Marc Moore, Chair in Corporate and Financial Law, UCL Faculty of Laws, unpacks the GameStop saga, discussing its legal and practical implications, and what it means for finance capitalism.
Last week a group of approximately 4 million amateur traders around the world, working largely from their bedrooms with individual investments as little as $40 to $50 each, waged a collective war on America’s financial markets. The so-called “Reddit Army”, named after the popular social media site which formed the hub of their communications, have since commanded frontpage newspapers across the globe. In the process, they have posed fundamental questions about the very future of finance-led capitalism, not just in the United States but across Europe and the rest of the world too.
The human spearhead of the movement is the inelegantly named “DeepF__ngValue”: otherwise known as Keith Gill, a long-haired, headband-wearing former insurance seller from a nondescript suburban neighbourhood in Massachusetts. The principal target of the Reddit Army’s financial assault, meanwhile, were hedge funds: the sophisticated and elite investment vehicles which have become a reservoir for the vast wealth of so many of the world’s richest institutions, states, families and individuals.
Specifically, the Reddit Army’s focus was the controversial practice of financial short-selling (or “shorting”), whereby hedge funds seek to profit from anticipated falls in the price of corporate shares and other financial instruments by: first, borrowing (without actually buying) them; second, selling them high; third, waiting for the expected fall in their market price, before buying them back low; and then fourth, returning the repurchased shares to the original borrower (with fees), before pocketing the after-fees profit. Against this, the counterattack plan of the Reddit Army was at once both straightforward and potent. Basically, they identified one particular company in which a number of hedge funds were known to have taken so-called “short” positions: that firm was the hitherto unfashionable American high street video game retailer GameStop. Knowing that those funds holding unclosed short positions in GameStop were relying on its share price falling further, Gill and his followers adopted one simple mantra: buy, buy, and keep on buying GameStop’s shares. Relentlessly.
The predictable effect was to drive GameStop’s share price up and up, eventually to unfathomably steep heights, such that at one point late last week the company’s shares were trading at a 1600% multiple of their pre-surge price. The short-sellers, faced with the terrifying prospect of having to close their positions (i.e. buy back the underlying shares) at a multiple of their earlier sell price, were forced to cut their losses and absorb the hit to their returns. The worst affected victim is believed to be the New York based hedge fund Melvin Capital, whose ensuing losses from the GameStop fiasco are believed to run to $7 billion, or 53% of the fund’s previous portfolio value. Meanwhile, the popular online brokerage site RobinHood.com was last week compelled to restrict further orders for GameStop shares while seeking emergency capital to meet clearing house deposit requirements. The resultant market shock waves have even spread as far afield as Europe, leading to extreme price swings in shorted European stocks along with widespread panic within the continent’s own hedge fund community.
The Reddit Army’s exploits have prompted jubilation across the globe, with many observers seeing it as a zeitgeist moment for the future of the global financial capitalist system. There is certainly an intuitive appeal to the GameStop narrative, with the disenfranchised little guys (and girls) of the world banding together to take down the global might of big finance. I mean, who doesn’t love a great underdog story? And, even though there is a distinctly American flavour to the current affair, who’s to say the very same course of events couldn’t occur in Europe or elsewhere soon?
However, without wishing to rain too much on Gill and his followers’ parade, I fear that in its broader historical context the 2021 GameStop siege will turn out to be little more than a proverbial blip in big finance’s rear-view mirror. Rest assured that, over the past few days, financial institutions around the globe will have been working around the clock to reduce their short-side exposures to potential future Reddit Army target stocks, while seeking to hedge their short positions with offsetting long option calls. As a result, the institutions will no doubt be better prepared for the time the next assault comes, even though more financial casualties will undoubtedly follow in Melvin and RobinHood’s wake.
At the same time, questions are being asked about the legal consequences for Gill and his fellow Reddit Army protagonists, with the possibility of regulatory enforcement action being brought for market manipulation. In my view, this is unlikely to happen. Whilst the Reddit Army’s activities were at least loosely coordinated and unquestionably geared to influencing market price movements, they were ultimately legitimate acquisitions of shares for value with no hint of fraudulent intent. As such, the GameStop siege seems fundamentally no different from any other instance where a perceived “hot” stock (whether that be Facebook, Amazon, Uber, or anyone else) causes investors to rush for the “buy” icon on their phones or laptops en masse, triggering an upwards price movement. Nonetheless, the technical possibility of such conduct being deemed unlawful under both US and EU law should serve as a note of caution to those considering enlisting for the Reddit Army from either side of the Atlantic any time soon.
Over the months and years to come, the tactics of the financial market revolutionaries will likely become ever more sophisticated, but so too will the financial institutions’ rear-guard responses. And, in a strategic and technological arms race between the rulers and rebels of the financial world, there is only one probable outcome. While finance capitalism may be wounded, it will live to fight another day. And, as any seasoned gambler will testify, sooner or later the house always wins.
Photo is from Wikimedia Commons.
Note: The views expressed in this post are those of the author, and not of the UCL European Institute, nor of UCL.
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