Online brokers halt GameStop trades as SEC investigates
GameStop, a seemingly struggling retail chain which has closed more than 783 stores in the last two years, sent the stock market into disarray this week.
The 37-year-old company has become the subject of a Redditor-induced rally against the Wall Street hedge funds which bet against it.
GameStop’s share price was $3.25 in April 2020. By Wednesday, its value had risen an astronomical 10,692% to $347.50. In just three days, the stock jumped from $96.80 to $347.50.
The unprecedented trading volumes on Wednesday as a result caused a number of US stock trading apps, including Charles Schwab, Robinhood, Fidelity Investments, and Vanguard, to experience major outages.
Trading platforms halt trades
Since the outages, a handful of platforms, including TD Ameritrade, Robinhood, Trading 212 and Germany’s Trade Republic, have all put temporary restrictions on users trading in GameStop shares – among others.
TD Ameritrade told users the decision was down to “an abundance of caution”. Whilst Robinhood effectively told users they could sell, but not buy, the stock.
Many individual investors have called out the platforms’ reactions as “market manipulation”. Robinhood, which at one point went as far as to close out investors’ positions for them according to screenshots uploaded by users, now faces its second class action lawsuit in less than a year.
It already faces a combined suit based out of California for crashing last year and locking out millions of traders on the same day US stocks had one of their best days since the financial crisis.
Hedge funds pay the likes of Robinhood hundreds of millions of dollars a year. This is likely why such platforms are now curbing trades which are damaging their highest paying clients.
The suspension of certain trades has driven investors to alternative platforms. One is Chinese-owned trading platform Webull. It reported account openings were up 2,000% on Thursday morning.
Need for more capital
But like its peers, Webull also had to temporarily prevent GameStop – among other – stocks being bought. “It wasn’t our choice,” the CEO Anthony Denier told Yahoo Finance. “This has to do with settlement mechanics in the market.”
He explains Webull’s clearing house, DTCC, has made the cost of collateral for trades like GameStop “extremely expensive” due to current regulation.
“Our clearing house cannot afford the cost to settle those trades. We cannot use customer funds to front that cost due to regulation.”
The firm has since renegotiated collateral agreements with DTCC, which has itself secured additional funding, meaning trades on Webull are no longer restricted.
On Thursday, Robinhood said it was raising more than $1 billion from its existing investors. The latest raise, reported by The New York Times, has prompted many to question the fundamental model of Robinhood. Namely, that it doesn’t work if stocks go viral like they have this week – something the platform has historically supported.
It started back in September 2019
GameStop’s rise in value is largely down to Reddit, specifically its subreddit known as ‘WallStreetBets’ – which now has more than six million members.
Josh Gross, a partner at digital design studio Planetary, shared a Twitter thread explaining the entire history of GameStop’s rise to now.
In short, it began back in September 2019, when one man – by the name of ‘u/DeepF**kingValue’ – began posting monthly updates about his Long-Term Equity Anticipation Securities (LEAPS) on GameStop via Reddit.
Gross points out that GameStop was in a much better financial situation than it seemed, according to its filings. Or at least, better than what the hedge funds betting against it had made out, which is what u/DeepF**kingValue figured out.
These hedge funds’ short interest on GameStop was so high (140%) because they expected GameStop to go bankrupt, meaning they wouldn’t have to cover – that is, return their shares.
Eventually, other Reddit users caught onto u/DeepF**kingValue’s position. Which has now culminated in the forum fuelling massive gains for the US games retailer.
The power of Reddit
The social media platform has also lifted a number of other struggling firms – including AMC Entertainment, Koss Corp, BlackBerry and Nokia. Even Tesla CEO Elon Musk tweeted a link to the Reddit board for his 43 million followers.
In response to the trading shutdown, moderators of the subreddit tweeted: “When will regulators restrict the illegal naked shorting of stocks by hedge funds, which is the root cause of this mayhem?”
They also said of Robinhood’s decision to curb trades: “What do you call a market that removes retail investors ability to buy to save institutional investors shorts?” Currently, Gamestop’s website is denying access to any site visitors.
AMC Entertainment, like GameStop, has seen its stocks blacklisted on certain platforms. AMC, the world’s largest cinema operator, saw its stocks soar 300% to $19.90 on Wednesday alone.
That spike exceeded the trigger price on $600 million of convertible bonds held by AMC’s creditor, Silver Lake Group. The firm has now swapped the debt into AMC stock at a price of $13.51, according to regulatory filings.
“Silver Lake has made the trade of a lifetime thanks to the basement bandits,” one credit hedge fund manager told the Financial Times.
The fight between professional and private investors has resulted in a number of hedge funds closing out their positions on GameStop, swallowing major losses.
Some 71.66 million GameStop shares are currently shorted, worth roughly $4.66 billion. This means investors have lost some $6.12 billion so far this year. Some $2.79 billion of which was lost on Monday alone. Whilst GameStop’s three largest shareholders have made $2 billion.
When the subreddit WallStreetBets closed temporarily, GameStop’s stocks fell 20%. But the stock began recovering its losses an hour later when the forum re-opened.
But due to the closing off of access to certain trades, the likes of GameStop and AMC have experienced further big falls in value – adding to the market’s current volatility. u/DeepF**kingValue experienced nearly a $15 million loss on market close yesterday.
On market close yesterday, GameStop’s share price was down to $193.60. A notable drop from its highs reaching nearly $500.00 just a day earlier. AMC’s share price was down more than 50% on market close yesterday. And BlackBerry’s was down 40%.
But in Europe, GameStop opened with a 40% gain this morning, suggesting another long day in tug-of-war.
The SEC wades in
America’s Securities and Exchange Commission (SEC) has stepped in, along with the White House. On Wednesday afternoon, the SEC said it was “actively monitoring” the “ongoing market volatility”. Whilst the White House issued an alert.
Working with fellow regulators, the SEC added that it was reviewing “the activities of regulated entities, financial intermediaries, and other market participants”.
The announcement follows Democrat senator Elizabeth Warren demanding action from regulators.
“For years, the same hedge funds, private equity firms, and wealthy investors dismayed by the GameStop trades have treated the stock market like their own personal casino while everyone else pays the price,” Warren said.
“It’s long past time for the SEC and other financial regulators to wake up and do their jobs — and with a new administration and Democrats running Congress, I intend to make sure they do.”
Alexandria Ocasio-Cortez, a US representative for New York, has also said she will support a hearing examining Robinhood’s decision to block individual investors from using the app.
But Robinhood is not alone, and any hearing into this week’s events would have to reflect this by investigating every firm which halted certain trades.
Everything in moderation
This week’s events have spurred speculation over Reddit’s moderation rules. Currently, individual operators of subreddits moderate the themselves, rather than Reddit.
The social media platform’s co-founder, Alexis Ohanian, doesn’t seem phased by the incident.
He said in a Twitter post: “It’s a perfect storm at a time when lots of people are hurting, interest rates are so low, inescapable student loan debts loom, and every major institution has caught Ls during a /global pandemic/ over the last year.”
Nigel Green, chief executive and founder of independent financial advisory firm deVere Group, has warned “there’s a legitimate risk that investors could get burned”.
“This is being pitched as a battle-play of Wall Street or The Square Mile versus The Little Guy,” he adds.
“However, this is not typically the way reasoned, savvy investors should strategise to create and build their portfolios in order to reach their financial goals. This is a dangerous game to play for retail investors. […] Avoid being drawn into the hysteria driven by social media.”