If you own a smartphone and have Instagram, Facebook, Snapchat, or access to the internet, there’s a good chance that you’ve seen a meme, two, or two-hundred about the stock market this week. If you’re the average Joe or Joanna and don’t have any interest in capitalist America, there’s also a good chance that you had no idea what you were looking at. Fear not, this article is here to explain the whole thing to you (as long as you know a thing or two about the NBA).
Part 1 – Short Selling, and Kobe Bryant
Let’s start with the basics. You need to know what a short sell is. You know when you think a basketball player’s career is inevitably going to spiral downward? Say… when Kobe Bryant ruptured his achilles at 34-years-old? If Kobe were a stock in 2013, it would make sense to short sell him.
In basketball terms, the equivalent would be if the Los Angeles Lakers traded Kobe Bryant for a role player immediately after his career-altering injury. Let’s say they shipped him to the New York Knicks in exchange for Raymond Felton. The thing with short selling however, is that you have an obligation to buy the stock back in the future at whatever price it’s trading at… so this trade between the Lakers and Knicks would be more like a loan. The Lakers get Felton for now, but they have to trade back for Kobe at a future date – regardless of how well Kobe is playing, or what his fair market value is.
Short selling is what hedge funds on Wall Street – most notably Melvin Capital, and Citadel – did with a stock called GameStop last week. Yes, the same video game store that you went to as a teenager and only got a measly $12 for the 20 video game CD’s that you traded. They are currently the epicenter of the financial world. GameStop was “inevitably” following along the path of Blockbuster, the popular brick and mortar movie rental store which went out of business in 2010. Inevitably is in quotations, because it appears that GameStop won’t go out of business any time soon.
In what many are now calling the Reddit Rebellion, millions of millennials assembled in a subreddit page called r/WallStreetBets (WSB), and discovered that hedge funds worth billions of dollars were short selling (in finance, one would say that they had short positions) to an extent greater than what GameStop’s entire company was worth. If you hear that “GameStop had a 140% short float,” that’s what it means. Hedge funds were borrowing GameStop’s stock, selling it, expecting the price of the stock to fall so that they could buy it back later, and they would profit off the difference. It’s pretty much what the Lakers did in this hypothetical scenario by “selling” Kobe, and hoping to trade back for him a year later by packaging nothing but a second round pick and cash considerations.
So imagine you get that tweet notification from Adrian Wojnarowski in 2013. Unequivocally, you’re shocked that one of the greatest Lakers of all-time has been traded. Now, let’s say that you and all your friends are among the best sports scientists, doctors, and trainers in the world, and you’re all fans of the Boston Celtics. More so than helping out Kobe, you want to see the Lakers rot, and make them regret their decision to trade him. You all come together, get the Black Mamba back on the court in a matter of months, and get him playing in the best form of his career. He’s got the 1999 Kobe Bryant athleticism mixed in with the 2010 scoring ability, and the mamba mentality everywhere in between. He’s coming for that 2014 MVP award, and nobody can stop him. But, the Lakers still need to trade back for him at what is now his “fair market value” – something that will cost them every first round pick and swap for the next eight years.
This is the equivalent of what Redditors have been up to over the past few weeks. They took long positions (meaning they flat-out bought the stock) in a company that was destined to go bankrupt. Risking all of their money to do this, 1.5 million members of WSB took on the ever-impossible challenge of coming together to change the financial world. They wanted to skyrocket the price of GameStop’s stock so that hedge funds would have to buy it back at a higher price, and lose all of their money.
And it worked. Redditors banded together, and the stock picked up more and more momentum. With the spread of information throughout the internet, endorsements from Chamath Palihapitiya and Elon Musk, and the FOMO of passive investors, WSB’s member count rose by 300% to over six-million people this week alone. GameStop’ stock price peaked up 724% this week, and is up 1,687% this month. With the stock flying so high, there were rumours that Melvin Capital would have to file for bankruptcy. The gossip was quickly shut down, although Melvin refused to comment on the exact dollar value that was lost. Citadel and Point72 – a couple of other investment funds on Wall Street – invested $2.75B into Melvin Capital to help keep them alive. WSB, the retail investors, and the average citizen of North America were finally winning, and they weren’t going to stop anytime soon.
Part 2 – Robinhood, and the Chris Paul Lakers trade
I was scrolling through my Twitter feed on Thursday, as almost anybody intrigued in the American capital markets would be, when I saw @_marinadrab ask, “Can someone explain to me what is happening with the stock market rn,” and @Big75Fella quoted the tweet responding, “The Lakers traded for Chris Paul but the NBA said no.” And that about sums it up perfectly.
First, let’s clear up a common misconception. The NBA didn’t veto a trade that would’ve paired Chris Paul and Kobe Bryant on the Lakers in the traditional sense of the word, “veto.” The NBA owned a majority stake in the New Orleans Hornets at the time, and therefore it was within the NBA’s power to decline the trade on behalf of the Hornets franchise – similarly to how James Dolan shut down a trade that would’ve sent Kyle Lowry to the Knicks. Rather than stepping in as an outside party and preventing Chris Paul from manipulating his way into Los Angeles, the league simply said “no” as the owners of the team.
Rather, NBA fans’ anger stems from the fact that the trade made total sense for all sides from a basketball perspective. The Hornets were getting Lamar Odom, Luis Scola, Kevin Martin, and Goran Dragic in return for a disgruntled point guard who was due to leave in free agency anyways, but instead they wound up with nothing. Likely, the NBA was acting within their own self-interest, because keeping Chris Paul on the roster would make the Hornets franchise easier for them to sell.
Robinhood on the other hand, has no excuses for the market “corruption” that they facilitated this week, and the class-action lawsuit coming their way is illustrative of the ethical crimes that they committed. It’s ironic that Robinhood – the now notorious brokerage app where individuals can buy and sell securities online – is named after an old English folk tale about a hero who steals from the rich and gives to the poor. In fact, it’s not a coincidence at all that the names are exactly the same. Robinhood’s entire mission is to “Democratize finance for all,” and is even the first thing featured in their Twitter bio.
On Thursday morning, Robinhood decided to independently halt the buying of 13 stocks that were trading at extremely high volumes. Excuse me while I get a little bit more finance-y here.
After hedge funds lost money on their GameStop short sales – in what is typically referred to as a short squeeze – retail investors decided to target more stocks with high short floats. Among some of them were BlackBerry, Sundial Growers, and AMC Entertainment Holdings. All of these stocks shot up over 100% on Wednesday, putting the boot collectively worn by citizens on billionaires’ necks. Obviously, the rich and powerful were upset.
Hedge funds exploited the markets on Wednesday after hours – when trading is limited primarily to institutions – by doing what is called short laddering. Think of this as an NBA player artificially tanking their trade value to protect themselves from being traded.
Hedge funds were allegedly colluding and trading these stocks to one another at lower and lower prices in order to tank the price of the stock, and induce amateur investors to panic sell on Thursday morning, thus cutting losses of these asset management firms on their short positions. It was so clearly visible however, because the volumes which these stocks were trading at after hours was a mere fraction of what they traded at during the day, and the price was falling drastically.
Playing into the hand of hedge funds, Robinhood restricted investors from buying these stocks that were putting hedge funds under. BUT, you could still sell them… which is exactly what hedge funds wanted people to do. Is it oddly coincidental? Robinhood’s CEO, Vlad Tenev, says so.
Apparently, Robinhood was adhering to ‘regulatory and financial requirements,’ when they closed the buying of these stocks, which Tenev refused to cite when being interrogated by Chris Cuomo on CNN. Despite, America’s regulatory body, the SEC, never insisting that Robinhood should do this, Tenev claimed that the decision was made to protect their customers. In the scenario where Robinhood was forced to make this decision because they were facing a liquidity issue, their obstruction of the free markets should be promptly investigated. Ultimately, Tenev’s and Robinhood’s decision was instrumental in leading to the aforementioned stocks plummeting by over 30% each on Thursday.
Part 3 – A Game of Momentum, and the Three-Point Revolution
The three-point line was introduced to the NBA in 1979, changing the spacial economics of the entire sport. But it took a long time for math and data analytics to creep their way into basketball front offices and actually begin influencing the way that the game is played. If you have any interest in the way that data analytics apply to basketball you’ve probably seen a graphic something like the one shown below.
This shot-chart, popularized by San Antonio Spurs scout, Kirk Goldsberry, and his New York Times Bestselling novel, Sprawlball, depicts everything that you need to know about the three-point revolution. During the 2001-2002 NBA season, the most common shot locations in the NBA were from the mid-range area along the baseline, and in the center of the key, with small patches of hotspots along the three-point arc courtesy of players like Peja Stojakovic and Ray Allen.
As the paradigm has shifted, and front office executives have begun to realize that a mildly contested three-point shot will net more points on average than a slightly more heavily contested elbow-line jumper, the game has drastically changed. It’s why players like DeMar DeRozan, who thrive in the mid-range, have been held back from enjoying a dominant career, and why long-range bombers like Stephen Curry are in consideration to be among the greatest players ever.
Similar ideologies have found their way into the stock market this year, although in completely different ways. Following the March, 2020 stock market crash, many newbies found their way into investing as a way of making a quick lick. With the $1.5T liquidity injection from the fed, along with a slew of new investors throwing their money into stocks, the market quickly bubbled up.
The Dow Jones Industrial average is a reliable indicator for how well the overall stock market is performing. If the Dow goes up, it’s healthy for the economy; if the Dow goes down, it’s not. Over time, the Dow slowly and naturally grows. People become wealthier, inflation takes its effect, innovation occurs, etc. It’s crucial that the markets grow slowly and steadily, just as the NBA took about thirty years to fully adapt to the three-point line. This past year, the Dow has not followed suit.
The Dow is measured in points. Previously, for the Dow to grow from 18,600 points to 29,350 points, it took 1,166 days, between 2016 and 2020. With the rapid movement of money post COVID-19 and the digitalization of brokerages inviting millennials to treat the capital markets like a casino, the Dow made an equivalent jump this past year in merely 245 days – indicative of a frothy market, which has shifted the mindset of investors.
I previously mentioned that it was statistics and analytics which drove the NBA to a more perimeter-centric game, which is absolutely true, but the numbers had to be proven by championships before every team would re-model their offense. Stephen Curry was the one to prove that shooting works in the NBA, by leading the Golden State Warriors to five consecutive NBA Finals, clinching three championships, forming one of the greatest dynasties of all-time, and taking over half of his shots from beyond the arc.
Similarly, Tesla has lured investors into a profit-seeking paradigm, as opposed to the traditional method of investing in companies that perform well financially, have good fundamentals, appear to be undervalued, and have high growth potential. It’s no secret that Tesla is overvalued. Stock market indicators will tell you as well as financials as well as your neighbor’s cat. But, people are more interested in chasing stocks that they believe will make them more money, and as they continue to grow, it drives the FOMO even further. It’s what has created a market where Tesla’s profit in 2020 was less than one sixteenth of Volkswagen’s, yet it’s market cap is nine times greater.
Undoubtedly, this is exactly what has been happening over the past week with GameStop, AMC, and other short squeeze attacks. The rise of the internet has birthed a new method of investing that is based around trusting the masses, and chasing profit without knowing a single thing about the company whose stock you’re buying. A subreddit has unofficially become the world’s largest hedge fund, and the internet has changed capital markets as radically as the three-point line changed basketball. Whether it’s here to last remains to be seen, but we are witnessing the equivalent of the 2015 NBA Finals right now.