The Breakdown - WallStreetBets Is Occupy Wall Street With Teeth

Episode Date: January 29, 2021

This week, a collective of foul-mouthed internet memers took down some of Wall Street’s best-known hedge funds. In today’s episode, NLW looks at: The historical context of how the Great Financial Crisis set the stage for WallStreetBets How WSB gained infamy during the COVID-19 crisis by correctly predicting the market’s rebound while other investors remained bearish  Why WSB started going after short-sellers, particularly around GameStop (GME) How WSB forced a short squeeze that required Melvin Capital to call in nearly $3B of emergency capital  Why Robinhood forcing users to stop buying GameStop and other related assets will go down as an inflection point in the history of capital markets -- Earn up to 12% APY on Bitcoin, Ethereum, USD, EUR, GBP, Stablecoins & more. Get started at nexo.io -- Enjoying this content? SUBSCRIBE to the Podcast Apple: https://podcasts.apple.com/podcast/id1438693620?at=1000lSDb Spotify: https://open.spotify.com/show/538vuul1PuorUDwgkC8JWF?si=ddSvD-HST2e_E7wgxcjtfQ Google: https://podcasts.google.com/feed/aHR0cHM6Ly9ubHdjcnlwdG8ubGlic3luLmNvbS9yc3M= Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW The Breakdown is produced and distributed by CoinDesk.com

One of the standard responses of those in power has been to point to the stock market as a rejoinder. Stocks are going up, therefore the economy is good. Never mind that houses, college, and basically everything else that you would want to buy to get a better life and a better place in society, are getting more expensive. When the powers that be kept telling people that stocks going up means the economy is doing well, is it any wonder that people started to use stocks to try to get ahead? Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. The breakdown is sponsored by nexo.io and produced and distributed by CoinDesk. What's going on, guys? It is Thursday, January 28th, and today you know we're talking about Wall Street bets.

In the year that I've been doing this show, I don't think there has. ever been one as important as today's. I know for a fact that I won't be able to cover every dimension of this story on this podcast alone, and I would say it's a pretty safe bet that this is going to spill into tomorrow's and probably Saturday's show as well. The mission of this show today is to convince you that this is not a story about the specific valuation of some stock or even set of stocks. It isn't even only a story about market strategies between naked short selling and short squeezes, nor is it solely about the bigger narrative of retail versus institutional investors. This is a story about power. In other words, who has the power to shape the economies that

shape our lives and how people are trying to take some of that power back? This is a story about aspiration, about people wanting something more than survival and feeling increasingly desperate to get it. This is a story about structural fault lines, about the inevitable consequences of decisions that were made more than a decade ago and shape everything about the economy around us. This is a story about frustration, cynicism, nihilism. It's a story about a certain desperation that has led to decisions that might seem crazy feeling perfectly rational in people's minds. And perhaps it is a story about rebirth. There is a massive, massive competition right now. now to define what this story is about. And the reason I'm so invested in it is that I believe it's

going to go exactly one of two ways. It is either going to be written off the way that mainstream financial media has been trying to write it off so far. Degenerates, 4chan, alt-right, crazy lunatics, a few bad apples, market manipulators, patronizing retail going to be hurt, a blip that will ultimately be forgotten. Or even better to the existing power establishment regulated away. Or this is actually going to cause real reflection in how we have designed our markets, who gets to participate and in what ways. I believe that it could be a moment for equity and realignment, and I want that to be the case. So the TLDR is that I'm trying to convince you of the truth of my tweet from last night when I said there are exactly two types of people on Twitter right

now. Those that are absolutely convinced that this is an insanely significant cultural turning point moment, and people who don't understand yet that this is an insanely significant cultural turning point moment. Now, one quick note, how does this connect to Bitcoin crypto decentralized finance decentralization in general? This will not be a buy-bitcoin show, although honestly I don't know how you could be paying attention and not want to, nor am I necessarily going to go overly deep into specific analogs. However, there are two clear ways that they are that they're going to there is a connection to me. The first is in the Genesis. There is such a clear origin in the great financial crisis of 2008, the decade of low interest rates, and all of the attendant

consequences that it's impossible to ignore. The second connection point is the way out of it. I'm recording this as two things are happening simultaneously. Every stock trading app out there is taking away the ability for people to trade certain stocks, obviously the ones we'll be discussing today, while FTX and Bitrex are listing tokenized versions of these stocks with 24-7 trading. Everyone from Bitcoiners to Ethereum's to those in between have pointed out that this is exactly why decentralized financial systems need to exist. I wanted to get that out of the way so we can just focus on the show at hand. So let's talk about what's actually going on. It's me, so you know I'm going to start with a little historical context. As I mentioned, the origin of this

story is in 2008. There are copious amounts of discussion on the economic fallout and second order effects of permanently low interest rates. On this show, we've talked frequently about zombie companies for example. Companies that not just can't afford to pay their debt, but can't even afford to service their debt. These are companies that would crumble if interest rates raised even a little bit. The part that is more relevant for this discussion, however, has to do with the emotional fallout and economic dislocation of regular people. So first, the emotional fallout. There was a massive national psychological impact of seeing bankers and institutional investors who brought the economy to the brink of collapse bailed out with a massive.

effectively no consequences, while at the same time people all around everyone else were losing their houses, losing their livelihoods, losing their futures. This is the sort of lingering scar that has long-term consequences. We saw, of course, some direct response. There was Occupy Wall Street, a more or less harmless protest that, while getting on the national agenda, certainly didn't do anything to actually change the system. In fact, OWS is exactly the type of protests that power likes, almost entirely symbolic and toothless. A more pertinent reaction, however, has been the rise of populism on both the left and the right. This is, again, extremely well-covered territory, but is extraordinarily important to the story. There is a feeling

widely shared on both sides of the political aisle that the economy does not work for the average person. Different parties have different explanations for why and different solutions to it, but the sentiment underlying is the same. One of the standard responses of those in power has been to point to the stock market as a rejoinder. Stocks are going up, therefore the economy is good. Never mind that houses, college, and basically everything else that you would want to buy to get a better life and a better place in society, are getting more expensive. In other words, loading you up with more debt just to keep up.

When the powers that be kept telling people that stocks going up means the economy is doing well, Is it any wonder that people started to use stocks to try to get ahead? Let's fast forward now for the sake of brevity to 2020. COVID-19 starts to come into the fore and we have a massive market crash. All the institutional investors are screaming that this is a catastrophic move. The economy can't open. It's going to be bad for a hugely long period of time. No one has any idea how things are going to play out, etc., etc., etc., etc.

However, there is a different group of market participants who have a different take. In 2019, a new generation of stock trading apps eliminated brokerage fees, making stock investing cheaper and more accessible than ever. They also started to offer easier tools for basic derivatives trading, like futures. Unsurprisingly, groups of people got together to start talking about their picks. The Reddit subreddit R-Slas Wall Street Betts was born. Like every internet community, this was meme-fueled, tended not to be politically correct, and had its share of wild characters. What was different is that these folks were going deep. In February, just before the market crash, Wall Street Betts actually got a cover story in Bloomberg Business Week. Here's how that story started.

In a dingy corner of the internet is a message board, soaked in profanity, bro-speak and greed, where posters with handles such as overthrow your masters and Yolotron campaign for their favorite stocks, putting up screenshots from their online brokerage accounts of their moonshot victories, or showing off their massive losses like badges of honor. Some of them think they've found the key to fast wins on the stock market. Wall Street doubts they're right, but it's getting nervous about what it sees there. Now, the key point of this story wasn't just a bunch of jackals aping into stocks. It was about their strategies designed to turn the mainstream market on itself. Here's another quote. Members of R-slash-W-SB believe they've discovered a kind of perpetual motion machine in the interplay of stocks with

options contracts, which offer a cheap way to bet on whether shares will rise or fall without buying the stock itself. It goes like this. Members make bets that rely on market makers, the professional middlemen who sell you a call, a bet on shares rising, or a put, a wager on a decline. Market makers, like good bookies, don't want to go out on a limb. When taking a bet, they lay off the risk. If someone buys a call, for instance, speculating on a rally, the dealer buys stock in the underlying company. If the stock rises, the dealer may have to pay out on the option, but that's offset, but the gain on the shares. When shares keep rising, managing the hedge entails buying more stock. That's where the Reddit set perceives a weakness. A favorite tactic on Wall Street

bets is to swamp the market with call purchases early in the morning in an attempt to force dealers to keep buying stock. Up and up everything goes, supposedly. As the stock price rises, so do the value of the calls often by far more. In this worldview, the only constraint on success is the force of one's own conviction and willingness to act upon it. To me, this is a key part of our discussion. One of the modus operandi for WSB has been figure out the game being played by traditional Wall Street and then turn that game on itself. We get to the COVID crash and all of these hedge fund guys are going on TV talking about

how bad it's going to be for how long and the WSB crowd has a totally different take. Their take is, are you kidding? You know Jay Powell is going to pump so much money into this thing that there's no way that it can stay down for long. Now, it would have been one thing if this group, in their opinion, stayed in their little internet corner. But they quickly met a new Pied Piper in Dave Portnoy. Portnoy is the founder of Barstool Sports, which was itself an insurgent media company that transformed the sports media landscape. When sports shut down, he decided to try his hand at stock picking and started Davey Day Trader Global Global. Yes, that's two globals, where he would live stream for hours and hours at a time just discussing the markets.

He started as you might expect in a post-COVID period, making some bets against stocks that he thought would do bad in the context of these shutdowns, and quickly got crushed. It took him a few days, but he came out and may occult and basically explained what he'd learned, that the Fed will not let stock prices go down, that they'll print as many shrewd bucks as he put it as it takes to keep the markets going up. Overnight, WSB and the energy they were bringing had someone who is taking the finance media world by storm, because media is a key part of this. A central accusation against the current WSB movement is that they're manipulating stocks. Their counterpoint is that it's literally every person that CNBC puts on their show to talk about their position who is manipulating stocks.

Now, at the time in 2020, there was a ton of pearl clutching about the fact that these retail bozos were going to get hurt and that stocks don't always go up and that ultimately they'd be disillusioned with the markets and the economy. What that pearl clutching didn't get is that disillusionment was not an outcome but the preconditioned for their type of participation. It was the thing that got them in in the first place. Looking for the best way to stay on top of your investment game? Nexo.io has you covered in three easy steps with their high-yield savings account for digital assets. Step one, create an account at nexo.io. Step two, transfer assets to your secure nexo wallet with no minimum or maximum limits on funds deposited.

Step three, sit back, relax, and earn up to 12% compounding interest paid out daily on your crypto and fiat. Your passive income made simple. Get started at nexo.io. We're skipping over a lot now, but let's jump ahead again to the last few weeks. The WSB crowd has increasingly set its sights on short sellers. Short sellers basically take out positions against companies by betting their stock will be cheaper in the future. They use massive amounts of leverage, which often leads to a scenario in which short interest can be larger than the percentage of shares that are outstanding and available.

Last Friday, for example, Gabe Plotkin and his Melvin Capital Management had a short interest of 102% of outstanding shares on GameStop, the offline gaming retailer. Now, keep in mind, this is a guy who is publicly predicting the failure of this company. It makes one wonder where manipulation lies if you're allowed to short the hell out of a company and then leverage your brand and media connections to go on a self-fulfilling prophecy tour. Anyway, Wall Street Betts has a longstanding interest in GameStop led by user deep fucking value. Months ago, they analyzed and determined that GameStop was significantly undervalued, and from there, they started to look for hedge funds whose strategies were based on shorting it. Here's the play. It's actually pretty simple.

buy an absolute ton of game stop at low prices, then more as it goes up than even more. In so doing, they force what's called a short squeeze. Short sellers at some point have to actually buy shares of the company they're shorting to close their position. If they do this when the price is higher than they're short, they lock in their losses. When a stock rips up suddenly, short sellers are forced to scramble and buy some, at least, in case it keeps going up, because if they didn't, they could incur even more losses. This buying then creates more upward pressure, hence the short squeeze. But here's the nutty thing.

When I say this firm was short a 102%, that means they shorted more shares than actually exist. That means they can't buy enough to cover their position. What's more, buying is only half of the Wall Street bets crowds play. The other half is holding. Holding, put differently, means denying short sellers' supply to cut. cover their shorts, meaning that each stock they can buy is more because the Wall Street Betts holders have introduced more scarcity. Now that I've explained this mechanism, and before I forget to mention this, I'd like you to just keep in mind a question, which do you find the more

inappropriate behavior? A firm that can short a company so aggressively that there is a larger short position than the actual stock available and then go on media tours to explain why they're correct about their short position, or a set of internet people talking together on an online forum who decided that they're wrong and to take the other side of the trade. Right or wrong, this week and why we're talking about this now is because in this case, the Wall Street Betts folks won. As I mentioned, Melvin Capital had a 102% short position on Friday. This week, they got squeezed so hard by Wall Street bets that Melvin Capital's billionaire back had to send it a $2.75 billion lifeline just to stay solvent and get out of its game-stop position,

which it subsequently did. In other words, Wall Street Betts completely tanked a hedge fund by beating them at their own game. This got huge attention from the media. Most of it has come down to one of two narratives. First, this is market manipulation. As I mentioned before, this rings pretty hollow to me, given that these guys are just doing out loud, in public, and with massively more transparency exactly what Wall Street investors have done forever at idea dinners and private gatherings and the like. The second narrative is this is all fun in games, but someone's going to get hurt. Now, I will absolutely admit there are some insane stories of people going all in on these strategies, risking their kids' college funds, their rent money, and in no way am I arguing for that.

In fact, I'm not even arguing this for any of these strategies. But at the same time, this is unbelievably patronizing, and even if it weren't, which it is, there is no path from that assessment that doesn't lead to either, one, stopping people from expressing their beliefs by shutting down the forums where they speak, or two, saying that they're not allowed to play in the markets because they're not sophisticated enough, effectively further entrenching the gap between the rich and the poor and cutting off yet another path between the two. When the media came hard, Wall Street Betts bit back. Here's a telling example. On Wednesday, user Radio 218 posted to Wall Street Betts an open letter to CNBC.

Before you spend another day hosting your shill hedge fund buddies to come on the air and demonize Wall Street bets, I hope you read this. Your contempt for the retail investor, your audience, is palpable. And if you don't get it together, you'll lose an entire new generation of investors. I keep thinking about the funds that are short GME like your boys at Melvin Capital and your coverage of this subreddit and I'm getting matter and matter. These funds can manipulate the market via your network. And if they screw up big because they don't even know the basics of portfolio risk 101 and using position sizing,

they just get a bailout from their billionaire friends at Citadel. Then they have the nerve to turn us into public enemy number one just because we believe in an underdog company getting a second chance. We don't have billionaires to bail us out when we mess up our portfolio risk and a position goes against us. We can't go on TV and make attempts to manipulate millions to take our side of the trade. If we mess up as bad as they did, we're wiped out. Have to start from scratch and are back to giving hand jobs behind the dumpster at Wendy's.

Seriously. Mother fuck these people. I sincerely hope they suffer. want to see the loss porn. Now, if you're getting a sense that there is serious emotional height behind this and that it may be bigger than a stock, you are absolutely right. Let's turn to a meme form that really expresses that as well. One massive post on Reddit was a redubbing of the scene from Joker where the Joker is on a TV program talking to someone who, in the meme, is playing the talk show host role of Jim Kramer. When the Kramer financial host character asks him why he

made bad financial decisions, to bet all his money on a crazy stock pick, The Joker, in this case playing the role of Wall Street bets, says, Listen, you fucking boomer. I yolowed my life savings because I was never going to retire anyway. Half the people I know live from paycheck to paycheck, like millennials ever had a future to begin with. You look down on me for gambling on whatever ticker is trending, but if J.P. Morgan told you to buy these same stocks,

you would be all over the shit with your free helicopter money. This is, in other words, for this community and for all of the people that you're seeing on Twitter supporting them, intensely personal. However, there have been some folks that sit in a more traditional chair, at least partially traditional chair, who have come out in support. Let's listen to Chimath, Palahapatia, who spent a half hour on CNBC arguing about this with host Scott Wapner. I think that what you're seeing is essentially a pushback against the establishment in a really important way. You have a lot of people, and I would encourage anybody who is dismissive of this thing

to go into Wall Street bets and actually just read the forums. And I think that you're going to see three kinds of posts. The first kind of content are a lot of people doing some incredible fundamental diligence on companies trying to think about long-term value. And in my opinion, many of them are doing as good and frankly a better job than a lot of hedge fund analysts that I work with. That's number one. The second are a lot of people who believe that, you know, coming out of 2008, what has a lot of happened was Wall Street took an enormous amount of risk, and they left retail as the bagholder.

And a lot of these kids were in grade school and high school when that happened. They lost their homes. Their parents lost their jobs. And they've always wondered, like, why did those folks get bailed out for taking enormous amounts of risk, and nobody helped and showed up to help my family? And then the third thing is a realization that instead of having idea dinners or quiet, whispered conversations amongst hedge funds in the Hamptons, these kids have the courage to do it transparently in a forum. And I'm not saying all of it is perfect by any means. But I think it takes an enormous amount of faith in the system to be that transparent to talk about things, and then for each individual to make their own mind up and to do things, whether it's to buy and to

sell. And I think that what it proves is this retail phenomenon is here to stay. There are 2.7 million people inside of Wall Street bets. I think that they are as important as any hedge fund or collection of hedge funds. And I think the most important thing is that in a world of zero interest rates and quantitative easing, I don't know how you can run a typical hedge fund strategy and make money anymore because, for example, when you looked at GameStop, you know, a normal person would say, how can you have 136% short interest? How can you be short, 40% more? shares that actually exist in the world. To a normal person, that doesn't make any sense. But to a Wall Street mathematician, that's the game that has been played for years. And that game

came undone. But if, as Chimoth said, this was a pushback against the establishment, that type of threat to power rarely goes unanswered. Which brings us to the Thursday part of the story. Yesterday, one of the most insane things that anyone saw was the CEO of Nasdaq saying on CNBC that we might need to pause trading to let large players recalibrate their positions, which if that doesn't make your blood boil, honestly, how do you like my show? Also late yesterday, some of the more stodgy old firms started to try to deny access to stocks like GameStop and AMC that were on the Wall Street Bet's radar. But then this morning, the Rubicon was truly breached. Robin Hood, the app that had been such a key part of this movement, an app that

says investing for all in its app store title description, suspended trading of not only GameStop, but all the other assets that had come to be a part of this. Or rather, they allowed people to sell, but not to buy more. This is insane. The internet absolutely flipped the hell out and with cause. Dave Portnoy in particular has just about lost his ever-loving mind. Here's just one sample tweet of about a thousand from this morning. Someone is going to have to explain to me, In what world, Robin Hood, and others literally trying to force a crash by closing the open market is fair? They should all be in jail.

Here's another example clip from his Twitter today that gets into the ramifications of this as well. Unbelievable. This is unbelievable. I'm just going to text from a soldier. Literally, ex-athlete soldiers like all the soldiers are losing their money. They invested in this and the rich people are just taking. These are people who put their pensions and they're like soldier.

salaries, military people into these stocks, only to have it ripped away by Robin Hood. And this is, people I don't think are getting what is happening. Rich people are literally openly stealing from the poor right now, openly being like, nope, we don't like the fact that this, that even though we've made billions and lived in mansions all over the fucking world and be the richest people ever at your expense, we don't like the fact you've had two to three days of success, and we're just going to change the rules. It is nuts, nuts, nuts. What are we talking about here?

What we are seeing is the true reality of the stock market laid bare. It is designed to make richer the already rich to protect the interests of the institution over the individual. And as if we need more on this, you have on the one hand, Citadel, helping bail out Melvin Capital. And on the other, surprise, surprise, Citadel is the company that buys all the data about what Robin Hood traders are going to do. They are Robin Hood's money spigot. Is it any surprise that they put pressure on Robin Hood to turn it off? For the first time in modern memory, a group of individuals figured out a way to turn Wall Street's weapons against itself for a matter of a couple days, and Wall Street completely rewrote the rules of the market to shut it off.

There is so much more to discuss, but I have to wrap today's edition of this here just so I can catch my breath and figure out what else I need to cover. But I want to briefly summarize how many parts of the story there are for us to keep discussing. First, as I hope I've made clear, this is not particularly about GameStop or any other one company. Second, it is in part about changes in retail sophistication and information asymmetry. We live in a world where people have. the ability to go out and find all of the same information that hedge funds used to, and that's going to change the nature and the shape of markets. It's about questions of who adjudicates what

are and aren't legitimate strategies. In the rest of that interview with Chamath, the host Scott from CNBC kept insisting that this wasn't about fundamentals, as though all market decisions were just about fundamentals. This is about hypocrisy, about Wall Street getting bailed out, about senators selling stocks after they had COVID briefings, about Nancy Pelosi buying Tesla days before she knew that they were going to announce a major electric vehicle program. It's about this larger legacy of generational nihilism. It's even got an aspect of big tech censorship. But the question is, as we wrap up, will this all die down? I don't think so. The new line that I'm starting to see show up in media is about Wall Street Bet's connection

to the alt-right. But as I said before, I believe that a Rubicon has been crossed. And the story is just too big now, the display of power has been absolutely too brazen. Another Dave Portnoy tweet pointed out that this is making extraordinarily strange political bedfellows, saying when AOC and Donald Trump Jr. are on the same side, you know you fucked up, Robin Hood. AOC, in fact, has been incredibly fierce causing people who don't consider themselves on the left in any way to find themselves locking arms with a former political opponent. She tweeted this morning, this is unacceptable. We now need to know more. more about Robin Hood's decision to block retail investors from purchasing stock while hedge funds

are freely able to trade the stock as they see fit. As a member of the Financial Services Committee, I'd support a hearing if necessary. Inquiries into freezes should not be limited solely to Robin Hood. This is a serious matter. Committee investigators should examine any retail services freezing stock purchases in the course of potential investigations, especially those allowing sales but freezing purchases. Put differently, this is Occupy Wall Street with teeth. And I don't think it's going away. Here's my main mission as we go into tomorrow and future shows. We cannot allow this to be a conversation about a specific stock. We cannot allow this to get turned into some story of bad internet people. It is about the fundamental design of our economic system and the disenfranchisement

of an entire generation. If we don't deal with it on that level, the consequences will be severe. Until tomorrow, guys, be safe and take care of each other. Peace. Thank you.