'Peak Stupidity': The End Of The GameStop Short Squeeze Trade?

A handful of heavily shorted stocks experienced extremely volatile trading on Monday morning, leading some experts to speculate the 2021 short squeeze trade may have finally run out of steam.

The poster child of the short squeeze trade, video game retailer GameStop Corp. GME, traded as high as $159.18 on Monday before dropping back below $79.

Meanwhile, Nikola Corporation NKLA initially spiked as high as $22.55 before trading back below $20.50. BlackBerry Ltd BB initially jumped to $20.83 before dropping back to $17.30. Bed Bath & Beyond Inc. BBBY rocketed all the way up to $47.73 but then pulled back to $31.0.

Explaining The Action: Benzinga PreMarket Prep co-host Dennis Dick and Tim Quast, founder and CEO of ModernIR and Market Structure Edge, discussed the short squeeze trade on Monday morning’s show.

“There are people arguing with me that GameStop’s fundamentals have totally turned around and this price is justified. And I’m trying to say this has absolutely nothing to do with company fundamentals in a move like GameStop,” Dick said.

Related Link: GameStop's Power Surge: Will WallStreetBets Or The Short Sellers Come Out On Top?

Citron Research editor Andrew Left has taken a lot of heat from critics since taking a short position and setting a $20 price target for GameStop earlier this month. Quast said the difficulties Left and other small-time retail traders face in timing these huge runs is that they don’t have access to the same real-time information that large market makers like Citadel Securities do. In addition, the market makers don’t have to play by the same rules.

“This is something that traders often don’t understand," Quast said. "There is a market-making exemption for the Citadels and the Two Sigma’s and the Morgan Stanleys and the Goldman Sachs of the world where they don’t have to locate stock to short like you and I would...They have been granted an SEC exemption as market makers from having to locate shares. They can manufacture them."

“This is how a stock can behave crazily. How is it possible that GameStop is up 817% prior to today...just in the last 90 days?” Quast said.

Short Interest Vs. Short Volume: Quast said there are important reasons for these exceptions to the normal trading rules for market makers, who are responsible for maintaining liquidity in the stock market. But traders must understand what’s actually going on.

“Citadel is going to know what the buy-sell balance is, and when it reaches a point of equilibrium, Citadel will shift short and we will see a mean reversion for GameStop. And the only way you will see that is by watching short volume, not short interest. It will be three weeks out of date, and it’s absolutely meaningless as a measure of float or total shares outstanding,” Quast said.

Quast said these “manufactured” shares produced by market makers are responsible for stocks like GameStop temporarily having short interest well above 100%.

Is This The End? The wild trading action on Monday comes the same day Goldman Sachs issued a note pointing out potential bubble valuations in 39 stocks. Goldman named Crispr Therapeutics AG CRSP, Snowflake Inc SNOW and Plug Power Inc PLUG among the most overvalued stocks in the market based on projected 2022 enterprise value-to-sales ratios.

At around 10 a.m. on Monday, many of the heavily shorted stocks associated with the recent squeeze began to reverse course, including GameStop. On Twitter, Dick speculated that the short squeeze trade may have finally capitulated to the upside.

“It's cooling off rapidly in last 5 minutes. I think we just topped out,” he wrote. “We just saw ‘Peak Stupidity’ and everyone is learning the hard way right now.”

Benzinga’s Take: The GameStop run among retail traders has worked like a charm up to this point and has likely forced plenty of retail short sellers to cover their positions at large losses. However, successfully timing the entry and exit points in highly volatile short squeezes can be extremely difficult, even for professional traders.

Photo by Dwight Burdette via Wikimedia