GameStop saga hints at growing power of retail investors

By Martin Hesse Time of article published Feb 18, 2021

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Disruptive online stockbroker platforms, such as Robinhood in the US and EasyEquities in South Africa, have made the stock market accessible to everyone with a smartphone. Now you can virtually put your spare change into shares, and be charged very little - or nothing, in the case of Robinhood - for doing so

While the same may not be true of Robinhood, EasyEquities (in line with Personal Finance’s ethos), encourages a long-term approach to stock market investing: you build a solid portfolio of shares of well-run businesses with good prospects. This “buy and hold” strategy is the one generally used by unit trust fund managers.

Trading, or speculating, on the other hand - taking short-term bets on price movements - involves trying to time the market, which largely boils down to luck.

Whether they are long-term portfolio builders or short-term speculators, there is a new generation of online share investors who hold considerable power in the markets. This was made apparent recently in the Reddit/GameStop saga.

Briefly, some hedge funds began shorting the stock of GameStop, a United States-based video game retailer - in other words, they were betting on a fall in the share price. They reasoned that the company was on the decline - that it would go the same way as Musica, sadly, has gone in South Africa.

A large group of retail investors on a Reddit community called WallStreetBets began to buy GameStop shares in order to drive up GameStop’s share price.

This forced the short-sellers to buy back shares to cover their losses – an action which, ironically, further boosted the share price; a condition known as a short squeeze. GameStop jumped from US$20 at the beginning of January to $347 by January 27.

A number of brokerages, including Robinhood, then suspended trading of GameStop, to which there was an immediate outcry and furious social media backlash.

Paul Marais, managing director at NFB Asset Management, explains that Robinhood was forced to suspend trading given that it had run out of liquidity.

He says lay traders have identified other stocks targeted by short-sellers, including Blackberry, AMC and Nokia, and even Steinhoff in South Africa. “The irony of the WallStreetBets investors is that they are essentially propping up firms that are likely to see their demise in the not too distant future.”

By February 8, the bubble had burst, and the GameStop share price had fallen to $60.

“As history has shown, bubbles never last. If investors choose to push the limits, then they need to bear the consequences,” Marais says.

The power of the retail investor

Charles Savage, chief executive at EasyEquities, says that a similar scenario is unlikely in the South African market at present. He says the US stock-market ecosystem is very different to that of South Africa. It is not only the world’s biggest market, but it contains a far higher degree of leveraged capital (shares and derivatives traded with borrowed money), which means that even relatively small-cap shares are influenced by speculation and leveraged trading, which is not the case here.

However, he says the GameStop saga has highlighted the growing power of retail investors against institutional investors (hedge funds, unit trust funds and retirement funds). “The future of investing is going to be more about retail than it ever has been. That means there will be a resetting of the balance of power and the rules that support investing. And that transition will happen faster than anyone is expecting.

“In South Africa, retail investors, who five years ago accounted for less than half a percent of the volumes on the JSE, account now for three to five percent, and over the next 10 years that number will grow easily to 25%. In the US, retail is already at 25%, from below 10% about five years ago. I believe retail investors will breach 50% of volumes in the US within the next five years.

“That’s a much fairer playing field. This Reddit/Gamestop example has hinted at a future that is disruptive. CEOs, institutional investors and hedge funds - in fact the entire ecosystem - when they think about how they run their businesses, how they manage liquidity, will have to consider the retail investor first and foremost.

Savage says that what is interesting about the “Reddit army” is that it was neither speculative nor investor-driven. “They went into it with their eyes wide open - they weren’t expecting to make money from it. They were wanting to teach the shorters a lesson. It was about them standing up to institutions and saying ‘this is ‘wrong’.

“Until now, institutional investors have controlled the value dialogue. What is a certain company worth? And it has been hard to argue with them, as there has been no counterbalance.

“Retail investors don’t value a company just through the lines of an income statement. They have a different valuation metric - they fall in love with the brand and [a company’s moral values] and a whole lot of other things that are not considered in an institutional view.”

Is more regulation needed?

The saga has raised the question of whether there should be more regulation of the markets. Non-executive director of the Purple Group, Mark Barnes, in his capacity as previous chairman of the South African Futures Exchange, opposes this idea. “No matter how much a non-player might step in to regulate a market, the market finds a way. I think the best form of regulation is lessons learnt. And so I would leave the market to make its mistakes, and sooner or later people will realise ‘you shouldn’t go there’. Those of us who have been around for a while don’t go there.”


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