What are meme stocks, and why are they making a return? Meme stocks explained

Meme stock craze, which started at the height of the coronavirus outbreak, has beaten institutional investors by organizing retail day traders on social media to boost the price of businesses that Wall Street is betting against.   

In this blog post we are trying to go into the meme stock meaning and meme stock price formation, along with the effects this phenomenon puts on the performance of markets. 

This new generation of traders, who congregate on websites like the well-known WallStreetBets forum on Reddit and use commission-free trading applications like Robinhood, gained notoriety after they rocketed the stock price of struggling video game retailer GameStop.

Shares increased dramatically, from $3 in 2020 to over $300 at the end of January 2021, resulting in historically high market volatility and significant losses for short-selling hedge funds.

WallStreetBets, a well-known online stock market discussion forum with 12.5 million subscribers on Reddit, was founded by Jamie Rogozinski, who also stated that regular traders were simply responding to the times. The government took away people’s entertainment, sports, and everything else while also sending them stimulus checks. People eventually turned to trading and stocks, which was only natural.

There is a reason why retail investors who participated in the meme stock mania frequently select troubled companies, according to Edward Moya, a senior market analyst at OANDA.

Mr. Moya also stated that “retail traders have been looking for ways to get back at hedge funds.” 


Describing a meme stock 


A stock that gains popularity among individual investors as a result of social media is known as a meme stock. 

On a social media platform like WallStreetBets, a group of day traders choose a company and work together with members of their online community to buy shares to raise its price to sell it before it declines. Typically, they go for businesses that Wall Street has gambled against. Typically, the success of the company has minimal bearing on the increase in stock price. 


Meme stocks first appeared at what point? 


In January 2021, the video game retailer GameStop was the focus of the meme stock frenzy. The stock increased due to day traders organizing on Reddit. The Wall Street institutional investors, including many short-selling hedge funds, lost millions of dollars as a result of the traders’ actions, garnering them a lot of attention. 


How does short selling work? 


By borrowing a stock from a broker, a person engages in short selling in the hopes that the stock’s price would decline. When it happens, the customer returns it and makes money on the difference between the first price and the second, less expensive price. 


The short squeeze 


A short squeeze occurs when the price of a stock rises despite the fact that investors who have bet against it have predicted a decline. Therefore, hedge funds caught in a short squeeze have two options when Reddit’s WallStreetBets asks retail day traders to purchase GameStop stock, pushing up the price. Alternatively, they can close out their bets and take their losses or try to ride out the price surge, which typically requires them to put up more money. 


How do meme stock traders choose which businesses to target? 


WallStreetBets’ Rogozinski explains the tactic as follows: “They have a competitor, the significant bad hedge funds that are shorting and attempting to get rid of their favorite, in the instance of GameStop it was a video game company, something that this demographic relates [to]. Thus, you have this lovely tale of good and evil. Goliath versus David. I grew up playing Mario Brothers, and I adore this video game store, so please don’t try to take it away”. 


Has Wall Street benefited from the meme stock craze? 


Yes. Even though it took some time to get used to the first meme stock frenzy, analysts claim that Wall Street is making a profit. According to Moya of OANDA, “in certain circumstances, it’s been easy money.”

“When meme stocks first emerged, all the hedge funds declared, “Okay, I don’t believe in this technique. There are so many opportunities here to profit from getting in, perhaps not necessarily before the regular traders, but getting out before them. Money is there to be found. 


Has meme trading changed since a year and a half ago? 


Retail traders are altering their behavior as a result of record-high inflation and a potential recession. “They’re actually making an effort to resemble pump-and-dump schemes more”, he claimed. “This is different from what we’ve seen in the past when people declared their intention to boycott AMC or GameStop indefinitely. It is now more of a focused strategic wager”. 


Are meme stocks genuinely profitable for investors? 


It relies on the timing of what you bought and sold, just like with any investment. Individual investors made significant profits in GameStop, but those who currently own it would be causing a loss. It is not evident that someone who worked at GameStop during the height of the frenzy made money during the GameStop event, if you were to choose that person at random. According to Alex Chinco, a finance professor at Baruch College, many investors held onto the stock for far longer than they ought to have out of moral conviction. 


Why is there a rise in meme stocks right now? 


Widespread inflation has significantly reduced everyone’s income. Generation Z and millennials make home purchases, have a large amount of college debt to repay, and cannot afford to be careless with their money. In contrast, retail trading in meme stocks offers a chance to deviate from the norm. Additionally, “with so much pessimism on Wall Street, a lot of young people are not anticipating the stock market to provide as many possibilities for long-term positive bets,” Moya continued. 

“There is this mentality of the do-it-yourself social media influencers, and it’s also about the gig economy, where people have a job, and they’re still doing hustles on the side,” continued Rogozinski. These folks assert that they “don’t need to pay someone else to manage my money.” 


Has the market at large been impacted by meme stocks? 


It appears that Wall Street is courting this new demographic. According to Rogozinski, global markets firms and the New York Stock Exchange are beginning to develop derivatives and products that are more affordable and compact. Micro-stock options, which are a tenth as leveraged and thus less risky, are tiny copies of futures. Other than making items more available to this particular population, there isn’t really a financial need for these products. 


Does anyone regulate this? 


Congress convened a hearing on meme stocks, and the Securities and Exchanges Commission (SEC), a US federal regulatory body, investigated them, but no action has been taken as of yet. The US House Committee on Financial Services released its findings in a report in June 2022, alerting readers to the poor risk management that contributed to the meme stock trading craze. The committee also demanded that regulators increase their oversight of capital and liquidity, enhance their control over “superbrokers” who work with retail clients, and make an effort to comprehend how retail traders function.