GameStop stock surge: How internet day traders took on Wall Street and beat the experts

Share prices for video game retailer GameStop have shocked and awed over the past week after an online campaign to defy Wall Street expectations has sent the stock soaring.

Where Wall Street saw an opportunity to make money by shorting GameStop stock, an online community of small time do-it-yourself investors rallied to buy up shares in the company, rocketing its stock price to a dizzying 1,600% increase since the beginning of January and costing hedge fund short sellers billions of dollars.

What's happened has been characterized as a "David. vs. Goliath story" of how trolls and memers on the internet forum Reddit have, at least for now, beat the credentialed expert investors of Wall Street.

GameStop, like many retailers, has suffered during the coronavirus pandemic but for years now has also been confronted with a changing market landscape. Simply put, customers are moving to online retail, buying digital copies of their video games over the internet relying less on brick and mortar stores to buy physical copies of their games.

Last December, the retail chain, facing mounting debt, announced it would close more than 1,000 stores by the end of its fiscal year in March after already closing more than 783 stores in the past two years.

As reported by Business Insider, in 2018, the company had a net loss of $485 million. In 2019, GameStop rebounded slightly, losing $83 million and in 2020, it faced $19 million in net losses.

In a bid to revitalize GameStop, last September investor Ryan Cohen, the founder of the online pet food retailer Chewy, bought a 13% stake in the company and started campaigning for a change of business model. Cohen envisioned GameStop as a competitor to Amazon, pushing for it to transition to online retail and compete in that sphere.

On Jan. 11, GameStop announced it had added three new directors to its board, including Cohen, causing the stock price to surge. At the beginning of 2021, the company's stock was trading at around $17. CNN recounts that the company's stock price surged 13% after the announcement, since then has continued to increase by leaps and bounds.

Wall Street observed GameStop's decline and bet that it would not be able to compete against Amazon. Seeing an opportunity to make money, hedge funds Melvin Capital and Citron indicated they would short the stock, predicting that the increase in GameStop's stock price was temporary and that prices would soon fall.

As CNBC explains, short selling is an investment strategy where "investors borrow shares of a stock to sell them at a certain price in expectations that the market value will fall below that level when it's time to pay for the borrowed shares."

But last Wednesday, the reddit community WallStreetBets entered the equation. WallStreetBets is essentially a messaging board that discusses day trading with some 3 million users who refer to themselves as "degenerates." After the news broke that Wall Street hedge funds were going to short GameStop stock, members of the community started a campaign for this decentralized group of independent investors to buy up shares in an attempt to "squeeze" the short sellers, forcing them to buy more of the stock they were trying to short to cover losses as its price went up, not down. Many acted as their own stock brokers, using services like Robinhood to trade stocks at home using smartphone apps.

The campaign worked.

CNET reports GameStock blasted from $17.25 a share to a high of $159.18 on Monday. On Tuesday the stock price fell, before rising back up to $147.98. Then the market rally drew the attention of Tesla CEO Elon Musk, who tweeted about it, causing more people to pay attention to what was happening, after which the stock price soared again. As of Wednesday morning, GameStop stock was trading at $315 per share.

The astounding success of the Redditors' campaign has some members of the WallStreetBets community attempting to replicate what they've done with AMC and BlackBerry. As for the short sellers, Melvin Capital was forced to close out is short position Tuesday afternoon after taking massive losses. CNBC could not report the amount Melvin Capital lost, but did note that "Citadel and Point72 have infused close to $3 billion" into the hedge fund to cover some of the losses.

For some of the Redditors, the whole episode was a joke. "It was a meme stock that really blew up," WallStreetBets moderator Bawse1 told Wired. "The massive short contributed more toward the meme stock."

In total, short sellers have lost more than $5 billion year to date in GameStop stock. Credentialed investors have expressed incredulity and anger at the Redditors' investments, with hedge fund manager Michael Burry saying in a now-deleted tweet that what they had done with GameStop was "unnatural, insane, and dangerous." Burry, who became famous for betting against the housing bubble and was the subject of Michael Lewis' book, "The Big Short," also said there should be "legal and regulatory repercussions."

But the "degenerates" argue what they're doing is no different from a hedge fund taking action to manipulate a stock's price. As Vox reported:

From more traditional investors (and those with a lot of money), there's been a lot of finger-wagging. But giant banks and hedge funds aren't exactly a bastion of responsibility — take a look at the role they played in the financial crisis.

The animosity flows both ways. In a post titled "An open letter to CNBC" this week, one WallStreetBets Redditor pointed out that much of the network's audience is composed of the retail traders who are now being criticized. "Your contempt for the retail investor (your audience) is palpable and if you don't get it together, you'll lose an entire new generation of investors," the Reddit user, RADIO02118, wrote.

The user pointed out that the hedge funds that take on big risks can get a bailout — as one of the ones shorting GameStop did — whereas everyday investors generally can't: "We don't have billionaires to bail us out when we mess up our portfolio risk and a position goes against us. We can't go on TV and make attempts to manipulate millions to take our side of the trade. If we mess up as bad as they did, we're wiped out."

Well, one difference may be how the little-guy investors are using their newfound wealth. Many users are posting about how they can afford medical bills, pay off student debt, or cover over major life expenses.

"I can now write my mom a check and put my sister through lymes treatment. This has been a very rough year, but I'm so thankful for every single one of you," wrote u/Stammbomb in one post.

Another user, u/MasterTheGame, posted about how after investing in GameStop when it was $97 per share he can now afford a $4,000 knee surgery for his dog. "This morning after market open I was able to sell enough to pay for his TPLO surgery! I am in tears and really grateful. Thank you everyone and good luck!" he said.

As user Stylux put it to Vox, "Some of the users can now pay off their car notes, student debts, feed their kids and pay their mortgages. Who can feel bad about that?"