In testimony prepared for the House Financial Services Committee, Securities and Exchange Commission Chairman Gary Gensler says brokerages that “gamify” trading — by using appealing visual graphics to reward a user’s decision to trade, for instance — may encourage frequent trading that results in worse outcomes for investors. Some Democratic lawmakers have blamed gamification for the boom in individual trading that helped drive the rise in GameStop shares.
Mr. Gensler, who will appear before lawmakers on Thursday, also said the SEC would study regulatory changes in response to the March blowup of Archegos Capital Management, an unregulated family-investment vehicle of hedge-fund veteran Bill Hwang whose leverage-fueled bets led to more than $10 billion in losses at major global banks.
The Securities and Exchange Commission is considering a tightening of disclosure requirements for investment firms following the collapse of Archegos Capital Management and the GameStop trading frenzy, people familiar with the matter tell Bloomberg.
Officials at the SEC, now being led by Gary Gensler, who was confirmed as chairman of the regulator last week, want to increase transparency of the derivative trading that led to the implosion of Archegos, Bill Hwang’s family office, the people say.
Lawmakers have also heaped pressure on the agency as they seek more transparency about who is shorting stocks following the GameStop debacle.
Melvin Capital is facing a wave of lawsuits from plaintiffs who allege that the hedge fund tangled up in the GameStop debacle has conspired to restrict trading for retail investors, causing them to lose money.
The investment firm founded by Gabriel Plotkin disclosed nine legal complaints in its most recent ADV filing, which social media investors on Reddit gleefully discussed at length this week. The complaints were first reported by Institutional Investor.
The suits accuse Melvin Capital and other market leaders of colluding to restrict retail trading in January, when a freeze on individual accounts trading shares of GameStop, AMC, and other so-called “meme” stocks had retail investors and regulators crying foul play.
I expect some big institutional changes to be coming our way soon. One favorite debate, at least according to the editorial page of the Financial Times, is the trade-off between efficiency and resilience. Buying all your goods from China, including PPE, may be efficient—but if you have a global pandemic, then it means that you’re not so resilient. Or, if you live in Texas, cheap energy is great when you blast your air-conditioning every August when it’s 110 degrees outside, but if there’s a crazy cold snap and your power gets shut off, you see that your system is actually not that resilient at all.
We already see the Biden administration taking on resiliency, as he is trying to revive domestic manufacturing. And we can expect some soul searching in Texas as well. But I’m not convinced that we’ll get the big overhaul, because the problem with resiliency is that it can be extremely expensive, and once we forget about the shock, we don’t want to pay for it anymore. It’s expensive if you define resiliency as the ability to seamlessly handle a once-in-a-lifetime tail risk that you never saw coming. People like cheap power and goods, and those things help the economy grow.
GameStop mania has spilled over into a popular exchange-traded fund, as the WallStreetBets craze reaches beyond shares favored on social media.
The fund, State Street ’s SPDR S&P Retail ETF, was created in 2006 to give investors broad exposure to mall-store firms. Its shares have surged 23% this year, far outstripping a 4% gain in the S&P 500, despite the uncertain outlook for retail. Behind those gains are the traders who congregate on social-media platforms such as Reddit’s WallStreetBets forum and whose enthusiasm has turned this mundane investment into a roller coaster.
On Jan. 27, GameStop soared 135%, driven by events such as Tesla Inc. Chief Executive Elon Musk tweeting “Gamestonk.” The State Street fund jumped 42% the same day. The next day, GameStop shares tumbled 44% and the fund, known by its ticker XRT, dropped about 9%.
Activist short-sellers are different in the types of actions they advocate. These are people who are shorting the stock, and are arguing the current market value for the shares is too high. They may claim something is stinky about the financial reporting of results, and that regulators should audit the books. They may point out that management is engaged in some value-destroying activity that shareholders were unaware of. The activist shorts aren’t trying to destroy value — they claim that the true economic value was already much lower than the stock price would indicate, and that’s because the information the market has about the company is just plain wrong.
They’re being activists not because of altruism, obviously, but that the faster the market prices adjust to what they think the true value is, the less they’re exposed to the risk of getting squeezed out of their short position before they can profit.
Robinhood is a broker. It is a FINRA-regulated broker-dealer. It relies on a clearing house to clear its transactions. The clearing house it uses is the National Securities Clearing Corporation (NSCC), which is a subsidiary of the Depository Trust & Clearing Corporation (DTCC). Thus, Robinhood is a “member” of NSCC. The NSCC is a “designated financial market utility” as defined in the 2010 Dodd-Frank Act. Thus, it is “a financial market utility that the Council has designated as a systemically important.” (“The Council” is a regulatory body created by Dodd-Frank. Its ten voting members include the Treasury Secretary, the Fed chair, and the comptroller of the currency.) NSCC is a provider of “financial market infrastructure” (FMI). As such, it must publicly promulgate rules for the computation of the “Clearing Fund” every “member” must maintain with it. While the FMI is responsible for designing its own rules for determining the clearing fund, they are subject to approval or rejection by the regulatory authorities. In particular, the SEC may prohibit any changes NSCC wants to make in its formula for computing the clearing fund of each member. The Bank for International Settlements (BIS) has promulgated a set of “principles” that member states should adhere to in regulating payment and settlement systems. These include, “An FMI should maintain sufficient financial resources to cover its credit exposure to each participant fully with a high degree of confidence.”
Thus, the regulatory authorities require clearing houses to require members to keep a risk-adjusted balance with them as a guard against credit risk. In the case of Robinhood, the short squeeze drove this formulaic value up sharply. Robinhood didn’t really have much of a choice about how to respond. It had to both pony up more money for the clearing fund and act to hold off (to the extent possible) further increases in it. Robinhood had to borrow a lot of money to maintain its clearing fund.
The consternation over the stock price surges at GameStop and AMC is rooted in their disconnect with their financial performance – both companies are losing money, made worse by the pandemic lockdowns.
The other shoe is yet to drop for those who bid up the share price of GameStop, according to Indarte. “I think we’re going to see more pain felt potentially by the retail investors that are in effect bidding up the price of GameStop,” she predicted. “It’s hard to justify the prices that we’ve been seeing for the company, based on the company’s fundamentals.” In the latest quarter, GameStop reported a 30% fall in revenues to $1 billion and a loss of $18.8 million. Similarly, AMC has also shuttered most of its theaters, and recently secured $917 million in financing to stave off bankruptcy.
In addition to the soundness of its fundamentals, a company’s stock price can also be driven by investor sentiment, “but there is large heterogeneity between different companies for the importance of both,” according to Binsbergen. Much of the price discovery depends on the liquidity and the total market capitalization of the stock, he noted. Small and illiquid stocks are more susceptible to non-fundamental price movements than larger stocks, he explained.
Robinhood Markets Inc. Chief Executive Officer Vlad Tenev offered an apology for the company’s decision to temporarily curb trading in some stocks, including GameStop Corp. , on Jan. 28 amid extraordinary volatility.
“Despite the unprecedented market conditions in January, at the end of the day, what happened is unacceptable to us,” Mr. Tenev said after being questioned at a congressional hearing Thursday.
His apology came after House Financial Services Committee Chairwoman Maxine Waters (D., Calif.) interrupted the Robinhood CEO during his opening remarks. Her request was unusual as witnesses are allowed to make opening statements before taking questions from lawmakers.
The investor who helped direct the world’s attention to GameStop, leading a horde of online followers in a bizarre market rally that made and lost fortunes from one day to the next, says he’s just a normal guy.
“I didn’t expect this,” said Keith Gill, 34 years old, known as “DeepF—ingValue” by fans on Reddit’s WallStreetBets forum and “Dada” by his 2-year-old daughter. He said he didn’t set out to draw the attention of Congress, the Federal Reserve, hedge funds, the media, trading platforms and hundreds of thousands of investors.
The filing argues that Gill’s Roaring Kitty/DeepFuckingValue persona was a ruse, intended to hide his status as an industry professional who’d bought GameStop at prices averaging $5. The filing curiously doesn’t include Gill’s (presumably not faked) E*Trade account shots as part of the ruse, since any registered rep is normally required to trade only though his employer.1
The tricky part is that securities fraud, and this is a securities fraud case, requires establishing intent, which the lawyers call scienter, as in knowing in advance that what they were doing was wrong. The fact that Gill has so many securities licenses will make it pretty much impossible for him to pretend that he didn’t know what the relevant rules were. So his defense is likely to rest on “Gee, I thought this was a great trade. How was I to know so many people would agree and make the same bet?”
The filing makes a good go at pre-rebutting that. Even though Gill initially depicted his YouTube channel as being about general financial education, it became more and more fixated on GameStop, with “at least” 56 of 80 presentations devoted to it, and many of them discussing its vulnerability to a short squeeze. Virtually all of his tweets from July 2020 were about GameStop.