GME & WallStreetBets — The Need To Bust The Unjust Fintech Rails
Ex-Hedge Fund Engineer explains how GME and WallStreetBets exemplify the exacerbated fintech industry and the outdated rails they run on. The 2008 crash, 2010 Flash Boys Revolt, and now the 2021 RobinHood/Reddit/GME uprising all point to one clear conclusion — the game is rigged. We either grow or risk repeating this forever
Introduction
Our quality of life is as good as the rails that life runs on. Each aspect of our lives has its own infrastructure. Our communication runs on the internet. Our transportation runs on roads. Each year new technologies enter the market and usher in a new era of heightened prosperity in the area it affects.
When was the last time our monetary and market system got an upgrade? Some will argue that was when we got off the gold standard. In any case, we are at least 50 years outdated for an upgrade to how our monetary system and marketplace works, which suck sucked out the pipe hole any sentiment that we live in a fair, free, and honest world. The game is rigged, but it doesn’t have to be.
In this article, we will cover
1. What happened
With WallStreetBets, GME, and Hedge Funds
2. The issues
That were brought to light
3. What’s next
And what we need to learn from this, and the past
And, the best part of this article is this:
At this point, it doesn’t matter what the truth it
You can skip to the “Where we need to go next section” if you already know what happened, and I’ll explain what I mean there.
What happened
I spent 2 years working at a hedge fund as a support engineer/investment analyst. So no, I don’t know everything that goes on behind the scenes, I saw more on the investment strategies/alpha production side — which might be another conversation in itself. Some of this could be wrong, as the story is still unfolding, but in any case, this is what we think is going on, and this part alone is enough to make us mad, there is zero trust in the current financial landscape. This cannot happen every ~10 years.
1. Background
WallStreetBets (WSB)is an online forum where “normies” play the game of the stock market and then post about it. But unlike r/investing, they are self-proclaimed “degens” (short for degenerates). A quote on how they explain themself is “4chan found a Bloomberg terminal”. If you weren’t aware of what “degens” meant without me explaining it, there are many steps to take before you can understand this culture, which stems from the similarly both wonderful and horrific 4chan.
With the internet and commission-free trading platforms like Robinhood, it's easier than ever for anyone to get into the stock market and begin trading. Robinhood in particular was this group's favorite way to do so, as their whole platform is to “democratize finance” and “let the people trade”. Their target audience is the retail traders, the exact people in WallStreetBets.
1.5 Understanding Incentives
Robinhood can offer a free platform because they actually make their money through order routing or “payment for order flow”. This is when a broker sells orders to a “Market Maker” or someone who makes trades. They may want these trades for a number of reasons, but the simplest is something like:
- User makes order to buy share at $26
- Order is routed to market maker
- Broker gets share for $25
- Broker pockets the $1 difference
On a huge time scale, they can make a ton of money doing this. It’s important to note, that the brokers are bounded by law to get the “best execution” price, and make these trades honestly. I was told by traders I worked with that they were more worried about doing best execution than insider trading. Best execution is the law that the broker has to do everything in their power to get their clients the best price on a purchase. It seems like a really easy play to “bump up” the price on the app so that they could make a few extra dollars. Like so:
- The price of a stock is $26, but Robinhood lists their MarketMakers price of $26.10
- Order is routed to market maker
- Broker gets share at $25
- Broker made $0.10 more
If Robinhood knows its market makers are doing this, they need to route orders to more fair brokers. Robinhood has been in trouble in the past for not getting clients the best price, and violating this “best execution”. Citadel (Robhinhood’s biggest client) has faced the same violations. Citadel is said to have given Robinhood 40% of their business.
This is important because it appears there is a huge conflict of interest… Because there is. This doesn’t necessitate that anything nefarious is going on — but it doesn’t matter. This is already a huge issue, as the same people who are executing your trades are the same group of people who can bet that your trades are wrong!
2. The Volcano Brews
1 such r/wallstreetbets user named u/DeepF***ingValue started posted about how he was long GameStop, because #YOLO.
The forum basically rejected him originally, saying the types of stuff the subreddit is known for.
But in reality, he had seen that Gamestop was shorted by over 140% by massive hedge funds. He’d also noticed that GME has a lot of assets still, even though it’s a brick and mortar in a pandemic. It wasn’t just GME either, other companies like AMC, Virgin Galactic, and Blackberry also had a ton of shorts.
Now you may be thinking, “wait what shorting” and how could it be 140%? Wtf?
2.5 Understanding shorts
Shorting (Short selling) is when you borrow a stock from someone, sell it, and return it later. The idea is that you’re betting that the stock is going to go down in value. If I short 1 share of APPL at $100, it means I borrow 1 share from Frank, sell it for $100, and then promise to give back the share of APPL. If the price goes down to $50, I buy it at $50, give the share back to my buddy, and I’ve just made $50. Normally, Frank will also charge me a premium to borrow his stock. “Yeah sure you can borrow it, but every day that it’s yours I’m charging you 5% of the price”.
Now, this is where a LOT of financial pressure takes place. The longer you hold, the more you have to pay Frank his cut. And if the price keeps going up, you may have to buy the share at a higher and higher price.
So eventually, you have to cave and buy the share, or go bankrupt. This is known as, the short squeeze. The other thing here is that if you hold a lot of short positions, to cover those positions you have to buy a lot of the thing you shorted. Supply and demand will cause that to make the price go even higher due to so many people buying to cover their shorts.
The potential risk here is uncapped.
Now how can it be 140% shorted? The short percentage is how much of the existing shares are in a short position, and this can be over 100%. If I borrow a share, and then sell it, and the person I sell it to lends it out, that one share has been lent out twice, essentially doubling the shorted amounted on just 1 share.
This has been stock stuff with Patrick
3. Things Heat Up
So this guy DeepF***ingValue (DFV) has been diamond handing (not selling) this for over a year now, and other people on WallStreetBets start noticing. Chewy founder Ryan Cohen starts buying up GameStop stock, and the numbers start going up a little more. He plans on turning the company around. Wallstreetbets start to jump in. The number of GME starts going up, and this dude who was getting comment assaulted (DFV) for months starts getting digital pats on the back. They start realizing that a big squeeze will punch the prices up even higher and they have an opportunity to make a ton of money.
Additionally, the narrative of “eat the rich” and “stick it to them” starts to emerge. It’s been basically forever that there has always been friction between economic classes, and the 21st century is no different.
4. Sh*t hits the fan
Up to here, all this has been fair game. There is no colluding, this isn’t illegal, but it starts heating up FAST. Gamestop goes from $15 -> $300. These hedge funds started losing money, a lot of money. Melvin Captial had a total of $12B in assets under management, and it plummeted down to a measly $5B.
As the numbers start to go up more and more, fishy stuff starts happening, the Wallstreetbets discord gets shut down, the Reddit thread gets disabled for a short period of time, news channels are calling the WSB group racist monsters. CNBC is paying for sponsored content to say that hedge funds have closed their short positions.
Melvin Capital and friends are losing the game that workers spent years and thousands of dollars to get an education, all to get memed into a losing position because “stock go up”. And Reddit is loving it, and the hedge funds are hating it. If you’ve ever seen someone practice for years at something, and is considered an expert in their field, take a pro basketball team, and they show up to a tounament and gets their asses handed to him against players doing silly trick shots, and draining them all — while laughing. That’s basically what happened.
Melvin Capital in particular has some interesting connections. Their business daddy is Citadel, one of the market makers where Robinhood sends most of their trades and makes the majority of their profits.
5. The Explosion
All of a sudden, the world sensed that they were playing a game that the legacy players didn’t want them in. They felt like they get the rug pulled out under their feet because when the big guys wreak you, it’s because you dumb, but when you wreak them, you done.
Robinhood and many other brokerages stop allowing buys in GME, AMC, Blackberry, and other Reddit favorites. You’re only allowed to sell. Reports flood in of people being forced to sell their position of GME. The market halts for a period of time-all because a group of Redditors appeared to have cracked the system.
People lose their fucking minds. Everyone starts thinking that this was a targeted strike to keep the hedge funds healthy and fuck the retail investors because they’ve gone too far. Only allowing sells is a clear way to manipulate the market, if you only allow sells then the price has to go down. If the price goes down, big players can start to cover their positions.
Trump starts tweeting, AOC starts tweeting, Ted Cruz, Mark Cuban, Gary Vee, the world starts paying attention to what appears to be the hedge funds changing the rules on the people, right at the pinnacle of all this.
The internet blows up.
I blew up.
It looks bad.
It looks like Melvin Capital and other hedge funds called daddy Citadel to tell Robinhood to stop letting people buy GME because it’s hurting them. The fact that people can even suspect this already shows 2 massive issues:
1. How insane the power disparity is
2. The institutional lack of trust
Vlad comes out and says some really weird cryptic nonsense.
Where he’s either a terrible public speaker, a liar, or an idiot. He talks about not having enough money to pay for the trades (which there is a lot of truth to with clearinghouses, you have to put up your own collateral) but he also says it’s not an issue of money…. So which is it?
I could go into explaining all the technicalities, and I’ve looked into it, and yes there is a lot of merit behind what he’s saying. Exchanges need to put up collateral to process trades and with GME the collateral needed went through the roof, but it’s still really hard to tell if that’s the whole story, or why those are part of the rules. I’m not saying any of the nefarious acts are true either, what I am saying is that whether or not this really was all just a big misunderstanding doesn’t matter. At this point, the issues with the system have been brought to light clear as day.
The Issues
This is why so many people are upset. They feel like the following happened.
In 2008, the financial sector ruined the common folk by being greedy with their plays. Not one executive went to jail, and you and I had to bail them out with our tax dollars.
In 2021, when the common folk destroyed the financial sector (or at least a small subsection) they changed the rules of the game.
Now it doesn’t matter if this is true or not, and it appears as if things are starting to stabilize, and it really was a huge liquidity issue.
I’ve met a lot of people in the asset management industry (hedge funds are a type of asset manager). Some are wonderful, and when they get up to go to work in the morning, they understand that their clients are teachers looking to have a retirement when they get out, police officers, pension funds, hard workers who spent 50 years in the same job. Some of them, don’t make the billions that a lot of mainstream media paints them today, some don’t even make 6 figures.
I’ve also met people who are as bad as they say. They care nothing about who they are working with, just looking to squeeze every penny out of the system.
This article isn’t to discuss the fight of the upper class vs the middle and lower — that’s a whole other conversation, and I don’t care if you’re an alpha chaser or a wealthy hater.
Regardless of the outcome of this situation, the entire industry has seen these issues for decades. At least from almost just 10 years ago, we haven’t fixed the issues which caused the meltdown of 2008.
1. Transparency
Who is checking these companies? Why was the market halted?
2. Market Equality
Do we have a free market that can be artificially shut down by the same people who are playing the game?
This is probably the most egregious offense of the entire system. How can we say we live in a free market when that market can be shutdown.
3. Settle periods and clearinghouse inefficiencies
This is just an old system. How long does it take to add 3 0s to your bank account and subtract them from the counterparty?
4. Conflict of interest between the exchanges and brokers and market regulators
Conflict of interest on contracts? Wild.
5. Trust in the system
There is no trust.
And it’s not just the everyday human, the hedge funds don’t like the system either.
In 2014, the book Flash Boys was released, and it was about a Wall Street Revolt on high-frequency traders and how they were manipulating the market for the traditional asset managers and hedge funds. In fact, I had written about the same exact subject in an article last year, and it’s a major reason as to why I changed industries in the first place.
What’s next
Whether it’s communication, free speech or fair participation in markets, “brand-based” platforms will always put their monopolistic interests ahead of average users. As everyone realizes this more, “math/cryptography-based” platforms will become where all users flock for safety.
At the end of the day, it doesn’t matter what the final outcome of this whole thing is. It seems one thing is abundantly clear.
Sergey Nazarov — Cofounder of Chainlink
The current system is broken
Hedge funds think the system is broken. The people think the system is broken. No one is sure what’s going on behind closed doors, who is talking to who, who controls what, which centralized entity really holds the cards.
And the system is not only broken, it’s old.
We are working on the same financial rails we were running on 30 years ago. We have the same major players and the same issues, but in a world where everything is 10 times faster.
Imagine trying to get in contact with a friend the same way you did 30 years ago. Or renting a movie. Or even just buying some furniture. I haven’t stepped foot in a Target store because I can just augmented reality the desk I want to see if it fits in my room, then order it right to my door. The world is wildly more advanced now.
Why is our monetary system and marketplace not?
This is a major reason why I changed industries to what I work with now. We are at an insane turning point in our lives, where we can see the relandscaping of the entire finch industry. We have a technology that allows us to run a decentralized marketplace where no one can shut it off. Where all choices are transparent that we can verify ourselves by checking a public database or ledger. We have faster, cheaper, ways for my bank account to transfer $20 than wait 2–3 business days. We need our monetary system to advance the same way our information system did.
Blockchain has the answers to all these. Specifically for this whole GME, WSB, Robinhood fiasco.
- We have Ethereum building decentralized finance (DeFi), where markets are not owned by anyone, and can’t be shut off.
- We have protocols like Synthetix that are tackling this exact problem of a fair decentralized stock exchange that isn’t controlled by the big players, and never can be.
- We have Bitcoin as a faster monetary system that won’t inflate to insane percentages when a random quantitative easing devalues a currency.
- We have Aave that allows people to borrow and sell without someone’s greedy thumb looking to squash it.
- We have Chainlink that is bringing honesty and definitive truth on chain to power all this without being potentially bias.
- Set Protocol which allows asset managers to make portfolios on the same footing as everyone else.
- Uniswap is the simplest yet most amazing protocol for “swapping” around assets.
And sure, there are always going to be issues, but a world where the ones who sell you the stock isn’t also betting that the stock is going to plummet is a world I’m dying to live in. And I know a lot of others are too. This is why I changed industries. This is why I got into cryptocurrencies. To help us get to a place where everyone is on the same footing. The technology is still new, and being worked on, but as it advances we move closer and closer to a world where we can stomp out much of these problems.
Every time you feel pain, that’s improvement screaming to get out. We’ve felt enormous pain. Let’s find the opportunity, otherwise, in another 10 years, this shit is going to happen again.
A video of my stream-of-conscious on the topic.
