By Mike Reis, Senior Vice President
The current rodeo of the GameStop bulls versus the hedge fund bears is tearing up any remaining old cobblestones on Wall Street, not to mention the sheer capacity of the stock markets and its mechanisms to be the battlefield for the global struggle. Including many born after the dot-com boom of the 1990s, the bullish small investors driving up the price of GameStop (at one point, more than 14,300%!) through Reddit bulletin boards and Robinhood apps hoped to profit in a solidly traditional way, by betting on the potential of GameStop to transform its old brick-and-mortar self, making the stock trendy enough so its price rose and they could sell higher than they bought.
In equally time-honored fashion, the hedge fund and short-selling bears speculated in stock they didn’t yet own, in the expectation—based on analysis of the prospects—that its market price would fall if not plummet before payment came due. In effect, they borrowed GameStop shares they immediately sold “short” at the market price, pledged to pay later at the different, new market value at the “expiration date” of the deal. Their bearish bet: that when the time came due for them to actually pay for the borrowed stock, i.e., when they had to meet any “call options” or lose at least part of their shirts, the price per share they would owe would have dropped to a point where they could make a tidy profit.
And so as the bull chargers met the bear raiders, this back-and-forth trading pulse began to beat louder and louder once the battle started in earnest. As a CNBC article aptly put it, “by buying the heavily shorted equities or their call options, retail investors have forced investors betting against the stock, known as short-sellers, to cover their positions by buying back shares in an effort to prevent further losses.”[1] And the short-sale buyback is costing the bears north of $5 billion and rising, as the bulls force their hand.
Throughout the ages, artists have imagined the metaphorical bull-versus-bear showdown. On the left, William Holbrook Beard’s classic 1879 painting “The Bulls and Bears in the Market.” On the right—a more recent imagining. Source: New York Historical Society; Twitter
Now, as the war rages on, there is talk about possible casualties. Who will lose the day? The Robinhood-inspired bulls, angry when the popular app suspended trading, elated when a day later it resumed, then miffed again by more tightening? Or the short-selling hedge bears, professionals all, who bet against what Leon Cooperman—the billionaire who for better or worse has come to symbolize them—slammed as “just a way of attacking wealthy people”? Or perhaps the victims are we, the public, worried that such market mayhem will spill over to affect other stocks in the midst of a world pandemic?[2]
The history informing these events is not, as the legendary world historian Arnold Toynbee once quipped, just “one damned thing after another”; a closer look at it offers valuable context as to what the clash means and possibly even some lessons as to what might result. The tale is literally still unfolding on the modern-day virtual equivalents of the ticker tape, but here are three parallels and parables drawn from the fabled past of “The Street”:
Bulls v. Bears Is a Timeless Contest That Periodically Goes Completely Wild
Though the happy bull statue sits at the head of Wall Street and the leading stockbroker of the 1960s boom, Merrill Lynch, was famously “bullish on America,” the picture of eager bulls fighting hedging bears is no new pattern in the financial district[3] and, within bounds, essentially is the core dynamic driving an “orderly” market in any securities, which as J.P. Morgan once observed should mainly “fluctuate” according to facts rooted in the stock and the firm it represents.
Printed on the cover of Puck magazine in March 1882, this cartoon depicts Wall Street at “Jay Gould’s Private Bowling Alley.” It depicts Gould using trickery, false reports, and other devious methods to wreak havoc on the financial markets and system. Source: Library of Congress
The chaotic trouble historically comes when the bulls or bears or both simultaneously become, in the word of former Federal Reserve chair Alan Greenspan, “irrationally exuberant.” Many 19th century crises were caused by unreasoning (sometimes deviously so) bulls; the Panics of 1819, 1857, and 1873 were partially rooted in the collapse of dubiously-backed state currencies (1819) and over-speculation in chancy railroad ventures (1857, 1873), while the disreputable Gould and Fisk, in a staged but convincing bullish foray, set out in 1869 to corner the gold market, driving up the price to unrealistic levels then engineering a disastrous selloff. More recently, massive bull overinvestment in undercapitalized dot-coms and leveraged mortgage derivatives, countered by a woefully small growling of bears, prompted the 2000 end of the dotcom bubble and the even-more catastrophic 2008 market crash
By contrast, some 20th and 21st-century debacles featured bull charges and bear raids which got dramatically out of hand. In 1901, echoing Jay Gould’s gold “corner” of 1869, a spreading fight between bulls and bears in Northern Pacific Railway shares spurred short sales of many other stocks, engulfing them in fiscal mayhem. Similarly, the Panic of 1907 can in part be traced to the “short squeeze” devised by Otto and Augustus Heinze of United Copper Company, to “buy in” as many shares of their own firm’s stock as possible, forcing strapped bears in the artificially rising market to find money to pay the Heinze price for the shares in which the sellers had speculated. Most notably, the vast chaos of the late 1920s and early 1930s, reflected by the Crash of 1929 and the Great Depression, was driven by pools of eager bulls, pushing new issuances such as auto and airplane stocks, who failed to meet “margin calls” (duty to carry enough funds in their trading accounts to cover losses) once things began unraveling.
The concept of “margin calls,” interestingly, is also a factor emerging at the present rodeo, where a little-known Wall Street-sponsored “clearinghouse,” called the Depository Trust & Clearing Corporation (DTCC), plays street cop over margins and forced a reeling and possibly fearful Robinhood to quickly raise more funds to build up the total cushion.[4]
Bull-and-Bear Spectacles Bring in Throngs of Newcomers Who Can Change the Game
While the GameStop bulls include some professional investors who can easily muster five-figure opening stakes, many of the charging bullish are pandemic-quarantined, less affluent millennials who recently encountered Wall Street for the first time through Robinhood, Reddit’s WallStreetBets, and other small or “retail” investor apps. Social media makes personal trading easy and even fun, but also broadens financial literacy and the capability to collectively strike a damaging blow to hedge funds, seen as bearish, conservative, establishment elitists. Some analysts believe that the new bulls are “idiosyncratic” newcomers with no longer-term impacts, but others increasingly wonder if this development—especially as it goes global beyond GameStop into multiple stocks the newly-sourced crowd views as undervalued—might transform The Street and indeed exchanges around the world.
This 1950s New York Stock Exchange advertisement urges Americans to invest in the stock market to “meet emergencies” and “increase their income.” Source: NYSE via eBay
If history is any judge, there is good reason to believe that such a transformation may be in the offing. The rapid influx of new money into stock trading is not a new phenomenon in the checkered history of the market and typically has lasting and far-reaching effects. In the 1920s, active brokerage house stock promotions via newspapers and radio, coupled with best-selling tracts such as The Man Nobody Knows—ad man Bruce Barton’s 1925 portrait of Jesus as a canny businessman—made wealth creation through securities trading a worthy aim and enlisted millions of average-John-and-Jane Qs as public first-time investors. Though the market crashed in 1929 and the Depression ensued, the broadening of public, small investor participation in what had once been perceived as a rich man’s game brought in serious market regulation and governmental oversight. Symbolized by Wall Street’s 1950s “Own Your Share of American Business” ad blitz, it also picked up speed throughout the 20th century, driving the spread of local broker’s offices, mutual and pension funds investing “the peoples’ money,” and ultimately the rise of the “self-directed” trader using TD Ameritrade and other platforms.
But in many ways, as the Occupy Wall Street activists of 2008-2010 found to their dismay, Wall Street’s transformation in the modern era has been one of enthusiastic encouragement of greater stock market participation, set against a continuing, even stubborn pattern of fairly closely-held exchange leadership and rulemaking. The jury is still out but the current events swirling around GameStop and the new outreach to small investors may potentially change that too.
The Federal Government is Always an Involved and Interested Party When Market Chaos Erupts
Whatever the long-range impacts of the GameStop bull-and-bear struggle, a sure historical truth is that the U.S. Government, represented by Congress and the U.S. Securities and Exchange Commission (SEC), will be involved and interested in shaping those impacts. The SEC has already announced that it is “reviewing recent trading volatility” and working “to ensure that regulated entities uphold their obligations to protect investors and to identify and pursue potential wrongdoing.” Meanwhile, the unlikely duo of Representative Alexandra Ocasio-Cortez and Senator Ted Cruz have cried foul over Reddit’s and Robinhood’s decisions to suspend or limit small investor’s trades, while Senator Elizabeth Warren and Representative Maxine Waters are calling for Congressional hearings where both the bulls and the bears in the current drama may be uneasily squeezing into the shared witness chair.[5]
Despite the recent spike in the value of its stock, GameStop remains in perilous financial straits. In 2020, the retailer reported sales 30% lower than the previous year, despite a boom in the broader industry as video gamers ride out the pandemic at home. Source: Wikimedia Commons
Interestingly, this particular history lesson hasn’t always been in the textbook. Prior to the 1930s, Wall Street staunchly resisted government intervention and remained proudly “self-regulating,” led by such notables as the Morgan Bank’s “pet broker” and NYSE president Richard Whitney (later convicted of fraud and sent to Sing Sing). The Great Crash of 1929, affecting as noted average citizen investors by the millions, changed all that forever. The SEC as the chief regulator of the stock market was born as a strong Depression baby out of serious investigative hearings and quickly grew to require public “blue sky” registration of exchanges and new stock issuances, disclosing perceived risks to any investor. Reacting to the inevitability of federal regulation, the NYSE and securities dealer groups maintained their self-regulating independence by enacting stricter trading standards, a process culminating in the 2007 creation of the Financial Industry Regulatory Authority (FINRA) and its later partnership with the SEC to prevent another crash like the Great Recession of 2008.[6]
But are specific historical precedents and powers likely to be front-of-mind for government regulators as they confront and try to understand and control what has happened? The short answer is a resounding “yes.” Such handy tools could include:
Anti-Manipulation Moves. Flowing from the 1934 “origin act” of the SEC, the agency keeps a weather eye on and periodically enforces rules against “manipulation” of security prices to create “a false and misleading appearance of active trading in any security.” A likely focus of investigation will be deciding if manipulation was involved in the remarkable, bullish volume of crowd-funded investing in GameStop, which many bears saw as a stock on the downslide after the video game seller closed 783 stores in recent years—a figure which may reach 1,000 by this April 2021. The whipsawing trading rules of Robinhood and other retail brokerage apps may also be scrutinized as potential manipulation, along with the “order flow” deals these firms made with “market makers” such as Citadel Securities led by Ken Griffin, another outspoken billionaire target of the GameStop bulls.
Predatory Conduct Sanctions and the Uptick Rule. The bulls may be in for a Congressional and SEC grilling, but the bears will not get off scot-free and may come in for examination under predatory conduct provisions and the uptick rule. On the table may be alleged predatory brokerage actions to favor the bearish. So far, the SEC has announced that it will look into actions taken by brokerages that may “unduly inhibit…ability to trade certain securities.” It will also move “to protect retail investors when the facts demonstrate abusive or manipulative trading activity.” The uptick rule may likewise come into play. The rule—originally proposed in 1934, implemented by the SEC in 1938, and then replaced with an alternative in 2010—prevents bears from deliberately accelerating a drop in securities already in decline. Since the prequel to the GameStop frenzy was a notable push by the bears to sell off the stock, investigators may ask whether aggressive bear actions essentially catalyzed large numbers of bulls into justifiable retaliation.
Rule 21(a) Report Issuance. Highly likely is that, at a minimum, the SEC will issue a so-called “Rule 21(a)” report detailing the circumstances of the GameStop battle and making recommendations for new rules and potentially legislation. The Act of 1934 mandated broad powers for the agency to sanction bad conduct but also to offer guidance to market officials and steer public and legislative action via its Rule 21(a) report-making powers. Stricter oversight by the in-house Street watchdog FINRA and the Street’s “margin” cop DTCC may also be coming under SEC and Congressional pressure.
Use of Emergency Powers. Lastly, if the bulls-and-bears battle seriously begins sucking in a broader array of stocks, dangerously swinging or depressing the market, the SEC could invoke its emergency intervention powers under the 1934 act, the 1990 Market Reform Act, and others, to maintain or restore a “fair and orderly” market and to ensure “prompt and accurate” clearance of transactions. The SEC flexed these muscles after the major disruption of 9/11; it also moved to temporarily end short sales during the 2008 Crash and has intervened over its near-90-year history to block issuance and trading of hazardously risky or undercapitalized stocks.
No matter what transpires at the GameStop rodeo, however, one more lesson from back in the day is blindingly clear: the bears-baiting-bulls show will go on, even if in different guises to come. As the 17th-century trader Joseph de la Vega sagely opined of the historic Amsterdam exchange, of which he had only-too-rueful knowledge:
“Profit in the share market is goblin treasure: at one moment, it is carbuncles, the next it is coal; one moment diamonds, and the next pebbles. Sometimes, they are the tears that Aurora leaves on the sweet morning’s grass, at other times, they are just tears.”[7]
[1] Thomas Franck, “SEC Reviewing Volatility Amid GameStop Frenzy, Vows to Protect Retail Investors” at https://www.cnbc.com/2021/01/29/sec-reviewing-recent-trading-volatility-amid-GameStop-frenzy-vows-to-protect-retail-investors.html
[2] Recent useful stories on the rodeo include Ian Sherr, “AMC, GameStop Stock Go Wild: Reddit’s ‘Insane’ ‘Train wreck” ‘Ponzi Scheme’” at https://www.cnet.com/news/amc-GameStop-stock-swings-reddits-insane-campaign-becoming-a-train-wreck/, Thomas Franck, “SEC Reviewing Volatility Amid GameStop Frenzy, Vows to Protect Retail Investors” at https://www.cnbc.com/2021/01/29/sec-reviewing-recent-trading-volatility-amid-GameStop-frenzy-vows-to-protect-retail-investors.html, Stan Choe et. al., “GameStop Soars Again: Wall Street Bends Under The Pressure”at https://apnews.com/article/gamestop-amc-stocks-soar-reddit-7f9b08bd494512dd8610daf55705d250, and Hamza Sharan and Hannah Denham, “What To Know About GameStop’s Stock Chaos,” Washington Post, Jan. 31, 2021.
[3] For further reading on the timeless and engaging battles of bulls and bears, the books of the legendary John Brooks, longtime New Yorker “Annals of Finance” author, are superbly enjoyable and without parallel; see especially Once in Golconda; on the Roaring Twenties and the Great Crash and its aftermath; The Go-Go Years, on the 1960’s bull market; and the collection Business Adventures, covering many epic campaigns and battles.
[4] An instructive explanation of the DTCC’s quiet but critical role is Nathaniel Popper et. al., “Wall St. Chaos Brings a Rebel Back to Earth,” New York Times, Jan. 31, 2021.
[5] On investigative and regulatory prospects, see Zachary Warmbrodt et. al., “Wall Street Faces Washington Crackdown After GameStop Rollercoaster” at https://www.politico.com/news/2021/01/29/wall-street-washington-crackdown-gamestop-463935 and Chris Prentice and Pete Schroeder, “Explainer: Why Regulators May Scrutinize GameStop’s Reddit-driven Retail Stock Surge” at https://www.reuters.com/article/GameStop-regulator/explainer-why-regulators-may-scrutinize-GameStops-reddit-driven-retail-stock-surge-idUSL4N2K246P, Melanie Waddell, “SEC Likely to Prove GameStop Trading Surge But What Will It Find?’ at https://www.thinkadvisor.com/2021/01/27/sec-likely-to-probe-GameStop-trading-surge-but-what-will-it-find/, Kollen Post, “SEC Is Looking Into Robinhood’s Handling of GameStop Trading” at https://cointelegraph.com/news/sec-is-looking-into-robinhood-s-handling-of-GameStop-trading, Alexandra Svokos and Catherine Thorbecke, “SEC Closely Monitoring Price Volatility of Certain Stocks in Wale of GameStop Saga” at https://abcnews.go.com/Business/sec-closely-monitoring-price-volatility-stocks-wake-GameStop/story?id=75564127, and https://www.investopedia.com/terms/u/uptickrule.asp.
[6] For a basic timeline of SEC history, see the SEC Historical Society’s Web site at http://www.sechistorical.org/museum/timeline/1930-timeline.php. The Securities and Exchange Act of 1934 in full is at http://3197d6d14b5f19f2f440-5e13d29c4c016cf96cbbfd197c579b45.r81.cf1.rackcdn.com/collection/papers/1930/1934_06_06_Securities_Exchan.pdf. The Society has also posted all key SEC acts and numerous other important and illuminating historical docments about regulation and the stock market at http://www.sechistorical.org/museum/papers/
[7] De La Vega’s wry and insightful 1688 treatise, Confusion of Confusions, may be found at: https://www.gwern.net/docs/economics/1688-delavega-confusionofconfusions.pdf.
