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How Should Advisors React to the GameStop Squeeze?

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The short squeeze in GameStop stock fueled by traders in the WallStreetBets Reddit group challenging hedge fund short sellers has become one of those events that everybody is talking about, including advisor clients and regulators.

The video game retailer’s stock spiked from about $65 a share just before this Monday’s opening bell to an intraday high over $480 on Thursday before closing around $236.

As a result, two ETFs — XRT, State Street’s retail ETF and GAMR, an ETF focused on the video gaming industry — found that GameStop became 20% of their total assets.

The Reddit group also pushed up prices of AMC and BlackBerry well beyond where their prices  were supported by their fundamentals before they also gave back half their gains.

Trading restrictions by brokerages and trading platforms helped catalyze the reversal in the stocks’ prices.

How Should Advisors React?

Financial advisor Douglas Boneparth, president of Bone Fide Wealth in New York City, said, “It’s always a good idea” for advisors to reach out to their clients “before they reach out to you … especially if they have exposure to something that’s taking off to the moon or sinking like a stone. This wild event is a nice reminder to check for that, even if it’s limited through investing in a specific sector via a fund.”

John Bovard, of Incline Wealth in Cincinnati, Ohio, said he didn’t have any clients invested in GameStop but told many people he knew that it was time to get out of the stock after billionaire investor and venture capitalist Chamath Palihapitiya liquidated his entire position — he had bought $125,000 worth of February GameStop call options priced at $115, netting him a $500,000 profit, which he said he would donate to charity.

“I let my clients know to not get caught up in this,” said Bovard.  “This is market manipulation and could have a very ugly ending.”

But advisor clients who owned shares of the XRT or GAMR ETFs, which ended with heavy weightings in GME stock because of the frenzy, stood to pocket some big profits in those ETFs if they chose to sell, especially before the price of GME retreated from its high.

Nate Geraci, president of The ETF store, told ThinkAdvisor on Wednesday before the GME retrenchment that investors were “presented with a decision that wasn’t even on their radar a week ago.”

He explained, “While I think attempting to market-time anything in this environment is a fool’s errand, investors in these ETFs must be cognizant of the risk of a swift reversal in GameStop. That’s especially true for investors buying these ETFs over the past several days.”

A short squeeze “doesn’t end well for anybody except those that got in and got out early,” said Michael Finke, a professor at the American College of Financial Services, as “prices eventually have to fall down to their fundamental value … .”

Also, this is bad news for the market, according to Finke, “because short sellers provide a value price correction mechanism. Punishing short sellers means that markets won’t be as efficient. This has implications for everyone, including index investors who may be buying inflated stocks for a while.”

Regulatory Response

In the meantime, regulators are also watching the situation.

The Securities and Exchange Commission’s acting chair, Allison Herren Lee, and the directors of its examination and trading and markets divisions, said Wednesday in a joint statement that the agency was “ actively monitoring the on-going market volatility in the options and equities markets and … working with our fellow regulators to assess the situation and review the activities of regulated entities, financial intermediaries, and other market participants.”

Massachusetts’ top securities regulator, William Galvin called on the NYSE to halt trading in GameStop for 30 days. In an interview on CNBC on Wednesday, Galvin said, “ The marketplace should be a place where risk is taken, but not reckless risk and not a situation that undermines the system, and that’s what we’re looking at here.”

He noted that the wild rally in GameStop shares has “no basis in reality … and the frenzy is “not what you want in capital markets.”

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