Speaker 1: Hello, and welcome to another episode of the Odd Thoughts Podcast.
Speaker 1: I'm Tracy Halloway and I'm Joe. Wisn't thal Joe? Remember
Speaker 1: when you said game Stop was a value investment? Crazy,
Speaker 1: You're you're, you're, you're skewing my words. Not really, I said,
Speaker 1: and this was the wake of our recent interview with Rod.
Speaker 1: It started off as a value investment, which is true.
Speaker 1: I would not in any sense characterize the recent trading
Speaker 1: from probably like fifteen to four eight and now back
Speaker 1: to one seventies seven after hours last time I checked,
Speaker 1: is a failure investing. I will admit that's not value investing. Okay,
Speaker 1: I think we're both agreed on that point. But you
Speaker 1: mentioned the episode we did with Rod. We talked a
Speaker 1: lot about the business case for game Stop. He was
Speaker 1: looking at a lot of fundamentals in the business that
Speaker 1: made him bullish on it as a company. That was
Speaker 1: one part of the whole game Stop saga. The other,
Speaker 1: of course, was what was going on in technicals with
Speaker 1: both the short squeeze and the gamma squeeze. And I
Speaker 1: think we need to devote an entire episode to just
Speaker 1: talking about those, yes, exactly, because the story really has
Speaker 1: I'm kind of been thinking of it. It It has it
Speaker 1: has like three parts. The first part is guys like
Speaker 1: Rod and the Roaring Kitty and some of these other
Speaker 1: Michael Burry like make the value case. Then it kind
Speaker 1: of gets into this short squeeze, redded frenzy, gamma squeeze,
Speaker 1: call buying and everything that that, and I think that's
Speaker 1: what we're gonna talk about today, I noticed. And then
Speaker 1: there is like the third part, which is everything that
Speaker 1: this taught us about market structure and robin hood and
Speaker 1: stuff like that. And maybe we'll get into a little
Speaker 1: bit of that today because I think our guest knows
Speaker 1: that stuff well. But we really like what we're gonna
Speaker 1: do today is going from part one to part two,
Speaker 1: which is like when it entered the Reddit retail flywheel,
Speaker 1: what the hell happened? What does that say about the market? Overall? Right?
Speaker 1: The squeezes are how we got to, you know, an
Speaker 1: increase of two thousand percent in the space of less
Speaker 1: than I think it was less than two weeks something
Speaker 1: crazy like that. All Right, So I'm really happy to
Speaker 1: say that we have the perfect person to talk about this.
Speaker 1: He's a four time all thoughts guest, which might be
Speaker 1: a record or might match another record. It's Ben Eiffort
Speaker 1: from QVR Advisors and he has all about options and
Speaker 1: the big Gamma squeeze. So Ben, welcome on again. Hey guys,
Speaker 1: I'm so happy to be back. It's always a lot
Speaker 1: of fun. I'm trying to think where to start, but
Speaker 1: maybe just to begin, you know, in options land, how
Speaker 1: crazy has the past week been for you? So it's
Speaker 1: certainly been been wild. I mean, as you guys no
Speaker 1: doubt have seen, there's been enormous amounts of option volume
Speaker 1: going through in some of these popular retail names, you know,
Speaker 1: gm E being an obvious one, um you know, on
Speaker 1: on some days nearing the types of typical volumes you'd
Speaker 1: see like in SMP Options or in you know, Tesla Options,
Speaker 1: which is pretty spectacular for a company that. I mean,
Speaker 1: what was the market cap of gm EU six months ago?
Speaker 1: You know, it's it's it's been quite wild. But I
Speaker 1: think this again that this was particularly crazy week. But
Speaker 1: I think, as you know, we've been emphasizing, this is
Speaker 1: really the culmination, you know, or the current state of
Speaker 1: a trend that's really been building for for quite some time, right,
Speaker 1: really start late from starting in late with surging volumes
Speaker 1: across a bunch of different brokerages platforms after the you know,
Speaker 1: Robin Hood initiated and a bunch of other brokers started
Speaker 1: matching you know, zero commission options training. So I remember,
Speaker 1: I think the last time we talked to you time
Speaker 1: late last summer, maybe it was like October or something
Speaker 1: like that, and it was kind of like taking stock
Speaker 1: of this sort of retail options booms. And there's a
Speaker 1: number of charts that you have showing the rise of
Speaker 1: one week call options and the rise of call options
Speaker 1: in general, and the rise of small orders that indicate
Speaker 1: that so much of this option activity really has taken
Speaker 1: place at the retail level. Just flash forward to today.
Speaker 1: How much crazier overall is the market. You know, we're
Speaker 1: recording this February one, February one, versus say, last September,
Speaker 1: October whenever the last time we talked. Yeah. Absolutely, So
Speaker 1: you know, if you think of what those charts looked
Speaker 1: like of growth of option contract notional traded by small traders,
Speaker 1: growth of option premium traded, you know, they looked totally
Speaker 1: parabolic at the time, and now it's just like you
Speaker 1: zoom out and that parable is just kept going at
Speaker 1: the same kind of you know, exponential growth rates. So
Speaker 1: it's been really impressive. I mean, I think there were
Speaker 1: was lots of noise over the last few weeks. You
Speaker 1: saw some of that data of just making new record
Speaker 1: after new record after new record. Um, you know, seeing
Speaker 1: just incredible numbers. You know, twenty million, thirty million, forty
Speaker 1: million calls traded in a week by by this segment
Speaker 1: of the market, and you know, tens upon tens of
Speaker 1: billions of dollars of option premium and you know, very
Speaker 1: very leverage types of types of trades. So this this
Speaker 1: trend has continued, you know, at this to grow at
Speaker 1: these kind of rates, you can speculate about where this
Speaker 1: growth has to taper off, but it hasn't yet. So
Speaker 1: let's talk about how that all that retail options activity
Speaker 1: can actually lead to buying momentum for a stock like
Speaker 1: game Stop. So one of the things that we saw
Speaker 1: last week when game Stop was rising was there there
Speaker 1: were some people out there going, oh, this possibly can't
Speaker 1: be this, I can't talk. There were some people out
Speaker 1: there going, this can't possibly be just retail investors because
Speaker 1: the stock is moving so much and they don't have
Speaker 1: a lot of money. But you've spelled out quite clearly
Speaker 1: in your research and on previous episodes with us just
Speaker 1: how smaller amounts of retail options buying can actually translate
Speaker 1: into larger amounts of money flowing into the underlying stock
Speaker 1: and a lot more leverage. Could you explain exactly how
Speaker 1: that works? Sure? Absolutely so. Well, there's a couple of
Speaker 1: related components to this. So the first is just the
Speaker 1: synthetic leverage that's embedded in options, and then the second,
Speaker 1: which will come to in a bit, is the convexity
Speaker 1: or the gamma and like the dealer hedging dynamics. But
Speaker 1: so just focusing on the first for a minute, and
Speaker 1: there's lots of different examples that you can go through.
Speaker 1: But you know, backing up a month or two to
Speaker 1: two calmer times where you know, before Jimmy implied volatility
Speaker 1: was you know, a small investor could could buy a
Speaker 1: call option on GM with maybe call it one week
Speaker 1: to expiration, and it might for example, you know, GM
Speaker 1: might have been trading at you know, around twenty bucks
Speaker 1: and they might have been able to buy a call
Speaker 1: option for you know, a very small fraction of that
Speaker 1: um you know, maybe a dollar or maybe fifty cents
Speaker 1: that was somewhat out of the money that was going
Speaker 1: to be expiring in a week. That leverage that's embedded
Speaker 1: the fact that they might get when but when they
Speaker 1: buy that option, say twenty five or the sensitivity to
Speaker 1: the underlying stock price, but for only you know, a
Speaker 1: couple percent, one percent, less than one percent of the
Speaker 1: actual cash outlay. That creates a big amount of leverage
Speaker 1: to the to those kind of trades, right, So a
Speaker 1: retail investor might get ten to one, one fifty to
Speaker 1: one leverage effectively by speculating on the direction of the
Speaker 1: stock using those those call options. And that's not just
Speaker 1: you know, a theoretical concept, right, because when that retail
Speaker 1: investor goes out and buys that call option that has
Speaker 1: a thirty sensitivity or thirty delta to the underlying stock,
Speaker 1: he buys it from a market maker, and that market
Speaker 1: maker sells him that call option and then goes and
Speaker 1: buys that stock in order to hedge the directionality of
Speaker 1: the position. So that's real trades that go out and
Speaker 1: are executed in the underlying stock, you know, in lieu
Speaker 1: of in lieu of the what the investor is doing.
Speaker 1: Now the second component of that, you know, on top
Speaker 1: of just the huge amount of of notional dollar exposure
Speaker 1: that that a small amount of premium out lay creates
Speaker 1: is the fact that when those call options, as particularly are,
Speaker 1: are brought to the upside. So let's, you know, again,
Speaker 1: go with that case of a twenty five or thirty
Speaker 1: delta call option that only has twenty five or sensitivity
Speaker 1: to the underlying stock price. Right, stock goes up a dollar,
Speaker 1: the option should only go up thirty cents. As the
Speaker 1: stock goes up and up, it gets closer and closer
Speaker 1: to that strike price, and the strike price the delta,
Speaker 1: the sensitivity of the option to the underlying stock grows
Speaker 1: and grows and grows as the stock goes up. And
Speaker 1: so that dealer who had initially bought equity to hedge
Speaker 1: that position is now going to buy more and more
Speaker 1: and more equity to buy to hedge that position as
Speaker 1: the stock rises. Right, And that's this notion of of
Speaker 1: a gamma squeeze or an acceleration effect where if you know,
Speaker 1: retail is buying or or anyone is buying very large
Speaker 1: quantities of short dated upside call options that accelerates the
Speaker 1: movement of the stock of of a stock to the
Speaker 1: upside because of this virtuous cycle where dealers are buying
Speaker 1: stock because the stock is going up. So someone buys,
Speaker 1: say a hundred call options. The dealer doesn't go out
Speaker 1: and buy a hundred shares. They buy some fraction of
Speaker 1: that initially because of course they don't assume necessarily that
Speaker 1: the stock is actually going to hit the strike and
Speaker 1: that they'll be on the hook. But basically as the
Speaker 1: stock gets closer, as the underlying gets closer to that strike,
Speaker 1: there then on the hook. You know, the odds that
Speaker 1: they're going to essentially have to pay out the bed
Speaker 1: go up and they have to buy more stock to
Speaker 1: pay to be headed. Yep, that's exactly right. Think of
Speaker 1: it as you know once call it once the stock
Speaker 1: has gone up so much that the probability that it's
Speaker 1: going to be in the money by the time you
Speaker 1: reach expiration is really high. At that point a dealer
Speaker 1: will will be hedged on a full notional. In other words,
Speaker 1: to your point, an option contract has a one multiplier,
Speaker 1: So if they own a hundred contracts, that's like owning
Speaker 1: temp that's like exposure to ten thousand shares. At that point,
Speaker 1: the dealer would just be short ten thousand shares. Again,
Speaker 1: I would sorry, would be long ten thousand shares against
Speaker 1: the hundred option contracts that they're short but day one
Speaker 1: if the delta is only twenty five. In other words,
Speaker 1: the sensitivity of the of the option to that stock
Speaker 1: price is there's an implied probability of percent, but that
Speaker 1: stock is going to end up in the money. The
Speaker 1: dealer would only be long shares and maybe buying and
Speaker 1: buying and buying as the stock rallies up to that
Speaker 1: maximum of ten thous So one of the reasons I
Speaker 1: find this story so interesting, and I also think it's
Speaker 1: different to people, you know, pumping up the stock on
Speaker 1: message boards in the late during the tech bubble, is
Speaker 1: because of the role of options, and specifically the fact
Speaker 1: that there were people on Wall Street bets who were
Speaker 1: targeting specific options contracts that they thought could have the
Speaker 1: biggest impact on the underlying stock. And that's, from my perspective,
Speaker 1: really sophisticated behavior and probably something that we're more used
Speaker 1: to seeing from, for instance, a hedge fund than a guy,
Speaker 1: you know, trading out of his basement or something like that.
Speaker 1: How how surprised were you by that or how much
Speaker 1: did that play a role in forcing the squeeze. Absolutely,
Speaker 1: So you know this, I think a lot of people
Speaker 1: perhaps underestimated the sophistication of at least, you know, some
Speaker 1: of the folks within a Redditt Wall Street bets type
Speaker 1: of community, you know, that are that are leading this
Speaker 1: type of charge because of how unfamiliar their language sounded, right,
Speaker 1: because of the the you know, the rocketship emojis and
Speaker 1: all of this kind of stuff. But if you go
Speaker 1: in and read some of the original posts about the
Speaker 1: potential for example, for a short squeeze in g M
Speaker 1: e um, you know, some of the long form you
Speaker 1: know writing there, Um, these are very sophisticated people, right.
Speaker 1: They understand the dynamics of you know, short interest and
Speaker 1: float and how shares have to be covered. They understand
Speaker 1: the mechanisms you know of option delta hedging by dealers,
Speaker 1: and they understand you know, the short data options have
Speaker 1: you know, by far the highest you know gamma and
Speaker 1: the most convexity have that it makes this acceleration effect largest,
Speaker 1: you know, and and other little cues, I mean, just
Speaker 1: just silly stuff. But for example, that original short squeeze
Speaker 1: post had a little mentioned of something about you know,
Speaker 1: I love z Mass and that's that's that's something that
Speaker 1: only an institutional derivatives trader would say because the you know,
Speaker 1: the the inside joke and derivatives markets is that they're
Speaker 1: run by French quants and that's kind of a little
Speaker 1: ha ha about about you know, coming back to that
Speaker 1: dig right, So again, that's not that's not somebody who
Speaker 1: that's somebody who's been in the markets in an institutional role.
Speaker 1: I I missed that whole thing. So I guess what
Speaker 1: you're Another way of saying this is if you're a
Speaker 1: short seller, like I don't know, Citron Research, you may
Speaker 1: not want to, like rate wave the red flag in
Speaker 1: front of that community thinking that they're just going to
Speaker 1: fold at the first mentioned that this dog is overvalued. Yeah. Absolutely,
Speaker 1: I mean I think that you know, one thing, uh,
Speaker 1: that one one little little discussion that we had must
Speaker 1: have been six months or eight months ago at this point,
Speaker 1: and I think it was about Tesla actually at the time,
Speaker 1: you know, was that you know, there were some folks
Speaker 1: who are making fun of the of the Tesla lawnss right,
Speaker 1: and of some of the video videos that you know,
Speaker 1: some of the enthusiastic fan base of of Tesla was
Speaker 1: describing what they thought about the stock and my point
Speaker 1: what and they were saying, Oh, this is the perfect counterparty, right.
Speaker 1: That is not That is not how a smart how
Speaker 1: a trader thinks. Right. The perfect counterparty is someone who
Speaker 1: is weak hands and can be pushed out, squeezed out,
Speaker 1: can is leveraged, can be forced out of their position.
Speaker 1: The worst counterparty in the world is a big kind
Speaker 1: of ignorant or or otherwise right, but unleveraged counterparty that
Speaker 1: doesn't that's not going to be pushed out of their position,
Speaker 1: and that's really excited about their position. Right. So I
Speaker 1: think that this is actually really important. You wave a
Speaker 1: red flag in front of those folks, you get them,
Speaker 1: get them mad at you. You're the you're the weekends
Speaker 1: right when you're short of when you're short of stock
Speaker 1: because of a stock. You know, we talked about gamma.
Speaker 1: A short position in the stock is a short gamma position, right,
Speaker 1: because you have if you short a billion dollars of
Speaker 1: the stock and it doubles, now your short two billion
Speaker 1: dollars of it, and your risk has doubled. And then
Speaker 1: if it doubles again from there you're gonna lose twice
Speaker 1: as much money as the first time that it doubled. Right,
Speaker 1: so you have unlimited loss. You're the week, You're the
Speaker 1: week the week you know, party at the table. So
Speaker 1: one thing I've been curious about is when you were
Speaker 1: watching the flows around jim last week, how much of
Speaker 1: it was fundamental buying and selling versus the gamma or
Speaker 1: the short squeeze. Is there a way of measuring that?
Speaker 1: It's hard to say exactly what fundamental what is fundamental
Speaker 1: buying and selling in that in that kind of environment, Right,
Speaker 1: you can certainly model how much of stock volume do
Speaker 1: you think is dealer hedges on new option position and
Speaker 1: dealer hedges on existing option positions? Um, it's certainly material,
Speaker 1: you know, in the double digit percentages. But so many
Speaker 1: different things were happening last week, right, I mean, I
Speaker 1: think it's worth mentioning. First of all, of course, volumes
Speaker 1: were off the charts. Second UM last week, even though
Speaker 1: it was the culmination of this you know, of this
Speaker 1: parabola in GM ME in both in Gimmy and the
Speaker 1: other you know m C and n b U, I,
Speaker 1: you actually saw relatively balanced flows from the retail community.
Speaker 1: In share transactions in most stocks. So there was probably
Speaker 1: a lot of new buying from you know, new enthusiastic
Speaker 1: you know, members of the of the group. But there
Speaker 1: was also a lot of selling, uh, you know, probably
Speaker 1: some combination of profit taking and other things, um, which
Speaker 1: tells you that a lot of the big explosive price
Speaker 1: action to the upside um, you know, in combination with
Speaker 1: when you look at the rapid deleveraging and deep grossing
Speaker 1: and the headpund community, a lot of that was forced
Speaker 1: shortcovering and then cascades of of forced shortcovering by by
Speaker 1: big institutions. So you know, I think if you were
Speaker 1: to look at you combine forced short covering and degrossing
Speaker 1: among hedge funds and forced in some sense or mechanical
Speaker 1: trading of dealers in the underlying stock, you know, some
Speaker 1: some very significant percentage of underlying share volume you know,
Speaker 1: was being driven by those technical factors. You know, we're
Speaker 1: talking about ways that this particular market is different from
Speaker 1: the late nineties, and Tracy mentioned um. You know, of
Speaker 1: course we've been talking about the call options buying that
Speaker 1: is very new. You know, it also seems like a
Speaker 1: new dynamic or an emerging dynamic that might not go away.
Speaker 1: Is just like the way social media encourages um like
Speaker 1: buying impacts, Like suddenly everyone is just focused on Jimmy
Speaker 1: or everyone's just focused on jimy AMC and Nokia. How
Speaker 1: new is this not just the explosion of options trading overall,
Speaker 1: and not just the leverage that comes with options trading,
Speaker 1: but in so much potentially concentrated in a very short
Speaker 1: period of time, in just one name or a small
Speaker 1: handful of names. Yeah, I mean, certainly the extent to
Speaker 1: which that is true or seems to be true in
Speaker 1: this environment I think is new or it's really it's
Speaker 1: taken it to another level. I mean there there are
Speaker 1: elements of it, you know, which which go back a
Speaker 1: long way, is right? I mean you think of how
Speaker 1: did what were the coordinating factors behind retail investing trends
Speaker 1: over the last ten or twenty years, And you could
Speaker 1: point to like, you know, Cramer on CNBC or something
Speaker 1: like that, right where like what were there the really
Speaker 1: cool things and the really cool themes? And Cramer would
Speaker 1: be up there saying he loved the stock and you'd see,
Speaker 1: you know, huge retail flows for the time retail flows
Speaker 1: you know, are obviously much bigger in the over the
Speaker 1: last couple of months, but you know, so so part
Speaker 1: of that element was was always there. But I think,
Speaker 1: you know, social media has been uniquely powerful in coordinating
Speaker 1: rapid action across abroad, you know, a large community of people,
Speaker 1: you know, not just within finance obviously, and in other
Speaker 1: areas as well, and I think that's going to be
Speaker 1: part of the landscape going forward. For sure. There's all
Speaker 1: manner of you know, it raises all manner of questions
Speaker 1: from a regulatory perspective that I don't think it I
Speaker 1: don't think anybody has very clear answers too, and I
Speaker 1: don't think you know, the regulators have very clear answers
Speaker 1: to either. Right, This is a it really is a
Speaker 1: new dynamic for the SEC to look at and understand
Speaker 1: how they think about it in the first place. And
Speaker 1: you know, I've I've I've had conversations with you know,
Speaker 1: with friends in regulatory seats you know, who look at
Speaker 1: this type of thing closely, and I don't think it's
Speaker 1: there's any simple and obvious answers as to you know,
Speaker 1: where where this is going to go in the near
Speaker 1: term from a regulatory perspective. So I mean, on that note,
Speaker 1: I know you just said there aren't any easy answers,
Speaker 1: but um, some of the comment area we've seen over
Speaker 1: the past week has been suggesting that this could pose
Speaker 1: some sort of threat to the stability of financial markets.
Speaker 1: So if we see this type of swarming behavior that's
Speaker 1: capable of knocking out a hedge funder two and maybe
Speaker 1: causing problems for brokerages at robin Hood and making us
Speaker 1: all think about you know, settlement issues and collateral and
Speaker 1: things we haven't thought about since the financial crisis, really
Speaker 1: that maybe that's a bad thing that would probably fall
Speaker 1: under Joe's definition of a bad take. But certainly that
Speaker 1: conversation has been out there. How are you thinking about
Speaker 1: the financial risks or the systemic risks of this new behavior.
Speaker 1: So so it's a very good question, I mean, and
Speaker 1: I think that's where that's where it becomes. There's there
Speaker 1: really are two separate issues, right, One is securities laws
Speaker 1: and regulation around trying to protect retail investors and so forth, right,
Speaker 1: and then the other and around manipulation and the other
Speaker 1: set of issues around around financial financial stability. And you know,
Speaker 1: I think that ultimately when you look at for example,
Speaker 1: what happened in a lot of the retail brokerages, especially
Speaker 1: the smaller, less well capitalized private brokerages like robin Hood
Speaker 1: this week. You know, you saw the whole modern regulatory
Speaker 1: apparatus and apparatus of collateral and credit management you come
Speaker 1: into play right where there was this huge surge in
Speaker 1: dollar volume traded net dollar volume traded by clients of
Speaker 1: brokerages like robin Hood in these particular stocks that we're
Speaker 1: moving in a very volatile fashion, and so the you know,
Speaker 1: systems that we put in place as part of Dodd
Speaker 1: Frank right where there are central clearing houses that unsettled
Speaker 1: trade risk lives at in the charge of credit haircut
Speaker 1: on you know, on that dollar risk that turned into
Speaker 1: these huge margin calls you know to robin Hood that
Speaker 1: they had to meet. Um, it was a scramble because
Speaker 1: this all holded so quickly. But ultimately, you know, robin
Speaker 1: Hood went out and raised three billion dollars of new
Speaker 1: capital plus right in a couple of days, and most
Speaker 1: other you know, most of the other brokerages have also
Speaker 1: been able to reopen trading in these names. And like
Speaker 1: the purpose of that system right is to put guard
Speaker 1: rails around around the collateralization of brokerages so that you
Speaker 1: don't have unexpected failures and to have an insurance pool
Speaker 1: that's large enough across the brokerage system. Right, and you know,
Speaker 1: this was a good stress test, right what you know?
Speaker 1: The the question is how much crazier could it? Could
Speaker 1: it be? And could it happened too quickly? Right? But
Speaker 1: the I think those are the kind of issues regulators
Speaker 1: are going to be thinking about. I don't think that
Speaker 1: regulators in of itself, I don't think that they would
Speaker 1: have great concerns about some particular microcap stocks having you know,
Speaker 1: some crazy, some crazy activity. The question is, you know,
Speaker 1: what if this kind of activity became much much broader,
Speaker 1: what if it was affecting you know, the creating huge
Speaker 1: swings and currencies or commodity or you know other things
Speaker 1: that have major knock on effects on on economic policy.
Speaker 1: I think those are the kinds of things that regulators
Speaker 1: are going to be thinking about. I made a joke
Speaker 1: a little while ago about you know, about Wall Street
Speaker 1: bets going after you know, the dollar via you know,
Speaker 1: via some of the E T E T f s
Speaker 1: that are around there. I mean, if Wall Street Bets
Speaker 1: was actually able to move the value of the dollar
Speaker 1: by thirty pc by trading a bunch of out of
Speaker 1: the money call options that would probably get um, you know,
Speaker 1: attractive crackdown in a hurry. But these are those are
Speaker 1: much bigger, Those are much larger, much deeper, much more
Speaker 1: liquid markets. Right, And I think part of what the
Speaker 1: Reddit community knows and understands again, you know, coming back
Speaker 1: to the sophistication of the ringleaders of this kind of operation, right,
Speaker 1: they understand that they can have a hugely outsized effect
Speaker 1: in thinly traded you know, small caps and microcaps, right, um,
Speaker 1: and they can potentially have some impact over a longer
Speaker 1: period of time and in larger asset classes, but but
Speaker 1: nothing nearly as dramatic because ultimately, you know, global financial
Speaker 1: markets in currencies are are measured in the trillions, not
Speaker 1: in the you know, towns of billions. So presumably, I mean,
Speaker 1: this current episode will fade into some of these popular
Speaker 1: yolo squeeze names aren't going to be in the news
Speaker 1: as much. But I'm still like really interested in what
Speaker 1: the sort of long term effects on just market pricing
Speaker 1: is and I'm curious to start like shorting. So there's
Speaker 1: been a lot of questions now, like what is the
Speaker 1: future of short selling, Like the whole thing of someone
Speaker 1: coming out advertising is short that might be totally dead
Speaker 1: for a while unless they're ready to you know, leg
Speaker 1: total fraud. And honestly, I'm not even sure that would
Speaker 1: do it because that might just be still acute for
Speaker 1: the yolo buyers. Could you see, um, you know, in
Speaker 1: terms of taking a directional negative bet, could there be
Speaker 1: more with options and puts and sort of like what
Speaker 1: what do you see is the effect if shorting itself
Speaker 1: becomes a perceived is just too risky to do right now? Yeah,
Speaker 1: I think that's exactly the right questions. So, you know,
Speaker 1: one of the things that we saw last week, right
Speaker 1: in very big size um, even in names which there's
Speaker 1: no reason to think we're directly targeted by you know,
Speaker 1: Wall Street, Beths, right, was very aggressive shortcovering across names
Speaker 1: that were small cap or micro cap that had a
Speaker 1: reasonable amount of short interest out there. Right because hedge
Speaker 1: funds and hedge fund risk managers were very proactively assessing
Speaker 1: the state of the game, of the state of play
Speaker 1: and their portfolios and where was this risk and where
Speaker 1: could there be you know, this risk manifesting itself right
Speaker 1: and proactively covering that risk. Um, I think that you're
Speaker 1: you're going to see much more hesitation to have certainly
Speaker 1: any kind of meaningful risk position in an outright short
Speaker 1: within you know, low liquidity stocks. Right. I think you
Speaker 1: had a you know something that that's a bit of
Speaker 1: an unusual circumstance here, right, which is many of these
Speaker 1: hedge funds that you read about having lost a lot
Speaker 1: of money are were very large and had me ning
Speaker 1: full short positions and pretty small companies right GM me
Speaker 1: at the time when when these positions would have been initiated,
Speaker 1: was you know, a billion dollar company or less. And
Speaker 1: the liquidity and the float and the volume, it makes
Speaker 1: it very hard to support, you know, like a three
Speaker 1: million dollar short position, an aggregate short position across the
Speaker 1: market of billions of dollars. So I think you're going
Speaker 1: to see much more reluctance to to engage in that
Speaker 1: type of activity, right. That You're also going to see
Speaker 1: I think much more much more demand for optionality on
Speaker 1: those kind of names. So if you really believe that this,
Speaker 1: you know that that there's a company that's a great short,
Speaker 1: and you have a catalyst and you think that you
Speaker 1: know makes sense to be in this bet um. You're
Speaker 1: going to look to structure, structure those trades with puts
Speaker 1: or put spreads or some type of limited loss um,
Speaker 1: you know, positions that give you, you know, give you
Speaker 1: staying power to give you, give you, make you strong hands,
Speaker 1: and not weekends. Right. As a result, you're going to see,
Speaker 1: you know, significant difference is in option pricing in that
Speaker 1: whole segment of the market, right the upside you know,
Speaker 1: upside options are just going to be bid because that's
Speaker 1: your hedge against a short position. The wings and options
Speaker 1: speak sort of the deep out of the money. Calls
Speaker 1: and puts you know are going to be much more
Speaker 1: symmetrically bid. I would think, whereas you know, you typically
Speaker 1: think of skew in most equity and the most most
Speaker 1: stocks as being you know, it's more expensive to buy
Speaker 1: that that those downside puts than it is to buy
Speaker 1: those upside calls. Because there's this trend. You know you
Speaker 1: want to buy insurance, and insurance is expensible. You need
Speaker 1: insurance on the upside against your against your shorts. Right,
Speaker 1: So I think that that's going to be a long
Speaker 1: lasting impact. So the implication here is that the types
Speaker 1: of options that have been deployed by a lot of
Speaker 1: people on Wall Street bets with great effect in the
Speaker 1: case of Game Stop, those are going to get more
Speaker 1: expensive and possibly harder to use. I think that's probably right.
Speaker 1: I mean we've seen really over the last seven or
Speaker 1: eight years, especially um before the Wall Street Pets phenomenon,
Speaker 1: you know, on the retail side, and then also on
Speaker 1: the institutional side, you know, being common wisdom that you know,
Speaker 1: buying options is for suckers, right, because you pay this
Speaker 1: insurance premium, you pay this risk premium. Right, You're supposed
Speaker 1: to sell options in order to make money. If you
Speaker 1: think that the stock you know is overvalued, maybe you
Speaker 1: don't short and maybe you just sell calls on it, right,
Speaker 1: And you've seen you have call over writing and put
Speaker 1: under writing and iron condor selling, and this kind of
Speaker 1: common wisdom that you're just supposed to sell options. And
Speaker 1: I think that that really led to, especially after where
Speaker 1: which saw I think a huge surgeon that that phenomenon,
Speaker 1: you know, options just being far too too cheap and underpriced.
Speaker 1: I think this is going to generate, you know, the
Speaker 1: one so far have generated very strong pushback against that
Speaker 1: in a very strong repricing of options to become much
Speaker 1: more expensive. Um. But you know, because of the value of,
Speaker 1: for example, being able to put on a short position.
Speaker 1: And as we were talking about earlier today, you know,
Speaker 1: if you bought puts on GM a couple of weeks ago,
Speaker 1: you'd um, you'd be up a lot as opposed to
Speaker 1: having gotten blown out of the water on your on
Speaker 1: your shorts. Right, that's a bit of an odd phenomenon
Speaker 1: of of just how incredibly volatile the stock has gone.
Speaker 1: But forgetting about that for a second worst case scenario,
Speaker 1: you would have just lost the premium, right and that
Speaker 1: and that's incredibly valuable in a world where the alternative
Speaker 1: is that maybe you're actually down ten x on your position,
Speaker 1: maybe you're down fifty x on your position, cutting off
Speaker 1: that tail is incredibly important, you know, speaking of short selling,
Speaker 1: you know, one of the things that the Wall Street
Speaker 1: bit crowd has really been focused on is like when
Speaker 1: is the when are the shorts going to cover? And
Speaker 1: so they're sort of these crude metrics of how many
Speaker 1: shorts there are outstanding? How useful are those measures of
Speaker 1: aggregate shorts and especially when you think of how short
Speaker 1: can be combined with options trade such that such such
Speaker 1: that the holder of the short is not necessarily directly negative.
Speaker 1: Like how useful are those measures? And how can you
Speaker 1: how well do we really know short interest out there
Speaker 1: in any name? You know, it's certainly indicative, but it's complicated,
Speaker 1: and there's a lot of different factors going on, right,
Speaker 1: and you alluded to some of these. So one way
Speaker 1: that you can see a bunch of short interest is
Speaker 1: because you know, somebody's borrowing a bunch of shares and
Speaker 1: shorting them, and that certainly has been the case in
Speaker 1: these names. Another another reason you can see short interest
Speaker 1: is if, for example, clients are selling calls, customers are
Speaker 1: selling calls to a dealer, dealers are buying those calls,
Speaker 1: and then they're hedging them with short stock. Right, that's
Speaker 1: a very different phenomenon. Of course, the customers do in
Speaker 1: that case have some have a similar risk risk thing.
Speaker 1: Those shares that are short could be hedges of all
Speaker 1: kinds of different derivatives positions, They could be hedges of
Speaker 1: futures positions in in certain kinds of products. Also, you
Speaker 1: know the understanding, you know the dynamics of rehypoblication and
Speaker 1: in shorts where you have you know, a daisy chain
Speaker 1: of shorts where you know, someone borrows borrows of share,
Speaker 1: it's lent out and then it goes into somebody else's account.
Speaker 1: Someone borrows that share, um, and so they just looking
Speaker 1: at aggregate short interest and that's all. You know. It
Speaker 1: doesn't tell you a precise picture, right, And it also
Speaker 1: doesn't tell you who are the shorts in the sense
Speaker 1: that you know. One thing that we hear about last week,
Speaker 1: for example, is that, um, there was a very large
Speaker 1: amount of covering from those initial shorts, the original shorts
Speaker 1: who were in the newspaper and who lost a whole
Speaker 1: bunch of money on this. They were replaced. In many cases,
Speaker 1: a lot of those shorts were replaced by folks initiating
Speaker 1: new shorts, folks who hadn't been short before, right, And
Speaker 1: so um, you know, those are still shorts, and maybe
Speaker 1: you can squeeze them. But now you're talking about squeezing
Speaker 1: somebody who put on their short at three hundred bucks
Speaker 1: as opposed to somebody who put on their short at
Speaker 1: you know, thirty bucks, right, And they're in a much
Speaker 1: stronger position because they haven't lost any money yet, and
Speaker 1: you know, they might have a pretty deep wallet, and
Speaker 1: maybe if you blow those guys out, then some other
Speaker 1: guys who haven't touched it are going to come in
Speaker 1: and short at six hundred bucks, right, you know the
Speaker 1: overall picture. You know, you can have a plan, which
Speaker 1: is I'm gonna buy a whole lot of this stuff.
Speaker 1: I'm gonna roll these calls up until the shorts are
Speaker 1: forced to cover, and I'm gonna sell to them. But
Speaker 1: you don't really know exactly when that's happening, and actually
Speaker 1: that short mix may just be rotating as you push
Speaker 1: the stock higher. So when we're talking about possible changes
Speaker 1: to the way the market works as a result of this,
Speaker 1: there's also the whole sort of retail brokerage dynamic, which
Speaker 1: you've touched on a couple of times. But one of
Speaker 1: the big points of drama in the entire game Stop
Speaker 1: phenomenon was when Robin Hood restricted trading on Jimmy and
Speaker 1: a few of the other meme stocks. Can you walk
Speaker 1: us through that decision and whether or not this might
Speaker 1: end up being a more common occurrence if we continue
Speaker 1: to get these social media fuel squarms over stocks. You know,
Speaker 1: I think we first heard on Wednesday night Thursday morning
Speaker 1: about Robin hood having maxed out its lines of credit,
Speaker 1: you know, across several different banks. A bunch of us
Speaker 1: were discussing kind of the plumbing issues here on Thursday.
Speaker 1: So just to walk through step by step here, right,
Speaker 1: the way a brokerage works is when when a brokerage's
Speaker 1: customers buy and sell stocks, those trades don't settle until
Speaker 1: two business days later, when the buyers and sellers are
Speaker 1: matched up and the cash is exchanged for securities. If
Speaker 1: a brokerage's customers are buying and selling an equal amount
Speaker 1: of shares on a given day, then that's really just
Speaker 1: internal accounting transfers within the brokerage. Right, Hey, I've got
Speaker 1: you know, these guys bought fifty million shares, these guys
Speaker 1: sold fifty million shares. We just kind of reshuffle around
Speaker 1: everything among the accounts. But if that brokerage, as customers are,
Speaker 1: are big net buyers of a stock, then that brokerage
Speaker 1: has a big net unsettled position in buys on that
Speaker 1: stock facing the clearing house, right, And those trades don't
Speaker 1: settle for two days, and that's counterparty credit risk, right,
Speaker 1: And so what the clearing house does under the modern
Speaker 1: Dodd Frank regulations there's a specific sets of formulas that
Speaker 1: generate how much collateral does you know, Robin Hood, the
Speaker 1: brokerage need to post to the clearing house as a
Speaker 1: function of the risk of those outstanding unsettled trades that
Speaker 1: they have, and that's going to be a function of
Speaker 1: how large those trades are and a function of what's
Speaker 1: the risk on that particular security. Uh. And you know
Speaker 1: what we heard this week, right was DTCC raised its
Speaker 1: haircuts on the clearing house raised its haircuts on these
Speaker 1: popular meme stocks that were trading, you know, doubling or
Speaker 1: cutting a half every day, which is a very reasonable,
Speaker 1: you know, thing to do given the risk of those securities.
Speaker 1: And so what happened was robin Hood got a margin
Speaker 1: call for three plus billion dollars at three thirty in
Speaker 1: the morning on on on Thursday morning. Right, I'm sorry,
Speaker 1: on Wednesday morning, I said, Thursday morning. And that's again,
Speaker 1: that's the way that the system is set up in
Speaker 1: order to be resilient to uh, you know, to credit
Speaker 1: risk and shocks in the in the in the system,
Speaker 1: right where brokerages have to be adequately capitalized to support
Speaker 1: the volume of trading that they're doing. And you know,
Speaker 1: Robin Hood did go out and then and raise a
Speaker 1: whole bunch of money. I mean, certainly, one thing that's
Speaker 1: going to happen now is all of the brokerages are
Speaker 1: going to be rewriting all of their stress tests for
Speaker 1: you know, increases in volume and increases in risk. Right,
Speaker 1: you can argue it would have been hard to see
Speaker 1: to foresee a spike in volume and risk this big,
Speaker 1: this fast, you know happening. You can go back and
Speaker 1: forth about how extreme your stress tests should be, but
Speaker 1: you better believe that across the street, everyone's going to
Speaker 1: be you know, dramatically increasing those kind of thresholds, right,
Speaker 1: And as a result, you're going to be seeing capital
Speaker 1: plan and going through. You're going to be seeing you know,
Speaker 1: fundraising get done and more lines of credit put in place.
Speaker 1: So I think that you know, that's certainly well, you know,
Speaker 1: how capitalized does you know the banking system and the
Speaker 1: broker system have to be to support this type of
Speaker 1: you know, this type of activity, And like what we're
Speaker 1: we're finding out, it kind of seems like I mean,
Speaker 1: I know a bunch of politicians, Elizabeth Warren and others
Speaker 1: have criticized it, but it kind of seems like the
Speaker 1: system worked. Yeah, I mean I would I would agree
Speaker 1: with that. I think that people, um, you know, you
Speaker 1: you have to make some choices ex anti certainly as
Speaker 1: a business in um, you know, in forecasting. Okay, how
Speaker 1: much capital do I need and what kinds of access
Speaker 1: to capital the short term do I need to manage
Speaker 1: the expected fluctuations in the nature of my business? You know,
Speaker 1: this was a very very large increase in capital requirements
Speaker 1: over a very short period of time. And you know,
Speaker 1: Robin Hood I think did a total disaster on the
Speaker 1: pr side. But being able to being able to get
Speaker 1: out there and raise three billion dollars in a couple
Speaker 1: of days and you know, get this stuff, you know,
Speaker 1: back open again. I think it's pretty reasonable. Ultimately, it's
Speaker 1: hard to say that what the system is designed to avoid,
Speaker 1: right is cascading failures of brokerages and you know, people
Speaker 1: losing tons and tons of money in systemic implications. Um,
Speaker 1: you know, I don't think the primary objective of the
Speaker 1: regulations governing the way our brokerage is work and post
Speaker 1: collateral is you know, is the hot stock of the
Speaker 1: day always available to trade on demand, you know, at
Speaker 1: any at any level for any customer. So we touched
Speaker 1: on this in a previous episode a little bit. But
Speaker 1: if we're saying that ultimately the requirements around clearing and
Speaker 1: collateral and posting collateral in order to protect robin Hood
Speaker 1: customers is a good thing, how how would robin Hood
Speaker 1: actually go about changing that narrative because it seems really
Speaker 1: really tough at this point. I think I think that's
Speaker 1: the tough things, right when you look at the narrative.
Speaker 1: On Thursday, lad was very tight lipped and and you know,
Speaker 1: went on television and said didn't really say very much.
Speaker 1: And I think that's understandable in a sense, right, because
Speaker 1: the concern there is if we if we go out
Speaker 1: there and we tell the world on Thursday that we
Speaker 1: just got a three billion dollar margin call and we
Speaker 1: haven't really figured that out yet, we don't have the money.
Speaker 1: The concern, right is that causes a run on the brokerage.
Speaker 1: Everybody freaks out, everybody pulls all their money. Banks are
Speaker 1: worried that everybody's going to pull all their money, and
Speaker 1: they pull their lines of credit and there's some kind
Speaker 1: of cascading failure, right. So you can see and that's
Speaker 1: probably the advice that you know he was getting and
Speaker 1: you can understand that, um, but I think that when
Speaker 1: you look at how fast the narrative got away from them,
Speaker 1: and you look at the anger in you know, the
Speaker 1: general public that isn't necessarily that hyper focused in their
Speaker 1: dinner conversation around you know, clearing collateral requirements, right, it
Speaker 1: created a big backlash and a big, big brand damage
Speaker 1: for them. And I don't know, you know, it's not
Speaker 1: obvious that they're going to be able to get that,
Speaker 1: you know, to shift that narrative back among really their
Speaker 1: core client based this notion of democratizing, democratizing trading and
Speaker 1: democratizing brokerage. I think that's going to be be a
Speaker 1: big challenge for them. Well, we'll have to have you
Speaker 1: back when retail options trading triples again from here in
Speaker 1: three months to see what to see what even weirder
Speaker 1: stuff happened in the market. Exactly, we're gonna be we're
Speaker 1: gonna be doing call options on on the Euro, trying
Speaker 1: to tank the dollar, and it's going to be working,
Speaker 1: and we're gonna be like, don't tell Wall Street bets
Speaker 1: about the Hong Kong dollar peg stuff like that. Yeah, exact,
Speaker 1: I'm sure I'm sure Kyle is A is really hyper
Speaker 1: focused on that. Sorry. Sorry, Tracy, I probably shouldn't even
Speaker 1: said said that into existing Yeah what are you doing? Okay? Well,
Speaker 1: um then it's yeah, it's lovely having you on for
Speaker 1: a fourth time, and we'll get you that all box
Speaker 1: tote bag in the mail soon. Awesome. I definitely need one, guys.
Speaker 1: It's always it's always fun. Sorry if I was a
Speaker 1: little distracted sitting here in the park, So Joe, Yeah,
Speaker 1: I think that was a really important conversation to have.
Speaker 1: I know we've spoken about the amazing story, which is
Speaker 1: some people who made a bullish thesis on Game Stop
Speaker 1: and then ended up making a lot of money. But
Speaker 1: I don't think you can talk about that story without
Speaker 1: discussing the technical factors like the short squeeze and the
Speaker 1: gamma squeeze that went into it. Totally right. I mean,
Speaker 1: I'll say this that the short squeeze element was at
Speaker 1: least part of the thesis from the early at least
Speaker 1: late last year I talked about with Rod, but the Gamasquez,
Speaker 1: the swarm, the effect that options buying had the sort
Speaker 1: of flywheel effect where more and more buying led to
Speaker 1: this upward vortex and price that is its own distinct thing,
Speaker 1: and no one like talks about the mechanics better than
Speaker 1: no one talks about it better than betting period absolutely.
Speaker 1: But this is also I think I said this, but
Speaker 1: this is why it's so interesting to have seen people
Speaker 1: like deep effing Value, as we keep referring to him,
Speaker 1: people like Deep effic Value who were making the crowded
Speaker 1: short position part of their fundamental case and then going
Speaker 1: after the gamma squeeze through options contracts. That mingling of
Speaker 1: the sort of fundamentals with the technicals I find really
Speaker 1: really interesting, and it's one reason why when you see
Speaker 1: the game stop strategy rolled out to other companies or
Speaker 1: to other markets, people are looking for places or for
Speaker 1: companies with sizeable short positions where they could maybe affect
Speaker 1: a squeeze of some sort. Yeah, and I am like
Speaker 1: really fascinated by this angle because you've talked about it
Speaker 1: message boards. They've probably been around for like a quarter
Speaker 1: century if not longer, people talk about stocks, but like
Speaker 1: so I've been every day after the market ends, like
Speaker 1: um DFV posts his daily gm E YOLO update, like
Speaker 1: how many millions he's lost? If you look at the
Speaker 1: comments and they're all if he's still and I'm still
Speaker 1: and if he's still in they all it's all that.
Speaker 1: So not only do you have this, you have this
Speaker 1: sort of like cult of the trade itself where everything
Speaker 1: gets amplified furtherest. You have the short squeeze, you have
Speaker 1: the gamma squeeze because everyone's using options, and then you
Speaker 1: just have this culture of everyone around the world. I'll
Speaker 1: talk about this one trade. And so you just really
Speaker 1: see how hundreds of thousands of individual traders can just
Speaker 1: incredibly amplify they're buying power in a way that I
Speaker 1: just don't think we saw in the late nineties or
Speaker 1: prior periods of marketing enthusiasm. Yeah, and wait till deep
Speaker 1: effing value gets on a copy trading platform like e Toro.
Speaker 1: Like imagine that if people were able to follow his
Speaker 1: trades with just the click of a button. I think
Speaker 1: that'd be pretty interesting. Um, shall we leave it there? Yeah,
Speaker 1: let's see it there? All right. This has been another
Speaker 1: episode of the All Thoughts podcast. I'm Tracy Alloway. You
Speaker 1: can follow me on Twitter at Tracy Alloway and I'm
Speaker 1: Joe Wisn't Thought. You can follow me on Twitter at
Speaker 1: the Stalwart Follow our guest on Twitter, Ben Effort. He's
Speaker 1: so good. He talks about this stuff all day. He
Speaker 1: learned so much. He's at Ben with Two Ends, Ben P. Eiffort.
Speaker 1: Follow our producer Laura Carlson. She's at Laura M. Carlson.
Speaker 1: Follow the Bloomberg head of podcast Francesco Levi at Francesco Today,
Speaker 1: and check out all of our podcasts at Bloomberg under
Speaker 1: the handle at podcasts. Thanks for listening.