5 Important Lessons from the GME Short Squeeze Saga

In today’s episode, we are going to be discussing the recent euphoria around the GameStop short squeeze, what actually happened and some of the important lessons that new traders can learn from this recent saga! What Happened with GameStop (Ticker: GME)?  Around this time last year (2020), GME was trading below the $5 mark and over the course of the year, the price traded as high as $20 in January 2021. Then on January 13th and January 14th, 2021, the price doubled to $40 - two days later, it doubled again. As a result of this rapid price increase, the media caught wind of this and started running stories on the stock - anywhere you looked, all you saw was “GME” and how retail traders were making life-changing money overnight and beating Wall Street at its own game.  There was euphoria in the air and everybody and their grandmothers were rushing to open brokerage accounts and pour their savings at GME to catch a piece of the pie. On each of the following two days, the stock doubled again, bringing the price to an all-time high of $483.00 over the span of two weeks - this represented a 2,265.33% increase in prices. At the time of this recording, GME price was trading around the $65.00 price level - down almost 80% from the Jan 28th highs suggesting that the short squeeze is now over.   How Did the Short Squeeze Happen? Late last year, some posters on a subreddit called r/wallstreetbets, started arguing that GameStop actually might be a good buy because the business had a lot of upside relative to the price.  In addition to this, a number of hedge funds had taken short positions on this stock - so much so, that the short float on GameStop was 120%  Shorting a stock is simply borrowing shares at higher prices and buying them back at lower prices to make a profit - essentially, these hedge funds were positioned to profit from the price of GameStop falling.  The Reddit community saw that Wall Street was heavily short this stock and realized that they could potentially orchestrate a massive short squeeze by buying shares of GME together in a coordinated effort, which would drive the price up, and the hedge funds who were short the stock would have to buy those shares back to close their out their position, which would fuel the rally even higher and result in massive losses for the hedge funds. What started out as an investment thesis based on fundamentals quickly transformed into a battle against Wall Street that actually gained momentum and mainstream acceptance from the retail crowd - and they were successful in causing some damage to Wall Street - namely Melvin Capital - which had to get bailed out with around $3 billion in order to shore up its finances and ended up covering their position for a massive loss. Avoiding a Systemic Collapse Using The Silent Exit  Instead of going out on the open market and buying GME stock to close out their short positions, hedge funds actually went to the Retail ETF (ticker: XRT) to unwind their positions! GME represented 20% of the ETF holdings, so while the hedge funds spent more money to buy the other 80% of the stocks, they took delivery of the assets out of the ETF and that's effectively how they closed out their position in the market. Have the hedge funds been squeezed out? The short float of around 20% would suggest yes. This short squeeze really had the potential to create a systemic collapse in the financial markets as hedge funds would have had to pay for margin losses by selling large stakes of their positions in big-name stocks like Microsoft, Apple, Amazon, and Facebook to name a few, which would have provided downside pressure to the stock indices.  Fortunately, it did not get to this point, but in the aftermath, the ones really affected by this were those that joined the party late, bought into the hype near the highs, and held all the way down "hoping" it would come back. Here are the 5 Important Lessons Th