The film Dumb Money, based on the true story of the GameStop short squeeze, will soon become available for streaming, and potentially trigger revived interest in the meme stock phenomenon.
In early 2021, millions of people rushed to buy shares of the struggling bricks and mortar retail video game vendor, driving the share price sky high and leaving major hedge funds that had been short-selling GameStop with significant losses.
If you’re not sure what a “short squeeze” or “short selling” is and you’re hazy on the details of the GameStop story, read on to find out more and discover three important lessons that could help your clients make considered investment decisions.
2021: Video game retailer GameStop triggers a speculative investment frenzy
GameStop was a retailer of consoles and games, founded in Texas in 1984. By 2019, it operated more than 6,000 stores globally.
Competition from online sellers and digital downloads of games hit the company hard and by 2017, some investors were predicting the downfall of GameStop.
Hedge funds began to “short sell” shares in the company. This is where one investor pays a small fee to borrow shares from another investor, sells them at the going market rate and buys them back when the price falls. They then return the shares to the lender and keep the profit.
However, discussion forums on Reddit triggered a buying frenzy of options to buy GameStop shares, which effectively doubled their price every day for several weeks.
Between 30 December 2020 and 27 January 2021, figures from Statista show that the value of GameStop shares rose from $4.82 to $86.88.
This “short squeeze”, whereby the price of stock rapidly increases due to the excess of short selling, left major hedge funds and smaller investors out of pocket. When the share price rocketed rather than fell, many short sellers were forced to buy back shares for more than they had sold them for and return them to the original lender, making a loss.
3 investment lessons your clients could learn from the GameStop episode
1. Be wary of speculative investment bubbles
If your client bought GameStop shares in late December 2020 and sold them when shares hit their peak in late January, the value of their shares could potentially have soared more than 1,700%.
Meanwhile, those who were slower on the uptake might have seen the value of their shares plummet soon after purchasing them. For many, this resulted in losses as share values never returned to peak levels.
This provides a salutary lesson for investors regarding speculative bubbles.
A speculative bubble is a sharp increase in prices within a particular asset class triggered by market sentiment and irrational speculative activity – such as the GameStop discussions on Reddit – rather than fundamentals such as profit growth.
As investors rush to buy shares for fear of missing out, prices peak. Eventually, the bubble bursts and share values rapidly return to pre-bubble levels.
Investors who buy and sell at just the right moments could potentially make a lot of money from speculative bubbles. But those who get in too late or remain invested too long may suffer large losses.
Predicting market movements and timing investments with such precision is generally a high-risk strategy that often fails to pay off.
Working with a financial planner could help your client balance the risk in their portfolio in line with their circumstances and overall financial goals.
2. Investing is rarely a get-rich-quick strategy
Investments rarely deliver quick and easy profits and those that do often come with a higher risk of making a loss, as some people discovered after buying and selling GameStop shares at inopportune times.
Instead, taking a long-term view of investments could help your clients set realistic goals and ride out any short-term fluctuations in the market.
Being consistent and remaining patient could reduce anxiety over sudden changes in the value of investments. And seeking professional advice may help your clients build a robust portfolio over time while reducing the temptation to rush into new investments.
3. Avoid making emotionally motivated investments
Many GameStop investors were young gaming fans or other amateur investors who were pushed along by the momentum of online discussion forums and the fear of missing out on the opportunity to make a quick profit.
It can be easy to get caught up in the excitement of the newest investment trend and let emotions guide your decisions.
However, acting on emotion, rather than taking the time to implement measured and strategic financial plans, could potentially lead to risky decision-making that may compromise your client’s long-term goals.
A financial planner could act as an objective sounding board, help your clients explore their investment options and work with them to develop a strategy that suits their current needs and future goals.
Get in touch
If your clients would like to learn more about how to build a robust investment portfolio and avoid common pitfalls, they should email mail@delaunaywealth.com or call us on 0345 505 3500.
Please note
This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.
The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.
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