Imagine If GameStop Sold Games As Exciting As Its Stock

Last month I asserted that Bitcoin was perhaps the ultimate multiplayer game. I have to admit that I was incorrect in that assertion. For the past few weeks at least, a seemingly obsolete retailer of video games offered something far more entertaining to the masses than anything in its inventory. GameStop (GME) enthralled the masses.

It started with a cheat code. The folks at r/wsb identified a flaw in the mechanics of short selling. As we discussed last week, this was not only legal but a bizarre side effect of the stock loan process. A dealer who receives shares does not know whether or not those shares are borrowed from someone else, and nothing prohibits him from unknowingly re-lending borrowed shares. Savvy posters on the site identified that the short interest in GME exceeded the available float, recognized that this was an untenable situation, and led a campaign to squeeze the short sellers.

While I firmly believe that short selling is a legal, ethical, and a necessary part of investing, it is fraught with risk. By definition it is a leveraged activity – shares sold short are borrowed – and adding leverage to an investment always increases its risk. The payoff structure of short selling is asymmetric as well. Stocks can’t trade below zero, but they can rise infinitely. That flips the risk/reward calculus of most investing upside down. To be fair, “infinite loss potential” has always been a largely theoretical construct. The GME saga made that notion much more tangible.

And while I think that short-selling has a valid role in market structure, I have no sympathy for the short-sellers who were burnt either. If short sellers fail to understand the risk inherent in their activity and fail to take steps to mitigate that risk, then the onus of their losses is theirs and theirs alone. Short sellers are typically a sophisticated bunch (or at least talk a good game), and can’t plead ignorance. The GME frenzy started as a short squeeze, and short sellers have been subject to short squeezes for as long as short sales have existed.

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The author does not hold any positions in the financial instruments referenced in the materials provided.


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Bruce Powers 3 weeks ago Member's comment

If I wanted a game as stressful as trading $GME I would just play Dark Souls lol.