Discover more from Margins by Ranjan Roy and Can Duruk
It's not what you think.
Ranjan here. Yeah, writing about that.
A year ago I wrote about how ZIRP, or cheap capital, had completely distorted financial markets at all levels. Last summer, I wrote about how Robinhood sells order flow to giants like Citadel and its traders are "the gravy". I theorized how people sitting at home, spending more time on social media, was adding a new level of distortion into financial markets. I argued George Soros's reflexivity theory was being realized in so many weird and new ways because of social platform dynamics. I freaking described in detail how a Gamma Squeeze works.
A month ago, I wrote how the only way I could describe my feeling towards these markets was one of exasperated exuberance. And just last week I wrote about how cheap capital via zero interest rates combined with social platform dynamics have created a completely distorted market economy that rewards grifting above all else.
I promise you this is not some weak attempt to get you to read my older pieces. I'm trying to convey how the events of the past two days are so ridiculously in my headspace that my head feels like it’s about to explode. A lot of people have been messaging me to try to help explain what's going on. Given everything I listed above, I wish I could provide everyone with a simple explanation.
All I can say to anyone who's simply market-curious and wants to try to understand what's going on. Don't.
There's nothing really to be learned from this because one really knows what's happening. It's not fun or funny. It's stupid and it's troublingly stupid. I'm happy for anyone who made the trades, took some profit, and is taking a breather. For everyone else, please stop reveling in this weird, convenient narrative of a bunch of Gen Z'ers hanging out on Reddit shaking up the establishment. Yes, there will be guys with amazing usernames posting gain porn. Yes, the NYT will find laid-off line cooks who are up 1600% and quote them saying "It's crazy".
But if you really believe this is about a bunch of 'little guys' taking on 'Wall Street' and the 'establishment', I'll assume you also believed Donald Trump was going to take on the establishment and drain the swamp, or something.
That is not what is happening here.
IT’S NOT r/WSB
I am not a "Wall Street" supporter. I left bank trading exactly because I was uncomfortable with how stacked things felt against everyday people and the financial crisis cemented my view. A big dream of Informerly (the defunct personalized news startup that I spent four years working on) was to curate information from the financial blogosphere and finance Twitter for a wider investor base (and yes, for professionals too #KillTheBloombergTerminal!)
In fact, if a decade ago, you told me there would one day be some reddit-driven financial market battle against Wall Street, it would've been my dream. But that is not what's happening. This paragraph from the NYT really bothered me:
While the hedge funds and other professional money managers had been shorting GameStop’s shares, betting that its stock was doomed to further decline, the retail investors — online traders, mom-and-pop investors, small brokers and others — have been pushing the other way, buying shares and stock options. That caused GameStop’s market value to increase to over $24 billion from $2 billion in a matter of days. Its shares have risen over 1,700 percent since December. Between Tuesday and Wednesday, the market value rose over $10 billion.
This is just wrong.
Professional Money is on both sides of the trade. There are very openly 'hedge funds and professional money managers' on both sides of all these trades, not just on the short side. They’re openly talking about it. A famous Silicon Valley billionaire who runs a hedge fund went on CNBC to openly talk about profiting from a $GME long position and donating the proceeds to the Barstool fund (naturally, the only logical result from this timeline). It's one example, but it's some pros are long, some are short.
And the volume clearly indicates there’s bigger money at work. Matt Levine, who naturally we'd consult on this topic, pointed out:
Surely a lot of professional investors are white-knuckling this thing, buying it as a trade and hoping they can get out before the redditors do. “Lol GME to 1000 [rocket emoji] [rocket emoji] [rocket emoji]” is a perfectly good hedge fund thesis right now. WallStreetBets started this but anyone can jump in now.
Judging by volumes, everyone has. Yesterday Bloomberg’s Eric Balchunas pointed out that GameStop was “the most traded equity on the planet,” with $20 billion of volume. Tesla was No. 2. GameStop closed yesterday at $147.98, for a market capitalization of about $10 billion, up 93% from the day before, up 641% from two weeks ago.
Even the "retail" is plenty of well-off people. While most of the media coverage focuses on laid-off college-aged kids and uses the term "mom and pop" investors (is that even okay in 2021?), I can promise you plenty of friends in tech (who often make a lot more than friends in finance nowadays [Haha, sorry -Can]) and doctors are sending me $GME or $AMC gain porn. The already wealthy are having a laugh, catalyzed by r/WSB. I mean, the world's richest man joined in oh the fun. Can we please stop making this about the "little guy" vs. "Wall Street"?
Then there's the conspiracy. Citadel Securities pays Robinhood a lot of money for their order flow, so the theory is that they could be front-running these orders, riding and amplifying the moves. The conspiracy is that if they see a large number of buy orders coming in, they could buy a ton more, and really move the market.
Matt Levine seemed to pooh-pooh this theory:
I'd still contend, as someone who was a tick-by-tick trader, catching the second-by-second wave in a scenario like this is far more valuable than the simple knowledge that r/WSB is going to buy $GME. The timing is everything. It's one thing to know $GME will be bought. It's another thing to know the exact morning people are really buying. He, of institutional money power, can ride the wave and become the difference between an effective short squeeze or the longs being dead in the water. Matt Stoller shared my suspicion:
Listen - if you're enjoying the narrative, and signed up for Robinhood to buy a call option on some dying mall store you used to go to in your teenage years, go for it. But this is just not funny.
A few years ago, I wrote a piece about Tourist Money, a term coined by Mohamed El-Erian about inflows into emerging markets. El-Erian described a phenomenon common in emerging markets - where a bunch of foreign capital rapidly makes its way into a hot market, completely distorting the internal economics of the nation, and then, at the first sign of trouble, bails.
I wrote my senior undergrad thesis on how Malaysia, during the Asian Financial Crisis, implemented capital controls to prevent money from going in or out. At the time, the IMF, along with most others, economic orthodoxy stated that any kind of restriction on capital was a bad thing. After better understanding the human cost of what happens the capital suddenly skips town, I argued that Malaysia was justified (yes, I went on to become the exact EM currency trader that Malaysia's PM at the time called 'immoral', but, hey, we're all complicated beings). Fast, hot money has been a problem in emerging markets that has often resulted in severe economic catastrophe.
Well, the tourists have landed on our shores. But this is not some American family in Italy in the late 90s with fanny packs looking for a McDonald’s. This is a legion of British football [Thanks for not calling it soccer -Can] hooligans hitting some Central European town, pissing on your doors, and throwing empty glasses at you while harassing your girlfriend. And when the fun is over, the tourists will leave. And they'll leave quickly. And four things will happen:
First, when the tourists leave, Gamestop's stock will come crashing down. Gamestop is a real company. It has over 53,000 employees. There's a reason you have not heard from anyone at Gamestop. This must be terrifying. Matt Levine, who will receive a 3rd mention because this is his beat, does explains:
One important thing to remember is that while you and I and Reddit and Elon Musk can all treat GameStop’s stock as an absurd gambling token, a toy adrift on market sentiment far from any economists tell them something about how they should invest and what their hurdle rate for new projects should be? (Lol no.) Should they keep doing the stock buyback that they still have authorized? (Lol no.)
Gamestop's CFO is a guy named Jim Bell. I feel he might go by Jimmy B. He was formerly the CFO of the PF Chang's holding company (awesomely named Wok Holdings). He was a Naval Officer. Jimmy B. seems like the type of guy you'd want to handle such a high-pressure situation.
But when that stock starts absolutely tanking - what happens? Does it stop exactly at some reasonable enterprise valuation? That's not how momentum works. In trading, everyone loved the adage "don't try to catch a falling knife" but while everyone enjoyed the lulz on the way up (other than Melvin Capital), it will be Bell's job to catch the knife on the way down to try to keep as many of these people still employed as possible. Whatever happens, it will dangerous and ugly. Real employees could lose their real jobs thanks to the lulz.
Second, I referenced the dynamics of an emerging market economy, but this is important: we are risking our financial market primacy with this absurdity. I traded emerging markets. If you've made it this far in this newsletter, here's a story about me and the Vietnamese Dong. That story was about my bank getting run over by a collaboration of other American banks and hedge funds. The market was illiquid and opaque and ripe for this behavior. My bonus was definitely cut, but I was fine. They made a bunch of money.
This is the same exact thing. And we should be scared. My co-host Can and I regularly talk about the emerging market-ification of the US over the past few years, and this might require an entirely separate post.
Third, as I'm editing this, Robinhood and other platforms are already trying to contain the situation by blocking access to options on specific stocks. There is a whiff of systemic risk in the air. But guess what? Robinhood’s founders are going to be liquid billionaires pretty soon no matter what happens, while the retail investors are left holding the bag.
Finally, and of most immediate concern, it is what will happen to those 'retail traders' everyone is cheering on. To everyone sharing the same screenshot of someone supposedly paying off their student loans, or chiming in about how this is some Zach De La Rocha rage against the financial machine, are you serious? Did you convince yourself that the folks who do comprise the retail component of this trade, who are the beneficiaries of a sudden windfall of cash that they will attribute to their own genius, will calmly take their profits, walk away, and channel that cash into bettering their lives? I mean, have any of you ever bought an option? Have you ever bet on anything? Have you been a bro chat of any sort? That's just not how this works.
I noted in that Robinhood Gravy piece, I was an intern in Atlanta the summer when a day trader killed nine people at his office. Most of you might've read about Robinhood adding bulletproof glass after traders kept showing up at its office, or the 20-year old who killed themself after misunderstanding their options exposure. We all know this, yet I can't stress this enough: things can (and likely will) move just as fast on the way down.
And that really, really scares me.
Note 1: I am genuinely concerned for the fallout, but will end on an optimistic note. I cannot describe how much more confident I am that this will be handled in a responsible manner with Gary Gensler and Rohit Chopra at the helm of the SEC and CFPB.
Note 2: As you may gather, this entire saga has me a bit frazzled. But I am incredibly happy that somehow fried chicken has found itself prominently involved.