The Real Roots of the GameStop Short Squeeze

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Feb 10, 2021

On paper, Gamestop is not a great investment. In fact, well-established investment firms have been betting against it for some time now. Why, then, are hobbyists buying it up en masse?

Any individual investor should reason that the stock is likely to lose money, considering the moves made by elite investors. But sometimes making money isn’t all that it’s about. Who’s buying GameStop stocks? A lot of people who feel left behind by the markets. Why? Because it’s the only thing they can do that ever seems to get heard.

This kind of economically “irrational” action isn’t unique to Gamestop or even to financial markets. Following Brexit and the election of Donald Trump, many researchers asked themselves how so many voters could support candidates who lied openly in public discussions. In the “rational” model of voting, lying is extremely risky. If the lie is exposed the candidate loses valuable credibility.

But a group of researchers found a circumstance where lying actually improves the candidate’s chances at the polls: crises of legitimacy. When people are ignored, they feel that the system doesn’t represent their interests. The system appears corrupt, run by insiders who only care about their own interests.

In such a legitimacy crisis, voters will support a candidate who lies. Flaunting the most central rules of the system is a diss to institutional norms and a cheap shot at the insiders who run the place. The more flagrant the lie, the more effective it is with disenchanted voters. They begin to view the candidate as a champion for those without a voice.

Their vote for the candidate is an expression of their identity and their anger. It isn’t necessarily an indication of which policy ideas they support. In fact, people will act against their own interests if it means sticking it to their champion.

Let’s bring this discussion back to the present, and see if it helps us to understand what’s going on with GameStop. Institutional investors short the stock; they think the company will do poorly. We should expect investors to follow the herd unless they have an exceptional reason to do otherwise.

What exceptional reasons might investors have? Under normal circumstances, exceptional reasons might include a belief that the company will rally, that it’s currently undervalued, that the sector as a whole is positioned for growth, etc. Those are all economic reasons: reasons to believe that the investment will make money.

But in a crisis of legitimacy, profit-seeking no longer predicts human behavior. Buying a share becomes a statement. Investors can become activists, using their trades as a way to voice their grievances. Historically, though, this logic shows an affinity to conservative ideology. With governments painted as the problem since the 1980s, and free markets as the solution, this kind of investor activism can be interpreted as exactly what one should expect. People will make their voices heard wherever the power is; as power shifts from the ballot box to the marketplace, we should expect their self-expression to follow along with it.

Where do we go from here? If we want investors to only follow “economic” reasons (and cool off the dangers associated with hyper-fluctuating markets), we need to handle the underlying legitimacy crisis. Barring people from trading the stocks actually makes it worse, since it only fuels pent-up energy for further self-expression. And disparaging this kind of trading because it treats stock markets like a casino is unlikely to bring down the temperature among folks who probably felt that way about 2008. 

Whether it is overtly populist politics or rag-tag investors, the discontent is real and there is a lot on the line. Revolution feels necessary when the system is deaf to appeals for peaceful, gradualist change. Crises of legitimacy disrupt the social order and make policy-making (as well as investing, and corporate management) harder than it should be; traditional incentive structures no longer function as they should, and responses become much more volatile and unpredictable. Those fretting about the financial consequences of the GameStop debacle should take a step back and see these expressions of discontent for what they truly are. The lens of social behavior helps a lot in doing exactly that.

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About the Authors

Brooke Struck portrait

Dr. Brooke Struck

Dr. Brooke Struck is the Research Director at The Decision Lab. He is an internationally recognized voice in applied behavioural science, representing TDL’s work in outlets such as Forbes, Vox, Huffington Post and Bloomberg, as well as Canadian venues such as the Globe & Mail, CBC and Global Media. Dr. Struck hosts TDL’s podcast “The Decision Corner” and speaks regularly to practicing professionals in industries from finance to health & wellbeing to tech & AI.

Nathan Collett portrait

Nathan Collett

Senior Editor

Nathan Collett studies decision-making and philosophy at McGill University. Experiences that inform his interdisciplinary mindset include a fellowship in the Research Group on Constitutional Studies, research at the Montreal Neurological Institute, a Harvard University architecture program, a fascination with modern physics, and several years as a technical director, program coordinator, and counselor at a youth-run summer camp on Gabriola Island. An upcoming academic project will focus on the political and philosophical consequences of emerging findings in behavioral science. He grew up in British Columbia, spending roughly equal time reading and exploring the outdoors, which ensured a lasting appreciation for nature. He prioritizes creativity, inclusion, sustainability, and integrity in all of his work.

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