Revenge of the Nerds, Redux
Reflections on "The Big Short" and "Eat the Rich: The GameStop Saga"
Those of you who have seen the film The Big Short (2015) may recall that it begins with this voiceover from Deutsche Bank salesman Jared Vannett (Ryan Gosling): While the whole world was having a big old party, a few outsiders and weirdos ... saw the giant lie at the heart of the economy, and they saw it by doing something the rest of the suckers never thought to do: They looked."
In The Big Short, the ‘outsiders and weirdos’ were a diverse assortment of oddball hedge fund managers who defied conventional wisdom and shorted the US housing market, ultimately earning themselves billions of dollars of profits but coming very close to financial ruin along the way. These were the folks like Dr. Michael Burry (Christian Bale), who preferred to be alone looking at numbers on a spreadsheet or playing the drums to hard rock music rather than interacting with other human beings. Or Mark Baum (Steve Carell), who thought the entire financial system was corrupt and filled with a-holes and that his mission in life was to make them all pay for their sins. Or Charlie Geller and Jamie Shipley (John Magaro and Finn Wittrock), who didn’t know what an ISDA was and couldn’t get past the lobby guard at JP Morgan Chase but who apparently read Grant’s Interest Rate Observer and understood the asymmetric return potential from buying out-of-the-money options. The insiders and cool kids in this film were the hotshot investment bankers, mortgage brokers and CDO managers who wore fancy suits and partied hard but were apparently too high to notice when the music stopped and the party got busted.
The real world story told in The Big Short began in the early 2000s, a period during which banks and other financial institutions originated over $1 trillion of increasingly dodgy sub-prime mortgages and sold the loans to investors in the form of private-label mortgage backed securities (MBS) and collateralized debt obligations (CDOs), much of it rated AAA by the rating agencies. A few skeptical hedge funds did their own independent credit analysis of these securities and concluded that despite the AAA ratings there would likely be widespread defaults and credit losses over the next few years. To profit from the expected carnage, the hedge funds shorted the worst of the outstanding MBS and CDOs—ironically using as their short sale instruments bespoke credit default swaps (CDS) created by many of the same banks that had underwritten the junk mortgages—and then they shorted the banks as well.
As home prices fell nationwide, mortgage default rates crept up and then exploded and the capital markets eventually stopped funding the big banks entirely, triggering a massive run on the global financial system and tanking the real economy worldwide. Governments were forced to bail out the banking system and pump unprecedented amounts of monetary and fiscal stimulus into the economy, which eventually had its intended effect but at the cost of extreme market distortion and extensive public outrage with long lasting economic, social and political ramifications.
When the smoke cleared, millions of families had lost their homes, the unemployment rate exceeded 10%, the stock market lost 50% of its value (price), protestors occupied Wall Street and the voters threw out of office many of the politicians on whose watch this all happened. Several big banks went bust, but those that survived thanks to the bailouts saw fit to pay their executives big bonuses just one year later. No senior financial executives in the US ever went to jail, not one. The nerds who did their homework and saw this all coming got their revenge and walked away with tens of billions of dollars of profits, but the big banks that created the mess in the first place received hundreds of billions of dollars of government funding to keep them afloat. And the whole thing left a bad taste in the mouths of just about everyone who did not work on Wall Street, and of many who did.
Now roll the picture forward, from 2008 to early 2021. The economic effects of the global financial crisis were largely behind us but we were instead in the throes of the global covid pandemic. Large parts of the US and global economy remained shut down and over 15 million people were unemployed in just the US. Of the people still working, many were doing so from home and trying to juggle the competing pressures of remote work and the kids’ at-home schooling. And yet large numbers of young and not-so-young Americans found themselves not only with free time on their hands but also excess cash in their bank accounts, compliments of unemployment insurance, covid stimulus checks, rent deferrals, student loan moratoriums and reduced retail spending. So what did they do with all this time and money? Well, many of them turned to online day trading, just like during the dotcom bubble of the late 1990s, which seemed like an easier way to make money than by working for a living.
This is the environment in which the meme stock craze took flight, and the first noteworthy stock put into play was GameStop, a dying bricks-and-mortar video game retailer with a large short-position held by a handful of Wall Street hedge funds. Under pressure from the competition of online gaming, and the hedge fund shorts, the GME share price had fallen more than 90% before activist Ryan Cohen surfaced with a 13% stake in the Company in late 2020. Beginning in early January 2021, however, a group of individual day traders—communicating on Reddit’s WallStreetBets forum and executing their trades on Robinhood—lined up behind Papa Cohen and start buying GME shares and call options in huge volumes. This unprecedented retail buying activity drove the GME share price upwards by a factor of 100x over a matter of weeks, squeezing the hedge fund shorts and imposing big losses on these supposedly ‘smart money’ Wall Street professionals.
Large amounts of money were made and lost during the GME short squeeze, with some investors both making and losing money. One early GME promotor known online as Roaring Kitty (mantra: “I like this stock”) was up $50 million at one point before giving back half of his gains when the share price collapsed before he could get out. And a few hedge funds who took long (not short) positions in GME also made money, an estimated $700 million in the case of one firm wise enough to sell its entire position on the back of a big surge in buy orders after Elon Musk tweeted “Gamestonk!!”. [Is there nothing in this world that Elon Musk will not tweet about?] But as is so often the case in situations like this, many of the GME punters arrived late to the party and lost most or all of their money when the music stopped and the price of GME shares fell back toward earth. When all was said and done, however, the short-selling hedge funds collectively lost around $20 billion on GME, with Gabe Plotkin’s Melvin Capital losing close to $7 billion (half its investors’ money) and being forced to close its doors.
Many of my readers are already familiar with the GameStop saga, but whether you know the story or not I think you will enjoy watching it retold on the new Netflix documentary Eat the Rich: The GameStop Saga (2022). (Watch the trailer here.) Although I am recommending that you watch this film (actually a documentary series), I will acknowledge that Eat the Rich is not as good as The Big Short. Eat the Rich does not do as good a job of explaining the topics of short-selling, collateral calls or payment for order flow as The Big Short does with sub-prime mortgages (Margot Robbie in a bubble bath), securitization tranching (Jared Vannett’s Jenga tower) or synthetic CDOs (The Salena Gomez casino scene and “Short everything that guy has touched”). But that’s the finance professor in me speaking and I am pretty sure you won’t find this sort of technical criticism in any other published film reviews.
On reflection, Eat the Rich is probably more educational than I thought after my first (and so far only) viewing. The film demonstrates just how crazy the whole ‘meme stock’ thing was (or is) and how little some investors and speculators really understand (or care to understand) about business and finance. The film also offers some interesting takes on wonky finance topics like capital markets efficiency and the nature of financial risk, as well as pointed social commentary documenting the continuing resentment of the 2008 global financial crisis in segments of our population. For those of you more interested in pure entertainment than educational viewing, however, Eat the Rich is well worth 90” or so of your time.
Whether or not you watch the film, I encourage you to listen to Mikey Guggenheim and his friends (pictured above), performing their GameStop rap hit, “I Like the Stock” (Listen here.) The music is surprisingly captivating, surprising that is for someone my age. And some of the lyrics, while crude, are actually quite interesting, financially speaking:
Mind the suits/ with too much money to spend
Running hedge funds/ as if they were ten.
And if they mess up/they’ll just get bailed out again
Whether or not you like the lyrics, they do seem to reflect how many people still feel about Wall Street over a decade after the events of the global financial crisis. And those of us who live in the financial world have a lot of work to do if we hope to convince these folks that the system is not entirely corrupt and we are not all a bunch of a-holes, as Mark Baum would have put it. Which of course may be a hopeless task.
But it does make me wonder: How do Mikey Guggenheim and Roaring Kitty and all the other Redditor Apes feel today about the more recent activities of their folk heroes Papa Cohen, Daddy Elon and Sam Bankman-Fried? Maybe, just maybe, they now think those hedge fund ‘suits’ don’t look so bad by comparison.
But I wouldn’t bet on it. Not even on Robinhood.