(Disclaimer before we start: I wrote this Wednesday night / Thursday morning; the situation has evolved somewhat since then; although it doesn’t really change anything about the point I was trying to make here. Anyway, what a week. Phew)
You people want a Gamestonk take, well okay then you’re going to get a Gamestonk take.
Unless you’ve been completely living under a rock up until today (Thursday the 28th, as I’m writing this), a bunch of Redditors on Wallstreetbets have created a commotion in the stock market by pumping shares of Gamespot, AMC, Nokia, and a few other “Memestocks" towards the moon, nuking a hedge fund (and possibly the Mets?), attracting a lot of attention along the way. You can catch up on what happened a few days ago here, here, here, or here, or see where the narrative has ended up by this morning.
Everyone wants to make this a story about something. We’ve had takes including, “This is the same as the Capital riots; the people have had enough”, “This is the same as Occupy Wall Street”, “This is because of stimulus checks”, “This is a demographic consequence of young men living at home and not getting married”, there have been so many takes. People are now running with these narratives; especially as of this morning, when Robinhood finally threw in the towel and blocked new buying on the Memestocks; TBD on how that works out.
But fundamentally this isn’t a story about any of those things. It is a story about reflexivity.
Reflexive relationships, as George Soros explains in his famous essay, show up wherever there are circular relationships between perception and reality. Wherever you see positive feedback cycles in the world, especially those that involve human participants (whose perceptions are an important part of the reality in play), that’s reflexivity at work. Anywhere you see something get “memed into existence”, like funding a startup or stoking a riot, that’s reflexivity.
Most of the time, reality catches up and positive feedback cycles fall down to earth. Hype recedes, bubbles burst. But not always; that’s what makes them so dangerous. When positive feedback cycles really get going, they can rip through the “normal boundaries” of how the world works and create entirely new playing fields. These are chaotic moments: they’re unpredictable, and they’re irreversible.
The internet has changed the world in pretty weird ways, and a lot of it has to do with reflexivity. When you wrap the “real world” in a real-time communication layer where perception can propagate instantly, and that perception is an important component of reality, then the real world itself changes meaningfully. I’ve struggled for some time to find the right metaphor for how to explain this compactly. But then a few weeks ago @FoolAllTheTime on Twitter found a perfect example. Paraphrased:
“Sometimes I cannot express enough how ‘different’ this [stock market froth] is / will be because of Social Media. I know we are all feeling bubbles vibes - but I got a very weird glimpse into pre/post social media through a deep dive into Classic World of Warcraft.
Original WoW launched in 2004 - and the world and internet was different. They literally relaunched the *exact same game* in 2019 and what is so cool is while it’s the same… it’s also very, very different than the OG game. Discord and streaming is a huge part of why. The social dynamics of spreading information is totally different now. Back then, people with the best secrets kept to themselves on how to play - and now the game is played 100% differently despite the same content."
Commentary about the game, and the instantaneous propagation and interpretation of our perception of what’s going on inside the game, changes the game itself. It specifically introduces new behaviour, like pumping or buying fake engagement numbers (perception) in order to drive algorithmic ranking and then real engagement (reality). Or behaviour like trolling (words and actions whose specific purpose is to prompt reactions), that meaningfully change the game, once players learn that skill.
Reflexivity in the stock market is nothing new. A stock price is not reality; it’s a perception. But it’s also an important part of reality, because that number can have consequences: it can change the company’s cost of capital and business trajectory, or it can force buying or selling by others. In a classic bubble like internet stocks in 1999, our perception of the value of Internet companies got way ahead of reality for a little while. But that perception bubble had some long-lasting, irreversible consequences: a lot of money got allocated into broadband infrastructure, companies like Amazon were able to raise capital cheaply, and that bubble did change the world in a meaningful way.
You obviously can’t reduce the 1999 bubble down to a single phenomenon; life is complex. But there were at least three reflexive mechanisms at work that are pretty understandable:
- The internet was getting interesting; everyone felt it was going to be a big deal, and the stock prices of all these internet companies started going up.
- Reflexive loop number one: Meteoric stock prices like Yahoo (perception!) motivated Venture Capitalists to invest lots of real money (Reality!) into startups, who then spent that real money on Yahoo ads (reinforcing the original perception)
- Reflexive loop number two: Internet stocks going up (perception) gave Day Traders a euphoric expectation of stock market returns (perception), motivating career-preserving asset managers to irresponsibly reallocate into internet stocks (reality), driving those stocks higher (reinforcing the original perception).
- Reflexive loop number three: Internet stocks going up (perception) drove huge capital inflows into broadband and networking companies (reality), which then stuck around and became the infrastructure of the modern internet (new, permanent reality), and which eventually supported nearly every original vision of the dot com fever era (confirming the original perception, although years later).
In a meaningful way, you can say that “the internet memed itself into existence.” It can be really silly sometimes, but this is how the world changes: when perceptions prompt a reaction that reinforce or realize the initial perception, you can set off these unpredictable runaway positive feedback loops that rip through the boundaries of what is normal.
Now if you look right now at what’s happening with Wallstreetbets, the simple explanation is: a bunch of Redditors learned what a Short Squeeze is, and thought, ‘well that sounds fun.’
There are three reflexive loops in a Short Squeeze like this. When you have a heavily shorted stock like Gamespot, that means that a lot of people have borrowed and then sold the stock, and are currently hoping the stock price will go down (so they can re-buy the stock at a lower price, close their short, and make a profit). So a heavily shorted stock, perhaps counterintuitively if this isn’t your world, has a lot of committed future buyers. “Squeezing” a heavily shorted stock is when you buy up all the float and push the stock price higher, pushing the shorts to close their positions at unattractive prices, which then drives the stock even higher still, for a moment.
The second reflexive loop is what the Redditors have learned how to do with short-dated call options. If you purchase a call option on a stock like Gamespot, whoever sold you the option can hedge their contract by buying Gamestock shares. In normal market conditions, this is a perfectly plain-vanilla hedged transaction. But the Redditors learned that under certain conditions, you can weaponize this relationship. By buying super short-dated out-of-the-money call options (which, under normal circumstances, are almost certain to expire worthless), you can force a reaction, which is the offsetting buying of a lot of shares; for a short period of time. If the price of those shares then moves materially, (moving the options closer to in-the-money) they’ll have to buy even more to maintain their hedge.
The third reflexive loop, and really the most important one, is that the Redditors don’t have to do it alone. They only need to initiate the mayhem. If Wallstreetbets is able to initiate some funny business with a certain company’s stock price, there are all kinds of other buyers and funds who are gonna see an opportunity. You might see hedge funds pile into both sides of this trade, cause why not; you can’t really know how this positive feedback bubble will resolve. It will eventually, but you can’t know how. (Especially as external narratives, like “This is the revenge of the people over Wall Street” bring new fuel to both sides of the trade, and pressure to change the rules of the game in real-time - as we’re seeing today.)
None of these are new ideas; see the famous story of the Hunt Brothers cornering the silver market. To options traders today, none of this is new. This is just a part of your day. All of this momentum trading and option squeezing is known territory.
But there is one meaningfully new thing about this. And that’s that Redditors have put two and two together, and have learned that short squeezing (buying specifically to force a reaction, or a cascade of reactions) is something they already know how to do; and something the Internet already knows how to coordinate. It’s just trolling. It’s the same thing.
The real lesson here, in my opinion, is that internet crowds are getting better at applying what they already know how to do (trolling, meta-gaming) to reflexive environments in the real world (i.e. the stock market). The stock market is reacting quickly: options get repriced in real time, and this particular kind of mayhem will probably not be all that reproducible. Markets learn fast.
But the smarter take here is: what happens when the Redditors find new games to play, that are just as reflexive, but don’t adapt as quickly?
You may know where I’m going with this: politics. And before you say, “Trump did this”, yes, Trump found new frontiers of how to meme your way into the presidency, but it was still a top-down effort. I’m talking about something a lot wilder, which is people learning how to exploit the reflexive rules of media: “If it’s related to an election campaign, then it becomes a campaign story” and “Anyone can meme their way into getting a story going.” Doing Reflexivity is a transferrable skill.
I’ll leave you with something I wrote a bit over a year ago, from my Ten Predictions for the 2020s:
#9: The 2024 and 2028 elections will be overwhelmed by “Campaign Hacking”: not by foreign governments or enemies, but by opportunistic hustlers and entrepreneurs.
American elections are unique in that go on for so long (more than a year! That is just absolutely incomprehensible to people in other countries) that they create a special kind of media environment. There cannot be a single story arc, or even a reasonable number of story arcs, that fills such a huge void for content.
If you want attention, there’s an opportunity here. If you can conjure up a campaign story, the media sort of has to cover you in a way that’s not otherwise the case. They need election stories, and they can’t miss out on something that becomes one. Back when the news media was a more organized and gated industry, there was a certain degree of “seriousness” you had to hit in order to meet this requirement. But today’s that’s obviously no longer the case: engagement on its own, anywhere, is all you really need to kick the cycle off.
I got to thinking of this the other day when news dropped that Donald Glover was endorsing Andrew Yang for president through … an LA pop-up store collaboration? Like, what is this exactly? It feels like a hack of some kind. It’s clever, for one thing; it got everybody talking about it. And when you think about it, why shouldn’t you leverage a presidential endorsement to sell merch and extend your own brand? What else could you do?
To a point, this is fine. Think of it as the “DJ Khaled Campaign Technique”: if you figure out how to boost politicians and yourself by standing next to them and toasting Another One in a way that’s actually useful, well, great. But when we start to think of it as a hack, all of the variants on it you can try, it’s gonna get wild.
One hack might go something like:
1) Make a big splash of some kind, either with or without a presidential candidate’s support, in a way that associates you with the candidate and makes it “campaign newsworthy.”
2) Congratulations, you’re now a character in the campaign story. Use it! Go say something controversial: “Post Malone, who dropped a new streaming track in support of the John Delaney campaign last week, has now come out in favour of legalized dogfighting.” (Instagram Story: 2 million likes.)
3) Look at that, you just permanently saddled the campaign with this association, and have a permanent invitation to reopen discourse whenever you want: next streaming track, add a bunch of lines about dogs and then bait the campaign to respond. (Next day’s Washington Post A2: “Delaney Campaign dogged by controversial endorsement”. Streaming track: chart topping.)
4) Repeat as often as you like. The fact that you’re a campaign story now makes you automatically newsworthy. If you do it right, the storyline can be compelling and entertaining enough that it can temporarily overwhelm any of the actual serious campaign stories going on.
The old days when there were only a few serious news networks that had serious editorial judgement are gone: they have to compete with whatever’s going viral now. Meanwhile, there’s a new rising class of viral celebrity that doesn’t have traditional brands, managers, or handlers to keep them in line from saying controversial statements. Their power comes for their audience alone, so they can say whatever they want, in a way that wasn’t true for celebrities before.
We really haven’t yet seen the real extent of what the internet will do to political campaigning. I’m betting that the next creative wave isn’t going to come from the campaigners, but instead from opportunistic hustlers on the outside who figure out how to hijack them.
Campaign media has always been, you know, the media – there’s a certain slipperiness and grift associated with capturing and holding ratings. But I think it’s likely, given the direction that things are going, that the next couple elections are going to descend further into explicit engagement hacking. At the root of it, really, is a reflexivity hack: the hard and fast rule “if it’s a campaign story, then it’s automatically news” is just designed to be abused. Hustlers and entrepreneurs, even more than politicians themselves, will figure out the formulas for how to force the media to cover you as a campaign story, almost certainly to the detriment of the primary process itself.
By the way, in case you’re curious where I stand on the whole “Reddit versus The Suits" thing (and specifically, the narrative that Robinhood shut down WSB so that its hedge fund buddies / masters could regroup and save themselves, or alternately that the whole thing was orchestrated by Citadel to make HFT money, etc etc): I am not the right person to ask about the deep mechanics of how option trading or margin brokerages work. (I found this tweetstorm helpful!) But here’s my opinion: when you’re asking which happened - a simple, satisfying conspiracy theory or a complex, hard-to-explain cascade of failures - it’s usually the second one. And you know what, those are more interesting!
Yes, it is also true that option trading is a complex and messy environment that hugely stacks the deck in favour of the inside players. Of course that is true. But the deck isn’t stacked in, like, “if a hedge fund stands to lose a lot of money they will call their rich friends on VC boards and call in favours”. No! It’s stacked in that all of this is complex, but when the dust clears, the inside players will be far more likely to actually get their money out than the WSB retailers because they understand the complexity. They understand counterparty risk and how to manage it, they understand what is going on under the hood as this mass of options on both sides plays tug of war with GME stock price - which is all the Redditors see, to a first approximation.
By the way, all of this hopefully proves my original point in the post even more, which is that Reddit started this, but they sure aren’t finishing it; and that doesn’t make it any less of an accomplishment on their part. Mayhem happened, because the hedge funds and Wall Street insiders leaped in. Reddit’s power to create future mayhem is that they can potentially create these events; not because they are actually the traders carrying them out. Please understand this! It is important!
(Btw I still think Tether is super sketchy though. Because unlike everything that’s happening with GME / AMC / etc and WSB, which is all happening on regulated, compliant, legally scrutinized platforms, you cannot take any of that for granted in crypto, ever. Yes I’m long too like the rest of you degenerates but you really cannot compare these two situations except in one key respect, which is “any time a lot of people have IOU claims on the same thing, and there’s limited plumbing to get actual cash in and out, there is tail risk you may not know about.”)
And finally, this week’s Tweet of the week, I mean, folks there were so many good tweets this week it was hard to choose one but I’m gonna have to go with this instant hit refresh of a classic:
Have a great week,