Shares in GameStop tumbled overnight after financial services company app Robinhood restricted trading on its platform, capping a wild week for the stock.
The 32 per cent drop is the latest chapter in a tumultuous episode in which individual retail investors banded together to take on – and, in some cases, cripple – multibillion-dollar hedge funds by inflating GameStop’s stock price.
Typically when a stock is on a downward spiral, hedge fund managers will look to “short” the faltering stock, betting on its decline.
Short sellers borrow shares of a stock or other asset that the investor believes will decrease in value by a set future date.
The investor then sells these borrowed shares to buyers willing to pay the market price.
Before the borrowed shares must be returned, the trader is betting that the price will continue to decline and they can purchase them back at a lower cost.
As long as the stock remained in decline, these funds stood to make a lot of money. The problem is that WallStreetBets investors caught on — and decided to step in, driving the price up to unseen levels.
This set off a David versus Goliath battle that has gripped observers of financial markets and casual investors alike.
The stock price of GameStop, a gaming chain in the US, had surged 1700 per cent in recent weeks after the Reddit group piled in.
It finished Wednesday’s session at $US347.51 ($A453.40) a share after having been as low as $4 a year ago.
But GameStop’s shares plunged to $US265 when the New York Stock Exchange opened on Thursday night (Australian time), and ended the day down 44 per cent at $US193.60. That was only after an artificial brake was applied.
It came as platforms such as Robinhood and Interactive Brokers restricted trading in stocks that soared this week in the social media-driven trading frenzy that has shaken stock markets.
“Trading platforms are not going to want to stick their necks out and be on the frontline of what they may see as a reckless war, in part, against the elite and the system of Wall Street that’s being democratised by information and the social media,” said Eric Schiffer, chief executive officer of private equity firm the Patriarch Organisation.
However, the Robinhood shutdown quickly provoked the fury of the amateur investors, spurring a class action against the platform by users.
Voices ranging from conservative Republican Texas Senator Ted Cruz to self-described democratic socialist Alexandria Ocasio-Cortez rounded on the restriction.
“This is unacceptable,” tweeted Ms Ocasio-Cortez, a Democrat who represents parts of Queens and The Bronx.
“We now need to know more about [Robinhood’s] decision to block retail investors from purchasing stock while hedge funds are freely able to trade the stock as they see fit.”
She said she would support a hearing into the selective suspension of trading.
Ms Ocasio-Cortez is a member of the US House of Representatives’ financial services committee.
“Inquiries into freezes should not be limited solely to Robinhood,” she wrote.
“This is a serious matter. Committee investigators should examine any retail services freezing stock purchases in the course of potential investigations – especially those allowing sales, but freezing purchases.”
Mr Cruz retweeted her thread, writing, “Fully agree.”
“Either @RobinhoodApp allows free trading like they say they do or they die. It’s really that simple,” said Dave Portnoy, the founder of Barstool Sports, a popular website that is influential online as an amateur stock trader.
Other stocks hit by the sudden rule include Blackberry and Nokia.
All the stocks benefited from the surge, in what started as a move against hedge funds who were betting against these companies.
The short-sellers at the funds have taken hits worth billions of dollars this week.
US hedge funds such as Melvin Capital had bet against GameStop by short-selling their shares and stood to gain if the price went down and lose if it went up.
By pushing up the price of companies like GameStop, members of WallStreetBets put the “short squeeze” on hedge funds, which meant they lost more than $5 billion.
Melvin Capital admitted defeat on Thursday. Boss Gabe Plotkin told CNBC that his fund had closed its position in GameStop on Tuesday (US time) – accepting huge losses. It reportedly required a huge bailout to stay afloat.
There is growing concern that the frothiness around the once-unloved stocks is a sign of a wider stock market bubble.
Australian shares are set to rebound from Thursday’s heavy sell-off, which wiped $46 billion off the market, taking it to a three-week low.