Technology

Short selling is used when you expect a stock to drop in price. You “borrow” a stock from someone and immediately sell it for the current price. You have an agreement to return the borrowed stock to them within [x] time. So let’s say you borrow the stock and sell it for a nice even $100.

But you’re expecting the stock price to drop significantly. So when it drops to $60, you’ve now made $40. Because you sold it for $100 and now you can buy it at $60 to return it to the lender. If the price has dropped, you make money because you keep the difference between your sale price and your purchase price.

The issue with this is that your potential for loss is technically unlimited. If the price never drops, you never make money. Or even worse, if it increases, you stand to lose money. And since there’s no price cap on stocks, you can theoretically lose an unlimited amount. Since you’re legally obligated to return that stock to the person you borrowed it from, you can be forced into buying the stock for exorbitant prices if it increases.

The GameStop thing was caused by something called a short squeeze. Basically, a bunch of people expected the stock to drop, so they were all shorting it. Someone realized this, posted about it, and people started buying up all the available stock and refusing to sell. Now all of those people who had sold the stock and were hoping to buy it back cheap found that there was nobody to buy it from.

They increased their offer price. Still nobody to buy it from. They increased the offer again. Still nobody to buy it from. And as more shorts matured and more people were legally obligated to buy the stock, the more the price increased. It’s a simple supply and demand calculation: The demand was rapidly increasing as more people were legally obligated to return the stocks they had borrowed, and the supply had suddenly evaporated because people were outright refusing to sell. And this has a cascading effect, as people see the price spiking and refuse to sell because they expect it to continue to climb. This is where all the “to the moon” and rocket memes came from, because stock owners planned to hold until the price made it all the way to the moon.

Some vendors like Robinhood stopped allowing people to buy GameStop stock. The idea was that it would limit the shorters’ potential losses, by keeping the dwindling supply from being completely bought out. The hope was that once people were banned from buying more, they would begin to sell. But this only pissed a lot of people off, because it was a blatant attempt at manipulating the market. It was a blatant shield for the trust funds who had historically had a stranglehold on the markets. It was seen as the rich helping the rich, because that’s exactly what it was.