small investors to be locked out of opportunities like RobinHood did? Perhaps that forbids high frequency trading and has rules in place that limit volatility?

Maybe, and this is just spit-balling, the company running the exchange could institute rules that would limit the hedge funds that it trades from owning huge shares in it, unlike Intercontinental Exchange (NYSE $ICE).

Maybe that would also cause people to pressure their companies to switch their 401(k) and other institutional investments to this new, less risky and more fair stock exchange.

That would probably cause a massive dip in the stock price of a company that runs the NYSE.  Gee, they'd probably have to worry about a bankruptcy of their own then, eh?

Of course, I can't do this.  I don't have the billion dollars or experience required to establish a new stock exchange and marketing campaign by Monday, February 1st, 2021.  But if someone was inspired and wanted to run with it, I'd be happy to take a few million in options as payment for the idea.  I even have more suggestions, and a communications company that could advise.

Of course, it's not quite that simple. A more realistic prediction is that the pro-corporate politicians in our government will intervene somehow, and even though that will cause some sort of confidence crisis involving the NYSE, nothing will really change while small investors find themselves restricted by their retail stock brokerages, until eventually something else breaks. Who knows what that crisis will be, or what will happen then.

I think that's enough for an evening.  Let's see how things go, and how my predictions hold up.  Cheers.

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