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The GameStop Reddit short squeeze shows us that it's possible for a crowd of retail investors to perpetrate stock market manipulation similar to the allegations levied for years against hedge funds. It's yet another example of the volatility stocks can possess that makes little practical sense and turns the capital markets from a funding source to a gambler's paradise where every business day from 9:30am to 4:00pm practically anyone can place their bets.
But does the GameStop trade show us that manipulation will meet further counter manipulation as each side shores up as much cash as possible to orchestrate its own ruse to influence stock prices? There is growing evidence to suggest the answer is yes. What's the end result for regular American's who just want to save money for the future? That remains to be seen. For some, there's an unimaginable windfall.
If you just happen to be lucky enough to find yourself on the right side of the market manipulator's trade, you love life. If you don't happen to fall into this category, the jury is still out on your overall fate. But one thing is clear, should you happen to be squarely positioned in the contraposition to the manipulator's goal, you're in trouble.
Capital Markets' Purpose Past and Present
The capital markets (i.e. the stock market) exist to provide growing companies with capital for expansion as an alternative to taking on debt. It served as a large scale marketplace to issue stock ownership in your growing company in a fashion far more efficient than having to meet individually with potential investors and pitching them on the virtues of your company. The secondary market arrived to act as a safety mechanism to primary investors. If they lost confidence in the company–or simply needed to liquidate their position due to other financial obligations–the secondary market provided a legion of other investors standing at the ready to buy up those positions and allow the original investor an exit.
This is still the primary purpose of the U.S. stock market. However, the importance of U.S. capital markets to provide cash to growing businesses is in decline at least for certain major sectors in the U.S. economy. Take technology (more specifically consumer technology) for example, where the vast majority of successful companies look for acquisition by a much larger tech company as a means of expansion. Consumer tech IPO's are in decline, but acquisitions by the likes of Facebook, Apple, Microsoft, etc. are on the rise. For this industry, U.S. capital markets play a much less significant role for expansion at least for smaller/newer companies looking to expand.
The creation and wide-spread adoption of the 401(k) created a new responsibility for capital markets…supplying every-day Americans with the funds needed to self-finance their retirements. The mechanism employed in this endeavor evolved greatly over the past several decades and today looks largely like the concentration of funds inside massive index funds that own a substantial share of public U.S. companies. This, in theory, protects average Americans from volatility by reducing some of the bets placed on winners and losers. But it doesn't totally eliminate volatility nor does it appear to protect anyone from major shocks that disrupt capital markets.
GameStop Stock and the Robinhood Controversy
As shares in GameStop soared, some trading platforms began to limit trading activity for the company's shares. Many speculated this might have something to do with Robinhood's investor relations and a forced requirement to protect the financial interests of those investors by putting roadblocks in place to prevent the short squeeze. While that's one theory, the more likely scenario was changing reserving requirements from the Depository Trust and Clearing Corporation (DTCC).
The DTCC is a clearing and settlement service that assists in facilitating trades in the U.S. Stock Market. It sets certain requirements for capital held by brokerage companies when transacting trades for securities and it put a significant increase on capital requirements for GameStop (as well as other stocks targeted by Redditors) last week. This left some brokerage companies in a position of simply not having the capital on hand to trade the security per DTCC requirements.
Trade clearing is generally a third-party process of ensuring the completion of a trade. It ensures that shares transfer and arrive and that the money for those shares also arrives at its correct destination. It serves as a critical component to trader confidence in the U.S. Stock Market and the DTCC. takes its role in overseeing the clearing process very seriously.
There are potentially other issues at Robinhood that might surface from last week's short squeeze attempt, but Robinhood's decision to restrict and outright cease its investors' ability to trade GameStop likely had a lot more to do with DTCC requirements than a desire to combat the Redditors' short squeeze.
How Does Life Insurance Tie Into All of This?
In general, it doesn't, and that's precisely the point. If you looked at what transpired last week and felt a little uneasy about the fickle nature of the stock market and how a legion of mostly 20 somethings managed to up-end the market through a modern-day chat room, you might have found a new appreciation for what products like whole life insurance can provide.
This isn't to say you should take this as a lesson on why you ought to dump all of your stock holdings and move to life insurance. It is, instead, yet one more example of the virtues of diversification…true diversification.
