August 08, 2022
After a rocky 2020, millions of new investors sprung into markets – energized by stimulus checks, boredom, and a desire to make easy money. 48.6% of all trade volume in January 2021 was done at the Trade Reporting Facility (TRF), which includes all trades not done on exchanges. The TRF receives trades from a variety of sources, but the biggest source is individual investors, often called retail investors.
This pivot point for the markets represents years of democratization made possible by the advent of no-commission brokerage apps like Robinhood, trading communities and media like The Motley Fool, and free ‘Bloomberg Terminal’ alternatives like TradingView. These players – and many others – have demystified the financial services industry, which has a long history of yin-and-yang between retail investors and institutional investors.
The Gamestop short squeeze
Perhaps the most famous, timely example of this yin-and-yang is the GameStop Short Squeeze. For the unacquainted, “shorting” a stock offers an option for investors to bet on a stock going down. Investors borrow a stock from a broker, then immediately sell it in the hopes it’ll drop and they will be able to buy it back at a cheaper price. The ultimate goal is to pocket the ‘premium price’ and return it to the original holder (the person they borrowed it from).
In January 2021, retail traders on the infamous r/WallStreetBets subreddit noticed a strange trend in GameStop stock: there were more shares of GameStop sold short than there were shares of GameStop. The short float, which is a measurement of a company’s outstanding shares sold short, was actually 4x higher than the company’s float. This implied that shares borrowed were sold short multiple times. In fact, there were more shares sold short than there were shares in circulation.
Since there were more shares sold short than there was stock available, this opened up several hedge funds and companies to “unlimited risk” positions. This meant that these funds would be left holding a bag, potentially opening themselves to a loss of more than 100% on their original investment. Upon realizing this, thousands of redditors and retail traders began to buy GameStop stock – causing a squeeze of shorts. As the price rose, the shorts would have to buy stock at a higher price to close their short position. As a result, the price would rise even more.
It worked beautifully, quickly gaining steam and turning into a full-fledged assault on the traditional finance industry. The r/WallStreetBets community made it personal, insisting that the GameStop trade wasn’t just about profit, but about sticking it to elites that looked down upon retail traders. Several prominent funds, including Melvin Capital, were forced to close their positions after taking multi-billion dollar losses.
A Revolution: How retail investing is like voting
This example illustrates a remarkable thing about the “retail revolution” that can be likened to voting. Millions of politically apathetic people believe that their votes don’t matter. How many times have you heard someone insist that – even if they vote for a candidate – they won’t win? Many think that the system is rigged and controlled by a higher power or deep state. However, what would happen if every person who insisted their vote didn’t matter would vote? Every election would have a vastly different outcome. Every vote matters. Just as every individual retail investor who bought into GameStop helped tip the scales against the hedge funds that shorted it.
Millions of people who have never traded might have insisted that they couldn’t bring about a change in our markets. Even the majority of those who do trade likely don’t believe they could cause real change. Despite this, millions of people began to vote with their money – and, for a brief moment, they controlled the game that has been run by the top 1% of the world’s money- and resource-rich for centuries. They spoke truth to power, made some money, and did nothing discernibly illegal in the process.
Turning tides: A new generation of investors demands new fintech
Retail investors, but 2021 will be known as the year that they found their wings. Individual investors now know what they are capable of and, barring intervention or collusion by the government, the media, or the financial services industry, their power might just continue to reach even greater heights.
As we dive deeper into the era of the individual investor, people are reaching more and more for services that help them in their self-directed investing paths. Front is one fintech company that’s giving its technology to people for free, via a simple app that helps investors understand risk with FISCO–like a credit score for stocks. Back in 2008, Front founder Bam Azizi saw firsthand how unfair the stock market game is and was inspired to build something to help protect the people. With millions of millennials and Gen Z now investing in the stock market, Front arrives at a critical moment to help people make better, data-driven investment decisions. Whether it’s using Front, or other tools available to help guide your investing, whatever you do, don’t invest blind. Despite all the sensationalism around ‘get rich quick’ opportunities with runaway stocks, long-term investing strategies will serve the vast majority of us better than chasing after the next random ‘meme stock’.