Wed, 02/17/2021
This post is a summary of Episode 8 of The Nebraska Governance & Technology Center’s Podcast Series, Tech Refactored. Host Gus Hurwitz, Menard Director of the Nebraska Governance and Technology Center was joined by James F. Tierney, Assistant Professor at the University of Nebraska College of Law.
Whether you’re a day trader who checks her portfolio every hour (or let’s be honest, every 10 minutes) or someone who has his savings stashed under his mattress, there is a very good chance that, over the last couple weeks, you have become acquainted with the name “GameStop.” In Episode 8 of Tech Refactored, host Gus Hurwitz sat down with guest James Tierney to discuss what the New York Times and CNN have termed, “The Gamestop Rebellion.”
For those who haven’t heard the basics of the story, “Gamestop” is a brick-and-mortar retailer of video games that has fallen on hard times, mainly as a result of an increasing number of consumers who download their games directly to their consoles or other devices. A number of investment banks, convinced that Gamestop’s already-low share price was still overvalued, “shorted” the stock, essentially betting against the stock’s future value. Sensing an opportunity to stick it to Wall Street, a large number of small-scale investors, organized on a Reddit forum known as Wall Street Bets, began buying up shares of the stock, driving the price to astronomical levels in order to create a “squeeze” on those large investment banks. The cost to those institutions was huge, at one point estimated to be over $19 billion.
A major player in this imbroglio was Robinhood, a broker popular with small-scale investors because of its success in making online investing, in the words of Tierney, “exciting, fun, a little bit gamified, and also, very inexpensive.” In fact, in many instances trades on Robin Hood are free, because of a model called “payment for order flow,” where larger institutional investors pay Robin Hood to direct certain consumer stock trades their way. Tierney explains that this is a profitable model, from the institutional investors’ perspective, because of a phenomenon that exists across markets, called “informational asymmetry” (basically the idea that institutional investors have better access to information and expertise so as to be able to make more successful assessments of the value of a stock than small-scale investors).
In the wake of the Gamestop “rebellion,” all sorts of actors have rushed in to paint the story in a number of different ways, largely based on their existing attitudes towards the regulation of financial markets. Is the Gamestop squeeze a) a story of the disempowered masses teaming up to “stick it to the man,” b) an example of market manipulation, or c) a story of naive investors rushing to jump on a bandwagon that will ultimately lead them to lose their life savings?
Tierney approached the issue from a public choice, political economy perspective, anticipating that the various competing narratives would lead to various calls for regulation, as has been seen in past instances where the interests of less sophisticated consumer investors and institutional actors have been seen to be at loggerheads in ways that manage to capture the public imagination. Tierney summed up the fundamental question at the heart of whether further regulation is needed this way:
“I think ultimately it gets to the theme of how, in a situation where retail investors fundamentally have information asymmetries as compared to better informed institutional investors, how can you ensure that you can give people trading opportunities and give them the possibility of earning higher returns on their equity — getting in on the ground floor of the next Amazon or whatever, without also exposing them to the risk of financial ruin.”
Tierney noted that the question of whether individuals should be allowed to participate in some of the riskier securities trading comes down to a question of what level of risk we are willing to let individuals bear. In a society that has traditionally had a somewhat laissez-faire attitude to the way individuals choose to tolerate financial risk (indeed he notes, we allow legalized gambling at casinos), is appropriate for us to exclude individuals from certain securities because we don’t want them to be duped into “gambling away the farm?”
Hurwitez approached the question from a libertarian point of view, noting the evidence that, in a pandemic environment where individuals are constrained in the ways they can chose to spend their money for their entertainment, trading in securities has become a sort of an entertainment outlet in a way that isn’t necessarily a loss from a behavioral economics perspective. Secondly, he notes that potential consumer losses might serve an education function, allowing young, reckless consumers to grow into older, more savvy, possibly more risk-averse investors.
Finally, in my favorite moment of the podcast, Hurwitz asked Tierney what question he wished the media would stop asking him about the Gamestop flap.
That question: “What is going to happen to all those reddit investors?”
Tierney’s response:
Many of them are gonna make a little bit of money. Many of them are gonna lose a lot of money. And a few of them will probably be investigated by the SEC.
That seems to about sum it up.
Tags: Tech Refactored Review
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