Trust by the American public is in short supply these days. Distrust in the government, Wall Street, and tech and media elites is at all-time highs—and it’s easy to see why the ordinary citizen feels like nobody has their back. The elites, it seems, only want to protect each other.
This distrust hit a fever pitch last week when popular online broker and Silicon Valley startup Robinhood limited trading of Gamestop (GME) stock. This was an unprecedented move.
What’s going on with Robinhood?
So why did Robinhood limit Gamestop trading? To understand all this, you have to go back to the beginning of this entire episode: WallStreetBets, a popular subreddit of with 2.1 million renegade day traders. Members of the subreddit are often young retail traders. They use Robinhood—a popular day-trading app—and typically ignore fundamental investment practices.
Tired of what they considered hedge fund manipulation of stock prices through short sale activity, the members of WallStreetBets decided to strike back. Their target: Hedge funds, who have long bet on companies they view “in decline” by shorting their stock.
What is shorting?
Shorting a stock is essentially selling borrowed stock at current prices with the anticipation of a price drop and then paying back the borrowed stock at the lower price. When the market sees massive shorting activity, it considers this a sign of decline. It drives down prices and, in a way, fulfills the hedge fund’s prophecy.
This practice runs into a major problem if the price goes up, not down. This causes a short squeeze: Legally, the hedge fund must return the borrowed stock but now at a higher price—resulting in losses.
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