Popular stock trading app Robinhood has responded to the GameStop (GME) craziness by allowing users to sell GME, but not buy it. The company claims the change was made due to ongoing volatility.
As we noted yesterday, GME was one of several stocks whose value shot up when a bunch of Reddit users entered into a coordinated buying spree.
Over the last week, the Reddit forum WallStreetBets has helped push stocks like GME (GameStop) to new highs […]
GameStop (GME) stock has risen by over 1,350% during the last month, driven in large part by the WallStreetBets subreddit. Other companies have also benefited from this push, including AMC Entertainment Holdings (AMC), BlackBerry (BB), Nokia (NOK), Express (EXPR), and more.
Any significant increase in demand for a stock tends to push the price up, but there was an extra factor in this case. The Redditors had chosen stocks whose prospects were extremely poor, GameStop being a case in point: a retailer of physical games media in an already declining market, further hit by a pandemic.
There was method in this apparent madness. When a stock is in decline, investors will often “short” the stock. This means they borrow stock to immediately sell it. They then wait for the price to fall, buy the stock for less than their selling price and return it to the owner, pocketing the difference. More specifically, the coordinated action made heavy use of options, as this lets you get more bang for your buck.
These options have an expiry date, however, and if the price goes up instead of down, they are forced to buy the stock at a higher price, taking a loss. If the price is rising rapidly, then all the shorters will pile in to buy the stock in order to minimize their losses, and that buying frenzy pushes the price higher. It then becomes a vicious circle known as a “short squeeze.”
There does, however, come a point where reality catches up with an inflated stock price, and that’s why Robinhood has chosen to act. (Update: I gave the company too much credit.)
Robinhood now only lets you sell GME et al.
Much of the coordinated purchasing was done using the Robinhood app, as it’s an easy and inexpensive way for ordinary people to buy and sell shares. But it also attracts novice investors who may not realize they are buying into a bubble that is bound to burst.
For that reason, the company says in a blog post that it will no longer allow users to buy the relevant stocks, only to sell them.
Our mission at Robinhood is to democratize finance for all. We’re proud to have created a platform that has helped everyday people, from all backgrounds, shape their financial futures and invest for the long term.
We continuously monitor the markets and make changes where necessary. In light of recent volatility, we are restricting transactions for certain securities to position closing only, including $AMC, $BB, $BBBY, $EXPR, $GME, $KOSS, $NAKD and $NOK. We also raised margin requirements for certain securities.
Amid significant market volatility, it’s important as ever that we help customers stay informed.
It has also written a new post about stock volatility.
Volatility is kind of like turbulence during a flight. You don’t know when it’s going to happen or how severe it will be. You can take steps to steel yourself when volatility strikes though. Just like passengers might return to their seats and buckle up, investors can conduct a personal review, making sure that they’re comfortable with how they’ve balanced their assets between cash, investments, and other individual needs.
The tl;dr is that if you’re investing for the long-term, stock volatility may not be an issue. But if you’re responding to short-term movements and hoping to make a quick buck, that’s a dangerous game.
Speaking of risk, if you are using Robinhood, it’s a good idea to switch on 2FA.
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