Before this January, many investors would be forgiven if they didn’t know what a short squeeze is or how options trading impacted the markets. Although knowing the ins and outs of this part of the market certainly isn’t essential, it may feel more important than ever to understand how it influences Wall Street and beyond.
If anything, the headlines about Reddit, GameStop, and the world of options trading all make it more important than ever to understand the wide, diverse world of alternative investments. Options trading is only one of the various methods under the broad umbrella of alternatives: for every volatile alternative, there’s one that’s steady and measured.
As the stock market grapples with the implications of Reddit’s GameStop play—and the ability that brokerages have to disrupt traders—there’s an underlying narrative about alternatives that might be left undiscovered. And, as we’ve all found out through GameStop shares, an undiscovered asset can easily turn into an opportunity. This is just one of several opportunities that alternatives provide: the difference between each of them is vast and vital for investors.
You may not have thought much about GameStop lately: the retail chain that sells video games, consoles, and peripherals went largely unnoticed by your average investor. The stock traded at less than $19 a share back at the beginning of January 2021, only to soar in value to nearly $350 a share at the end of the month.
The moonshot rise in value has little to do with the underlying business. Rather, regulars on the popular day-trading Reddit group Wall Street Bets coalesced around an opportunity to short squeeze several hedge funds. These funds were essentially banking on GameStop share prices dropping based on their dim outlook on the company’s future. Redditors, on the other hand, worked in tandem to boost GameStop’s share price, thereby setting the stage for what’s known as a “short squeeze.”
Short squeezes aren’t usually the domain of your average investor. To understand how a short squeeze works, you have to first understand a bit about options trading.
The world of options trading is vast. One of the bigger and more well-known options is known as shorting. When a stock is shorted, investors are essentially betting against a stock’s value going up. These investors, typically hedge funds and other financial institutions, will borrow shares of a company in order to sell them at their current price. If the stock price drops, they purchase back the borrowed shares they sold, pocketing the difference (less any fees charged by the lender). If the stock price rises beyond the price at which the investor borrowed it, and stays high throughout the duration of the borrowing period, a “short squeeze” may be on offer. Investors who shorted the stock then face the prospect of swallowing huge losses to make good on the contract they signed with the lender.
All told, these headlines don’t necessarily have implications for your everyday investor. Unless you own GameStop stock (or a hedge fund that shorted it), your portfolio is relatively unaffected. Rather, one of the larger takeaways from this affair is the increased attention being paid to alternative investments, since shorting stocks is but one of several kinds of alternatives out there.
Alternative investments, broadly speaking, are financial instruments that sit alongside the stock market. They may have some ties to the markets, as is the case with short-selling, or be much further removed from the ebbs and flows of Wall Street. Other alternative investments, such as farmland investing, commodities trading, precious metals, and real estate all have different levels of risk as well.
Short-selling comes with a significant amount of risk; investing in farmland, on the other hand, is a historically stable addition to your portfolio. Both of these opportunities may share a classification as alternatives, but there’s a great divide between how they fit within your strategy.
The markets have never seen a coordinated effort by individual investors to short-squeeze hedge funds. With forums like Wall Street Bets, individuals are empowered to coordinate investments, which can have significant implications on your strategy in the future.
This makes portfolio diversification key, as it’s unclear how other coordinated attempts to inflate or tank stocks might affect the overall market. By incorporating stable alternatives like farmland investing, you can offset some of the market fluctuations brought about by any host of factors—be they financial headwinds or the newfound power of individual investors.
Just as every alternative investment is unique, so too are the platforms and teams with which you choose to invest. The GameStop saga illuminated several weaknesses across retail trading platforms. When the stock was soaring, some brokerages decided to prevent their customers from buying.
Although there were claims that doing so was a good-faith effort to keep customers from making unsound investments, the reality is that investors should have the right to invest as they see fit. This is true for stock transactions as well as alternative investments. If anything, this entire affair has called into question the intentions of several investor platforms, undermining their integrity in the process.
Simply investing with the cheapest, easiest, or most mobile-friendly platform can’t be your deciding factor. As this incident has shown us, not every brokerage is cut from the same cloth—especially when it comes to empowering and trusting in their clients to invest as they see fit. Alternatively, platforms like FarmTogether work to empower their investors, arming them with the information and expertise to help them determine the best path forward for their investments.
Transparency and trust are crucial, especially when you’re looking for a new investment opportunity in a field where you might just be learning about your options. That’s why FarmTogether focuses on transparency, honesty, and trust in its clients.
Retail investors have never had as many investment opportunities at their fingertips as they do today. Headlines about options trading has brought increased attention to alternative investments in general, although few may understand just how varied the world of alternatives is.
Moreover, the market volatility stemming from GameStop and Reddit traders has emphasized just how important it is to work with firms that stand by you and your investment decisions. If you’re looking for a unique alternative investment opportunity, and want to partner with an investment company that gives you the resources to invest how you choose to do so, you can sign up for a FarmTogether account today.
Disclaimer: FarmTogether is not a registered broker-dealer, investment adviser or investment manager. FarmTogether does not provide tax, legal or investment advice. This material has been prepared for informational and educational purposes only. You should consult your own tax, legal and investment advisors before engaging in any transaction.