Today's Guest

We invited Lila to the show today because she has a different take on this whole GameStop debacle, and it’s one Conner and I haven’t really thought too much about. When 2021 started, I don’t think anyone would have guessed that GameStop of all things would be the hottest investment. High-level rewind for those that aren’t caught up, GameStop stock has surged more than 1,550% this year. This is largely due to a reddit group called “wallstreet bets.” Essentially, there was one user on wallstreetbets that was investing hard on GameStop and really believed the price would go up. At one point, this guy actually posted a screenshot of his portfolio showing he was down $34k in GameStop…. But he would keep doubling down on his investment. Then, GameStop started receiving some good press about an increase in earnings and the co-founder of Chewy.com said he was taking a stake in GameStop and wanted to make it into a sort of amazon rival but for gaming, plus some other stuff.

So this is where things get really interesting. Users of reddit’s wallstreetbets discovered that GameStop (GME) was one of the most shorted stops on the market, with more shares being shorted than actually exist.

For those unfamiliar with shorting, it essentially means that you borrow stock from someone else with the promise of paying them back in that same stock. You then immediately sell that stock with the hope of it going down so you can buy back in at a lower price, repay the person/entity you borrowed from, and pocket the change. If it goes up, you’re SOL and on the hook to cover the difference. Obviously, the higher it goes the more money you lose out on.

So, with all these reditters buying up GameStop stock (GME), this eventually led to a short squeeze, meaning the stock price rapidly rose due to a lack of supply and an excess demand for the stock due to short-sellers needing to cover their positions.

As a result, the hedge funds that were shorting GameStop have lost billions with some even having to shut their doors because of their losses. And that’s the story you normally hear on the news, this David vs. Goliath, amateur traders sticking it to wall street story.

Where do hedge funds get their capital? Hedge funds get their money (capital) from a variety of sources, including high net worth individuals, corporations, foundations, endowments, and pension funds. Hedge funds usually don’t accept individual small investors (think, the average person who would purchase shares in a mutual fund.) Instead, hedge funds seek out investors with large amounts of investment capital to form a limited partnership with.

Disclaimer: The average retail investor likely won’t be impacted by the GameStop short squeeze if they are invested in a well-diversified portfolio that appropriately reflects their risk tolerance. The whole situation is a clear example of why a diverse portfolio (diversification) is so important. While most individual investors are unlikely to benefit from the GameStop (GME) short squeeze, they’re equally unlikely to see a negative impact on their 401(k), IRA or other long-term investment portfolios. Hedge funds are less regulated than mutual funds. Managers of hedge funds have the ability to use high-risk tactics, such as short selling stocks and taking speculative positions in derivative securities. Mutual funds, on the other hand, can’t take such highly leveraged positions. This makes them less risky, but also limits their potential returns. It’s a trade-off. And, Lila highlights in this podcast, some of these high-risk tactics could have moral implications that not many consider. What are your thoughts? Be sure to comment down below!