What happened with GameStop?
A short, simplified explanation of the craze.
This is a continuation of the explanation in the latest issue of Great Stuff.
If you want to get technical, what the hedge funds did was short the GameStop stock. Shorting is a very clever way of betting against something. Let’s say I want to bet against Apple because I think its stock price, which is currently at $50, will go down. (Perhaps I have a hunch that a new product release is going to flop.) What I can do is borrow 200 shares of Apple stock from a bank and sell them immediately, netting me $10,000 (200 shares times $50 per share). Now, if my prediction is correct and the Apple stock price goes down to $25, then I can buy and return those 200 shares for just $5000. I’ve made $5000 off the deal.
However, if my prediction is incorrect and the stock price actually goes up to $100, then I’m in a fix. When the bank asks for its shares back, I have to buy them at $100 to return what I borrowed. This will cost me $20,000 (200 shares times $100 per share), so I will lose $10,000.
This is what happened to the hedge funds that had short positions in GameStop. Because Redditors caused the stock price to rise, they had to buy and return their borrowed shares at massive losses.
Now go back and read the rest of the newsletter.