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What The GameStop Saga Reveals About Wall Street

People walk by a GameStop store in Brooklyn on January 28, 2021 in New York City. Markets continue a volatile streak with the Dow Jones Industrial Average rising over 500 points in morning trading following yesterdays losses. Shares of the video game retailer GameStop plunged. (Spencer Platt/Getty Images)
People walk by a GameStop store in Brooklyn on January 28, 2021 in New York City. Markets continue a volatile streak with the Dow Jones Industrial Average rising over 500 points in morning trading following yesterdays losses. Shares of the video game retailer GameStop plunged. (Spencer Platt/Getty Images)

Redditors banded together to rock the stock market. What does GameStop actually tell us about wealth, power and how Wall Street works?


Alexis Goldstein, senior policy analyst at Americans for Financial Reform (@alexisgoldstein)

Jacob Frenkel, former SEC enforcement attorney and federal prosecutor. Chair of government investigations and securities enforcement for the law firm Dickinson Wright. (@Jacob_Frenkel)

Show Transcript

Meghna: Rewind, because the story begins on July 13, 2020. A Massachusetts man posts his first video to his new YouTube channel. It’s about the stock market and he’s sporting a T-shirt with a sunglasses-wearing cat.

Keith Gill: “I ain’t gonna lie, we’d be doing some boring stuff on this stream, like analyzing financial statements, looking at spreadsheets and charts and all that. I mean, research is boring, right? But maybe if it’s more collaborative and interactive, maybe we could have some fun with it, you know.”

Meghna: Oh, and did the fun ever begin! About a month later, Keith Gill, a.k.a. Roaring Kitty posts another video. This one is all about GameStop stock. Kitty says he’s foolishly bullish about the game retailer.

Gill: “The GameStop thesis is super simple, but it’s often misunderstood. Everyone classifies it as a cigar butt and then just moves on. But it’s more than that. GameStop is an established, uniquely positioned player in a thriving $150 billion gaming industry.”

Meghna: A few weeks later, he starts talking about hedge funds shorting GameStop.

Gill: “Based on prevailing sentiment, the market, and popular culture, many think it’s a foolish investment, but everyone’s wrong. It’s like the big short again. Or more like the big short squeeze this time, right?”

Meghna: Well, Roaring Kitty wasn’t just talking up GameStop on YouTube. He was also over on Reddit, where he goes by DeepF***ingValue on the WallStreetBets Reddit forum. Fast forward to January, and the story you think you know.

NEWS MONTAGE: “Wall Street has been turned upside down this week after the value of GameStop shares that had made big bets on the fall suddenly shot up astronomically. Over the past few months, Reddit users on a group thread rallied to drive up the value of the video game retailer, making it one of the hottest stocks on the market.”

Meghna: Back over on Roaring Kitty’s YouTube channel …

Gill: “Cheers everybody! Alright alright! Welcome everybody, happy Tuesday, happy Tuesday, let’s go! Woo Woo! Sick sick sick!”

Meghna: Wall Street turned upside down. Reddit victorious. A big win for individual investors over hedge fund billionaires. Right? I’m Meghna Chakrabarti and this is On Point. And this hour: under the hood of the GameStop story and what it really says about power, wealth and Wall Street.

Well, we’re going to talk to Alexis Goldstein today. She’s senior policy analyst for Americans for Financial Reform. Alexis, welcome. And is this the David versus Goliath story that we all want it to be?

Alexis Goldstein: Hello, Meghna, thanks so much for having me. I’m unfortunately here to be, I guess, a little bit of a spoilsport. In my opinion this is not so much a David versus Goliath story, although there are certainly a lot of Davids out there making a lot of money. I think this is actually a story about Goliath versus Goliath, which is generally what the Wall Street story is with the sort of David narrative as a little bit of a smokescreen behind what’s actually happening.

Meghna: OK, so here’s what I’d like to accomplish for this hour. There’s been so much talk about the GameStop story over in the business press, right. It’s a media full of jargon, vested interests, et cetera. There’s also been so much talk about it over in the sort of the regular press looking for other narratives, et cetera, and not perhaps engaging with the level of detail that average people who don’t dabble in, you know, in Wall Street options need to know. So I want to occupy this middle ground. The middle ground being like let’s pretend like it’s On Point’s MBA classroom. Okay. It’s a finance class with Alexis Goldstein. Where do we need to start to really understand the mechanics of what has happened?

Goldstein: I think some context is helpful before we even try to explain what happened. And the context is Wall Street remains — and by Wall Street, I mean both the very large investment banks, the Morgan Stanley’s, the Deutsche banks, the Goldman Sachs of the world, and also hedge funds, which are sort of less regulated private firms that manage money for very wealthy people. That’s what I mean when I say Wall Street. They have these deep structural advantages. They have technology and trading tools. They lay their actual physical infrastructure as close to the stock exchanges as they possibly can just to shave little microseconds off of their executions.

That is what you need to understand as kind of the context. And then sort of the next step down is what is going on, on Reddit and what is going on in Robinhood and what is going on and these YouTube forums and Roaring Kitty and all of that. And I think there are always opportunities for people to make money and identify value, whether that happened here or not, or this was just a huge momentum push with a lot of people piling into one trade at once, I think is open for debate.

But what absolutely happened is a number of people on Reddit decided that GameStop was a good idea and a bunch of them decided to collectively invest in it and try to squeeze the shorts. And this is where we start to get into the terminology. Right.

So shorting is when you are betting that the price of something will fall. And the way that you operationalize that is you borrow, say, 100 shares of that company from somebody else. You might ask, what does that person get out of it? Well you pay them interest. It’s kind of like a loan, but instead of loaning you money, they’re loaning you your stocks. So you find someone to loan you 100 shares of stock. You immediately sell it and then you hope that the price falls. And if you’re right, you buy it back, you give the shares back, you pay your interest and you still have a profit.

Meghna: So just to put some rudimentary numbers on it, I have borrowed a share of Alexis Goldstein Corp. and I’m going to pay you a certain amount of interest. I immediately sell it for 100 bucks because I think that actually, sadly, Alexis Goldstein Corp. does not have a bright future. I put a time limit on that bet because that’s what it is, right? It’s a bet. And Alexis Goldstein Corp., by virtue of appearing on On Point, starts tanking. I buy it back for 30 bucks, so I’ve made 70 dollars minus a little bit in the interest that I pay you. That’s a short.

Goldstein: That’s exactly right. And that’s exactly what happens when it goes well. What happens when it goes not so well is, you know, I appear On Point. Everybody loves On Point. My stock shoots through the roof. Now Alexis Corp. is worth 120, 130. It keeps going. And now you or whoever’s borrowed it doesn’t get to just sit around and wait for the stock to go back down. The person who’s loaned you those shares comes knocking at your door and says, ‘I’m worried that you’re going to go bankrupt and I need you to give me some money to make sure that you don’t go bankrupt before you buy this stock back, because I don’t know if I’m going to get my shares back.’ And that’s what people may have heard. The technical term is called a “margin call.”

And so this idea of a short squeeze happens when a lot of people are collectively short a stock. The people who borrowed them that or sorry, loaned them that stock aren’t just going to wait around and hope that it goes back down. They’re going to demand some money. And that’s where the squeeze element comes in. And so you sort of have to decide. Either you have to buy the stock back at a very expensive price and lose a lot of money, or you have to find a way to raise some money. And what that usually means is they have to sell something else. And so that’s why I mean, no one knows for sure right, why the market goes up or down. But the suspicion is on one of these days that GameStop surged so high and so far and so fast, the rest of the market went down, it was because a lot of these hedge funds that were short GameStop had to sell other stocks in order to raise cash, to pay to the people who they had borrowed the stock from.

Meghna: OK, that is so interesting. But the drive for these hedge funds to actually have to sell other stock to cover their position with GameStop came because of this flood of buys from Redditors. And so just to be clear, fact check me. Is it because there was all this recognition that there were major shorts on GameStop and the Redditors were like, nope, we’re going to drive up the price?

Goldstein: Yeah, there was definitely conversation on the subreddit about let’s squeeze the shorts. GameStop was seen as an interesting play because it is one of the more shorted stocks. But I will say, and I don’t have a view into this, but I suspect based on my past experience on Wall Street, that it wasn’t just the folks on Reddit buying GameStop. I suspect that a lot of people on the street were watching this because let’s again, just back up for a second. People on Wall Street guard their positions with ferocity.

They do not want you to know what their positions are, if they can avoid it, because their competitors will take advantage of that and try to trade ahead of them and try to exploit it. They even go so far as to pay a third party called an inch or dealer broker. So that, say, Goldman Sachs and Morgan Stanley can trade together without either party knowing who’s on the other side of the trade. And so they basically pay somebody to anonymize the trade. That’s how important their privacy is. On the flip side of that, they pay a lot of money to try and figure out what other people’s positions are. It’s very interesting to them. That’s what they want to know.

They are very gossipy. I was always very surprised by that, like rumors and gossip, like people think of Wall Street as a very serious place, and I suppose it is. But they love gossip and they love it because they want to know what’s going on. And so when you have tens of thousands of people openly posting on a message board that’s available for free, (A) what they plan to buy (B) how long they plan to hold it and the fact that they hope to hold it forever, you better believe Wall Street is going to look at that and say, how can I trade around that? How can I take advantage of this? It’s a goldmine for them.

Meghna: While at the same time being on NBC saying they shouldn’t be able to do this, the retail investors shouldn’t be able to collude like this and mess with the market. We’re going to come back to that in a second. But oh, so many questions, Alexis. So, by the way, you worked on Wall Street, so you have firsthand experience with this?

Goldstein: I did. So first, I was a computer programmer at Morgan Stanley. I helped build software that we actually gave to hedge funds for free because we wanted them to trade with us. Getting the order flow of hedge funds is such a profitable thing that we literally created software that we gave to them for free. This is going to be relevant when we talk about Robinhood, perhaps later. Robinhood also got paid by a hedge fund for their order flow. Order flow is very, it’s kind of like this is maybe not the best analogy, but before the pandemic in New York City, restaurants often make money or not restaurants, but like storefronts in Manhattan pay very high rents.

But they make a lot of money because they have tons of traffic passing them by. It’s kind of like that. It’s a volume business. If you get a lot of orders that you can execute, you can make a lot of money off of those orders. So first I was at Morgan Stanley, then I went to Merrill Lynch and I was what’s called a business analyst, which you can think of more like a sort of software designer. And I worked in between tech and the traders for what’s called the equity derivatives trading desk. But these were the people trading options and they were trading both options that are traded in the market and available to people on Reddit and just with each other on private exchanges. And so that’s my background.

Meghna: And working in a part of Wall Street that you can tell me I’m wrong but makes money no matter what direction the volatility is going. So we’re going to talk about that in a second too. We’ll take a quick break. And when we come back, I want to hear from you, Alexis, on who the two Goliath’s really are in this story. So hang on for just a second. We’ll be right back. This is On Point.

Meghna: This is On Point. I’m Meghna Chakrabarti. This hour, we’re going under the hood of the GameStop story and trying to understand what it’s really telling us about money, power and the workings of Wall Street. Of course, this has been a huge story all over, but especially in the business media. Here’s Jim Cramer on CNBC’s Mad Money talking about the GameStop stock on January 14th as it began to take off.

CRAMER: “I’m seeing short squeezes all over the place. In many cases, they are actually being orchestrated by motivated young stock buyers who are explicitly trying to crush the shorts, using websites that frankly are a lot of fun, but I think are encouraging people to do something that I hope they continue to make money on. They may not.”

Meghna: I mean, quite frankly, that’s the shorthand version of every warning you get for any trade you ever make, even if it’s just buying a mutual fund through Vanguard. But nevertheless, last week, Fox News correspondent Charles Gasparino said that individual traders making risky investments need to be protected from themselves. Fox business analyst Charles Payne argued that smaller players should be allowed to have a role in the market.

PAYNE: “Who cares about your thesis! Who cares about your thesis! Who are you? Who are you?”

GASPARINO: “Guess what? Not all the money in there are smart people. They are being led astray. It happens every few years.”

PAYNE: “Guess what? People were led astray when they bought GE at 54!”

GASPARINO: “A lot of small investors believed Pets.com was going to be the next Amazon.com.”

Meghna: Alexis Goldstein joins us. She’s senior policy analyst at Americans for Financial Reform and writes the Markets Weekly newsletter. And while, Alexis, I have to say I’ll admit it, I am endlessly entertained by the high testosterone, high decibel coverage that this story or that the business press tends to give stories like this. Let’s take it down a notch and really understand what’s going on here. So let’s put the individual investors aside for a second. You say this is Goliath versus Goliath. So there’s the one Goliath of the hedge funds that shorted GameStop. Who’s the other Goliath?

Goldstein: So there’s really three or four, but the main other Goliath happens to be another hedge fund. That hedge fund is Citadel LLC. It was founded by a guy named Ken Griffin. He’s out of Chicago. He started it, I think, you know, from his dorm room at Harvard. And I think he might have eventually dropped out. But he has built a very powerful, very important company in the financial system. It has three different parts. One is a hedge fund. The other is what is called a market maker, which is someone who sort of sits in the middle and buys and sells and makes money off of volume, which is similar to what we were talking about before the break.

Citadel basically rescued one of the hedge funds that blew up because they were shorting GameStop. So Melvin Capital is one of the hedge funds that blew up because they were short GameStop and they got caught on the wrong side of it and they needed an emergency cash infusion from both Citadel and another fund Point72, which is owned by a different hedge fund guy, Steve Cohen, who I should say people may know. He’s the owner of the New York Mets. He had an old hedge fund called S.A.C., which pled guilty to insider trading in 2013 and had to shut down. But anyway, long story short, some hedge funds are blowing up. Other hedge funds are taking advantage of that.

And in the case of Point72 and Citadel, they have a sort of partial ownership, so to speak, in Melvin Capital for many years into the future. And so I think that they’re sort of profiting off of this. Right. So this is what we think about when we talk about the zero sum game of Wall Street. When someone blows up, somebody else profits. So those are some of the other Goliaths. And then the sort of third Goliath is the big large investment banks that we were talking about before that are going to make money regardless if the market goes up or down.

Meghna: Transactions are their gold there. But like so what does Citadel have to do with Robinhood, which is the place where these retail investors are buying up GameStop, is that right?

Goldstein: That’s right. So Robinhood is free and whenever a product is free, I think you should ask the question, why is it free? I think with Facebook, Facebook is free because we are the product on Facebook. Facebook serves us ads and uses our personal data to try and serve us more customized ads. With Robinhood, the traders on Robinhood are also the product. And what is being sold is Robinhood sells its clients orders to market makers.

So Citadel happens to be, they sell the majority of their clients orders to Citadel. They also sell it to other firms like Two Sigma. But Citadel handles the majority of their flow. And Citadel is again this big, sophisticated player with very high frequency, very high speed trading algorithms. And they can trade ahead of the Robinhood order flow and batch the Robinhood order flow into bigger chunks because the Robin Hood traders are trading very small sizes relative to Wall Street. So Citadel will go buy and sell really, really large chunks, kind of batch up the Robinhood’s orders and match them together. But at the end of the day, how do they make a profit? Citadel buys lower and sells higher as they match the orders.

Meghna: Can I just jump in here? So this is where your knowledge far exceeds mine. So I am absolutely sort of like your retail-level person here. Is this the payment for order flow you were talking about?

Goldstein: That was absolutely right. And the funniest part of this whole story, I think, is Bernie Madoff is actually the person who invented this back in the 1980s.

Meghna: The king of the ponzi schemes?

Goldstein: Yes. He invented this idea of payment for order flow. And before when we were still in the Obama administration, the Securities and Exchange Commission, the SEC for short, actually asked the question, is this a good idea? Should we prohibit payment for order flow? And the reason they ask that question is they were worried that it kind of hides the true cost of trading because it seems free, right? You don’t pay to buy and sell. But what’s not supposed to happen is Robinhood is not supposed to sell the orders to the highest bidder.

They’re not supposed to do that. They’re supposed to give the order to whoever can give their client the best execution. But the SEC found just last month that Robinhood a few years ago was not giving their clients best execution and was costing them actually 34 million dollars all told, even if you account for the fact that their stock transactions were free. So, again, this just all goes back to when you’re not paying for something, you’re usually the product. That seems to be what’s happening here. And I think one of the things we’ll see in the future is people are going to raise questions. Should this thing that Bernie Madoff invented in the 80s, is it really still a good idea? And should we think about maybe maybe changing it or not doing it at all?

Meghna: So is one of your big takeaways then here, is that no matter how thrilling it might be for those retail investors and the general public to watch a simple narrative of a hedge fund being taken down by a short squeeze. I mean, look, it does provide some emotional thrill, especially in a time where inequality is so profound. It’s still the big guys who are winning?

Goldstein: That’s right. And what I think is happening here is to use the casino analogy for simplicity, you have more people hitting the jackpot and the folks on Reddit have found a way to try and make more people hit the jackpot. And right now, more people are hitting the jackpot. But at the end of the day, the house is still going to win. And a casino is not a good way to organize society and make sure we don’t have poverty.

And so I think this is all compounded by the fact that we are in this moment where the United States has, in my opinion, a very failed economic response to the pandemic and, of course, a failed health response. And the media is blowing up this narrative. And what I worry about is people who really cannot afford to invest $300 in GameStop doing so and losing everything whenever the bubble eventually bursts. And I don’t think the solution is more people in the casino and democratize the casino. The answer is, make the house have less power and let’s actually prioritize funding people’s basic human needs as a society and as a government.

Meghna: And also, I think the first step towards that would be to have more people recognize exactly how much power the house has, right? And so to that point, for example, sticking with Robinhood for just a second, there was that moment in time where they said, well, we’re actually going to stop trading. We’re going to stop purchases of GameStop, but you could close out your positions if you wanted. So here’s Robinhood’s Vlad Tenev on CNBC on Thursday, saying that Robinhood limited buying. He pointed over at requirements from the SEC, including capital requirements and clearing house deposit.

Tenev: “So some of these requirements fluctuate quite a bit based on volatility in the markets. And they can be substantial in the current environment where there’s a lot of volatility and a lot of concentrated activity in these names that have been going viral on social media. So we’re really in unprecedented times. And in order to protect the firm and protect our customers, we had to limit buying in these stocks.”

Meghna: First, Alexis, decode that for us.

Goldstein: So brokerages, and by brokerages I mean the Robinhood’s and ETrades and Fidelity’s of the world, participate in what are called clearing houses. Clearing houses are sort of a centralized place where the brokers are all settling their trades with each other. Right. Because all of these trades, they go back and forth between who holds them.

And so you need some centralized body to organize that. And one of the purposes of the clearing house is to make sure that all participants are protected. So if Robinhood blows up, it’s not like that’s going to happen in a vacuum and not impact anybody else. Right. All we need to do is think back to 2008. If Lehman Brothers could have blown up without affecting the rest of the system, like we wouldn’t have had the extent of the crisis that we had. And so the clearinghouse is there to try and mitigate that risk.

And one of the ways that they try to mitigate that risk is by requiring that the individual brokers put up capital and capital is just not debt. Right? Make sure you have some kind of equity. It doesn’t have to be cash. It just has to not be debt, because believe it or not, a lot of both people trading on Robinhood have been trading with borrowed money and brokerages themselves operate with debt. And so this is all to make sure that everybody collectively has some amount of confidence that there isn’t going to be a big bankruptcy that disrupts the system.

What I think I may disagree with the CEO of Robinhood on is I wouldn’t blame regulations for what happened. If anything, I think the regulations should be stricter and the brokerages need to have more capital on hand in case of emergencies like this. And what we saw recently as Robinhood had to go out and raise some cash really fast because they were worried about not being able to provide what the clearing house was asking them for. And that raises questions for me about was Robinhood sort of managing their own business well enough? But that’s what’s going on.

Meghna: So, of course, there is a regulator here in all of this, and that’s the SEC. And I believe it was last week, the SEC released a statement saying that it’s aware of and actively monitoring the ongoing market volatility in the options and equities market. So let’s go now to a former SEC enforcement attorney and federal prosecutor. Jacob Frenkel joins us. He’s now chair of government investigations and securities enforcement for the law firm Dickinson Wright.

Frenkel: Even before you ask your first question I want to compliment you and Alexis on this dialog. I think Alexis’s description of all the market elements was so dead on. I mean, it really was exemplary. So I commend you both.

Meghna: Well, all the commendation goes to Alexis. I’m just here hanging on for dear life. But what is the SEC’s role right now, optimally, Jacob?

Frenkel: Well optimally the SEC has two roles, and they are conjoined, but they’re different. One is as our capital markets regulator. And as such, it needs to understand the true effect of all of this volatility on the capital markets. Because to Alexis’s point, it’s about the sophistication of trading. At the SEC it’s not about protecting the large institutions over the hedge funds, over the short sellers … over the individual investors.

The SEC’s responsibility is investor protection and also to maintain fair and orderly markets. And when you see this kind of volatility, it really does give rise to, are markets about to become irrational? which makes regulation that much more difficult? More importantly, in some respects, going back to where Alexis started the conversation, when you’re looking at a company, you look at a company for its fundamentals.

Do I believe that this is a good company in which to invest? And are we about to enter a nasty world of fundamentals becoming irrelevant? So I think structurally that is something that as a market regulator, the SEC needs to examine, really understand, what went on. But more to my background which was on the enforcement side. The question here is, was there any violation of the federal securities laws?

Meghna: So that’s exactly where I was about to go, because you also mentioned that, you know, the SEC’s overall mandate is to help maintain fair and orderly markets. So are people talking about GameStop on a subreddit and then saying, hey, maybe you should go buy this? Is that some kind of coordination that counts as unfair or illegal movement in the market?

Frenkel: Well, that is one of the questions that the enforcement division would want to answer. And when you have this kind of market activity, it is natural that there would be an investigation. And I think the concept of an investigation often is confused with enforcement. Investigation equates with actual enforcement action. The SEC brings enforcement cases when there is a violation of federal securities laws. What the SEC’s enforcement division staff will look at are basically two or three things.

Alexis pointed out that you had individuals who were using different pseudonyms on different platforms. I mean, the SEC has brought a case before where, you know, people have used different monikers, different pseudonyms for the purpose of driving the price of a stock. And where you were going with your question I believe Meghna, and one of the areas that the SEC will look at is, was there stock manipulation here?

Were individuals trying to drive the price of the stock for the sole purpose of getting others to invest. And using either fake identification, misleading people as to the notion that there are different participants, when in fact it’s a small group? Which then takes us, and by the way, what we’re talking about is what’s called an exchange listed security, there was a stock that’s on the New York Stock Exchange, such as GameStop.

There actually is a specific statute that prevents stock manipulation. In addition to that, when you’re talking about the small cap market where the SEC also brings manipulation cases and is frequently bringing cases where message boards and other Internet media are being used to disseminate, to publish materially false and misleading information to drive the price of the stock. The SEC also has its antifraud provisions, the traditional 10b section, that everybody talks about.

Meghna: Well, so Jacob, I have to take a quick break. So Jacob Frenkel and Alexis Goldstein, stand by. We are really getting under the hood of this GameStop story and trying to understand what it’s truly telling us about money, power and Wall Street. And we’ll have a lot more.

Meghna: This is On Point, I’m Meghna Chakrabarti. … Today, we are talking about the true story or what’s really under the hood of the Reddit phenomenon that’s really taken over the business media and upended Wall Street a little earlier this month. I’m joined today by Alexis Goldstein. She’s senior policy analyst at Americans for Financial Reform and author of the Markets Weekly newsletter. Jacob Frenkel also joins us. He’s a former SEC enforcement attorney and federal prosecutor now with the law firm Dickinson Wright.

And Jacob, there’s something that you said I wanted to go back to and ask you in all seriousness, you said that, for example, one of the concerns that might have been raised by all this social media conversation about GameStop and then the subsequent buys is that, you know, people were using pseudonyms on Reddit.

But what is really the meaningful difference between someone going by DeepF***ingValue on Reddit and a really big investment firm essentially creating shell companies to buy major positions in companies or to, you know, execute major transactions because they don’t actually want people to know or want it to be harder to know who the original investment firm is. Like, what is the difference?

Frenkel: Excellent, excellent question. But I want to make sure I did not misstate or maybe I should further clarify. The use of pseudonyms is not in and of itself illegal. Nor, we also should be clear, the SEC is not going to get into the business of regulating free speech. The issue is if you have one person or one entity that is taking on multiple identities at the same time and creating the appearance of what I would call a bona fide communications chain, when in fact all that is happening is that person, whether an institution or an individual, is talking to himself or herself or others with whom that person or institution is acting in concert, that, you know, can be an element of manipulative activity.

Because the rest of the market is viewing those who are communicating as different parties. The other point that also was about to touch on that I think your question feeds into directly, is there is also a statute that requires beneficial owners of 5% or more of the stock of a public company, you know, to file what is called a schedule 13D, a statement of beneficial ownership. Now, why do I mention that?

Because there is also a concept under that statute, which is a group and if you have an aggregation of persons who are combined in furtherance of a common objective, that constitutes a group under Section 13D. So if you have to use the term, I think it was, you know, a phrase that Alexis used earlier, but collectively investing.

Well, they’re collectively investing and doing so essentially in furtherance of a common objective. And that collection of individuals or entities accounts for 5% or more of the stock of the company, then that could very easily constitute a group under Section 13D. And that in and of itself would be the subject of that SEC investigation that we were talking about.

Meghna: So, Alexis, let me turn back to you, because we’ve got some response on social media here. Edwin Marcial says that ‘short sellers are not inherently evil or good. They serve a place in the market ecosystem. One of the main purposes of trading in markets is to identify the true intrinsic value of a company, et cetera. Short sellers have a role to play in this goal.’ We’ll come back to that point that Edward makes in a second. But then he goes on and he says ‘what we saw with GameStop and the Redditors is a high stakes pyramid scheme. One person alone couldn’t do this. It was collusion akin to a DDoS attack on a Website.’

Goldstein: I’m not sure that I would agree with that entirely. I certainly don’t know that I would call it collusion. I mean, bubbles form in markets for all different reasons. And, yes, I think I take Jacob’s point very seriously. I think there’s a lot of questions about who is actually posting on Reddit. And I’m not sure if this is what Jacob was saying. This is just what I’m saying. Right. But like were there hedge fund people that were using burner accounts, posting on Reddit? Were there people who are registered with FINRA, which is the self-regulatory agency that oversees Wall Street employees posting? I don’t think we know.

But if there were I think hopefully the SEC will look into that. [Was] there one person posting under multiple accounts? I don’t know. But it does seem just like just at the surface level … there are a bunch of people that are invested in this. Is that collusion? I don’t know. I mean, isn’t that just a lot of people deciding that something is a hot stock tip and piling on to it? What I’m more interested in is what’s going on with the bigger players?

What are the bigger players doing? What are the hedge funds doing? And the reason that that’s a difficult question to answer is because hedge funds sort of operate in a regulatory blind spot to some degree. They are not as regulated as the Morgan Stanley’s and Goldman Sachs of the world. They could be in the future. There’s this body called the Financial Stability Oversight Council. It’s kind of like the super friends of banking regulators. They have a roundtable and they can do what’s called designate any financial institution as systemically important and sort of subject them to more regulations.

And I think one of the questions we’re going to see coming out of this is whether certain very large hedge funds should be designated as systemically important. That’s what I’m wondering about when I think about coordination, less so about are a bunch of people getting together and getting excited about a stock tip.

Meghna: So, Jacob, let me ask you this, because it links back to what Alexis just said. And a point she made earlier is the very fact that something like this could happen. I mean, essentially, it was a high speed bubble. We could look at it that way. Is it a sign of a fully functioning market? And if not, then what’s one of the things that you would recommend we change?

Frenkel: Well, the latter part of the question is a difficult one to answer. And I would agree with the premise that the short side of the market is necessary for proper pricing. And I also want to be clear in saying that there is fraud on both sides. There’s fraud on the long side, there’s fraud on the short side. That’s not an endorsement of fraudulent activity.

That’s recognizing who are the appropriate participants to, you know, to ensure that there is fair pricing in the marketplace. In terms of what regulation, if any, is necessary, I think we have to get to a couple of fundamental issues, which is where I think the regulatory side inquiry should be determinative … is this a one-off? Is this a movement? Such that we’re going to see this — I hate to use the word group, because I’m walking right into the Section 13D concept — are those who are of this mindset to drive up underpriced stocks or stocks that are being heavily shorted, are they just going to make their rounds and then start picking on companies?

My concern is this exact same concern that Alexis raised. … And it’s not just the people — Can they afford that 300 dollar stock? Because there is somebody who’s buying that stock at 350 dollars a share. So when it comes back down to 20, they’re not going to be in a position, you know, not only to make money, but the question is, if they bought on margin, have they had a margin call along the way?

It is those investors for whom I fear the most because, you know, this type of momentum, this type of excitement … the new participants in the market, participants in the market who do not have an appreciation for the value of fundamentals, and are just jumping into this momentum.

I think the analogy that I used on CNBC is it’s almost like it’s a runaway roller coaster where you have these safety inspectors who are sitting there watching this thing go and wondering, OK, what do we need to do now? So in terms of regulation, you know, I think we have plenty of regulation.

Does some of it need to be tweaked? Possibly. I don’t think you impose regulations merely because of one incident. You have to understand what enabled what is going on right now to occur. And make a broader assessment. Does anything need to be adjusted to our market structure? And I’ll finish on this point, which is interestingly, about 20 years ago, it seems like we go through 20 year cycles.

Then-chairman Levitt of the SEC appointed an advisory committee to look at market structure. And coincidentally, it was right around 9/11, you know, mid-September of 2001, if I’m remembering correctly, that the advisory committee actually reported about such issues as transparency, consolidating information, alternative models. So we very well could be seeing the need or the timeliness of a similar committee to study structural issues.

Meghna: So, Alexis, Jacob makes the point that in a sense, we have been here before, but in terms of having to take that big picture look at fundamentals in the market. But just quickly pick up that thought. What do you think?

Goldstein: The thing is, a lot of companies don’t look at fundamentals. That’s not how they make their money. That’s sort of what I was trying to talk about earlier. Citadel absolutely is not running its business based on fundamentals. They’re a flow driven business. They make their money off of volume, they make their money off of what we call volatility. And volatility is just when things are going up and down or just up really high or low, really fast. And so, yes, I understand that there’s a lot of investment in the sense of like mental investment.

We’re tied and married to this idea that, like, fundamentals are the way to invest in stocks. But that’s not the way that a lot of market players invest in stocks or trade, I should say, because they’re not sitting and buying and holding. And so I don’t know. I am not so swayed by the ‘let’s make sure we protect people from themselves’ argument, although obviously we should make sure people aren’t scammed.

I still go back to the same point about who are the big players, what were the big players doing. And what I worry about is a repeat of what happened in 2008. Where if you remember, the only bank that was prosecuted for fraud in the wake of the financial crisis was a very small bank out of Chinatown named Abacus. And none of the very, very large banks faced any kind of such charges.

Meghna: You must know the parable of the ox, right.

Goldstein: Remind me.

Meghna: I’m literally going to take us back to 1906, all right. And Francis Galton, the statistician, this is sort of basically the wisdom of crowds theory of markets, right. Because he observed this fair where people were told to guess the weight of an ox. It turns out their average guess was pretty good. Right. So it’s the idea that in a rational, well functioning market, like the value, the inherent value of a thing can be fairly well assessed by how the market behaves.

But then, you know, like you could stretch the parable on and be like, well, but then someone decided to bet that Meghna wouldn’t do a good job in guessing what the weight of the ox was. Right. And so you start stepping further and further away from the primary purpose of the stock market that, you know, all the ways the secondary market is really controlling what Wall Street is. What you were saying about flow order.

I just wonder, do people realize enough how much money, how much activity on Wall Street, how much of our financial system is indeed extremely removed from the fundamentals of the companies whose names, you know, stream by on the ticker?

Goldstein: I think that is a very underappreciated point. I really think, yes, there are absolutely funds that buy on value and read the forms. You know, Warren Buffett is the most famous example. He reads every document that a company puts out. That’s his strategy. But there are a lot of people who don’t pay attention to any of that.

They just look at charts and that’s called technicals trading. There are people that, you know, do what I’ve been talking about, this whole program, which is trade on sort of volume. … There’s so many different strategies and fundamentals is just one. And people like to talk about it because that’s the easiest one for individual people to do.

But I want to make an even bigger point. Which is if we take even a bigger step back from this, how do we save for retirement in this country? Like we are here because of policy decisions, because of Reaganism and, you know, the sort of political movement of neoliberalism which says that the market knows best, which I guess is sort of like the ox story. Right? The crowd knows best.

The market knows best, but who makes up the market and who has power in the market? If I want to invest money and I don’t want to go through Wall Street, I don’t have a way to do that as a person unless I’m rich enough to buy a municipal bond, because policy decisions have had sort of put Wall Street in the middle of everything. Even if you have a pension and you’re lucky enough to have a pension, that pension is invested with Wall Street.

Meghna: Well, some of those pension funds are pretty huge, too, though.

Goldstein: For sure. Absolutely. But what can you do? I guess you can get a savings bond, but that will give you a very tiny rate of return that often doesn’t even catch up with your cost of living. And so we don’t have to build our society that way. And actually, in the New Deal era, we had this giant entity called the Reconstruction Finance Corporation that used all of this public money to invest in public projects.

And there’s a very interesting idea by an academic named Saule Omarova to reinvent that idea. And let’s build a new national investment authority and bring private money into public projects. And that would create a real actual public option for Wall Street. And we just don’t have that right now. And so Wall Street will always be the middleman and they will always be an intermediary.

And it doesn’t have to be that way. But the fact that it is that way means that we’re always sort of missing the point when we’re talking about these things sort of lower down and about, you know, who is making money and who’s losing money. Wall Street, unfortunately … the house always wins.

From The Reading List

The American Prospect: What We’ve Learned From the Robinhood Affair” — “The stock speculation scandal dominating the front pages vividly reveals what critics of extreme financialization have been saying for decades. All of this hyper-trading produces no benefits to the real economy. It creates and then pops financial bubbles, roils markets, harms actual businesses, enriches insiders at the expense of bona fide investors, and leads to extreme concentration of wealth.”

Markets Weekly:What happened with GameStop?” — “In early January, GameStop was trading around $18. By close today, it had reached $364.15. An intense buzz has formed in the stock thanks to discussion on the Reddit forum Wall Street Bets, further enhanced by dominant coverage in the media. At least one hedge fund, Melvin Capital, that was shorting GameStop (betting the price would fall) got utterly crushed.”

Wall Street Journal: GameStop Frenzy Puts Spotlight on Trading Giant Citadel Securities” — “Small investors banding together online to pump up stocks like GameStop Corp. say they are defying Wall Street. But one of the biggest players in global markets stands to benefit from their frenetic trading.”

Motherboard: Robinhood Stops Users From Trading GameStop Stocks, Other Reddit YOLO Picks” — “Robinhood, the fee-free investment app that has helped Redditors and other retail investors pump dark horse stocks like GameStop, AMC, BlackBerry, and Nokia, has stopped allowing users to buy those stocks and other YOLO picks.”

This article was originally published on WBUR.org.

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