The GameStop Chaos and Your Business Investments
A stock market period of chaos in January-February 2021 revolved around the company GameStopi. GameStop sells gaming hardware and software mostly through brick-and-mortar stores. The company’s stock shares and outlook have been depressed and dropping recently due to the movement of gaming to online platforms. With the company’s future looking less than rosy, some major trading firms took exceptionally large short positions in the stock.
What is Short-Selling?
An investor sells a stock short when they borrow shares of a stock they do not own and sell them to other investorsii. They are betting that the stock is going to fall in price, at which time they can buy back the shares at a lower price than their sale. Their profits increase the more the stock’s price drops from when they sold it short until they buy it back.
Investors who short sell stocks can lose money, in fact a whole lot of money. In theory, their losses can be infinite. This is because they lose money as the stock rises, as they are forced to close their position by buying the stock at a higher price than their short sale proceeds. The higher the stock price before they buy it back, the higher their losses.
What Happened with GameStop?
Due to the dark outlook for GameStop in the short term, many large investors took extensive short positions in the stock, waiting for it to drop more so they could buy it back and take their profits. When a group of investors organized on social media to start buying the stock in large quantities, the price began to climb. Over a short period, the stock rose astronomically in price. This caused the massive, short sellers to lose billions of dollars in a short period of time, as the stock price rose quite quickly.
There was nothing illegal about this situation. It was just that never had the big investors lost control of the market to small investors organized to cause chaos. The situation has shocked the markets and the trading system, and there are various actions that are being considered to preclude the situation happening again.
What is the Impact on Business Investing?
Businesses invest in the markets both on a personal level by the owners and through retirement plans. Usually, these investments are conservative in nature, and diversified as that is the best defense against risk.
However, if in that diversification, or through attempts to increase retirement plan yields, there are investments in mutual funds, exchange traded funds (ETFs), or index funds, there could be problems. If any of these funds are short selling stocks, the GameStop situation could come back to bite the business and their retirement plans.
What to Do
If business owners or investment managers for businesses are not certain that there are no holdings in their accounts short selling, they should review all investments and asset classes. Reallocating assets from funds that engage in short selling is advisable, as the power of pooling of resources on social media can bring about this situation again and again.
If this type of market chaos becomes more common, allocating some assets in all accounts, including retirement accounts, into precious metals or other recommended assets may be a way to hedge against adverse events. Consult with your investment advisors to determine any risks in current holdings and the strategies to take to plan for lower risk.