Last year, uncertainties surrounding the coronavirus whipsawed the stock market. In 2021, the pandemic seems to have taken a back seat on Wall Street to a new phenomenon: the Reddit frenzy.
In its simplest form, the Reddit frenzy involves retail investors — mostly young and/or novice investors — banding together to buy shares and out-of-the-money call options on heavily short-sold stocks. Short-sellers are investors who make money when stock prices decline. In many instances, institutional investors and hedge funds (i.e., the perceived-to-be “big money”) are the biggest short-sellers.
These Reddit traders have purchased stock and used leverage to effect a short squeeze in dozens of companies since mid-January. Since short-selling losses are potentially unlimited, a short squeeze can send pessimists scurrying for the exit at the same time, which can exacerbate a runaway move to the upside in a heavily short-sold stock.