Melvin Capital adapting strategy after GameStop mania as hedge funds rethink short-selling methods

Published Fri, Feb 19 20217:42 AM ESTUpdated Fri, Feb 19 20214:08 PM EST

Kevin Stankiewicz @in/kevin-stankiewicz-b5593466 @kevin_stank

Melvin Capital is rethinking its short-selling approach after it was caught up in the Reddit-fueled GameStop trading frenzy, according to the hedge fund's manager. In a congressional hearing Thursday , Melvin's Gabe Plotkin said the power of social media was on full display as retail traders to piled into shares of GameStop, and it's something all hedge funds will have to contend with going forward. "A lot of the meme stocks, these were businesses with real challenges, but they exploited an opportunity around short interest and the way that was approached," Plotkin said in response to a question from Democratic Rep. Al Lawson of Florida. "I think us at Melvin, we'll adapt and I think the whole industry will have to adapt," added Plotkin, an alumnus of Steve Cohen's SAC Capital who founded Melvin in late 2014. Plotkin said he believes hedge funds and other short-sellers will be more careful with how they select stocks to place bearish bets against. At one point in January, GameStop was the most-shorted stock on Wall Street , with well over 100% of its float shares sold short, according to FactSet data. "I think to some degrees, markets are self-correcting," Plotkin said. "I don't think you're going to see stocks with the kind of short-interest levels that we saw prior to this year. I don't think investors like myself want to be susceptible to these types of dynamics." Newly released data from S & P Global Market Intelligence seems to support Plotkin's belief that short-sellers will be more cautious following the Reddit-fueled squeezes. At the end of January, according to the firm , companies in the S & P 500 had an average of 3.08% of their outstanding shares being held by short sellers. That's a decrease from 4.07% the same time period a year earlier. Short-sellers borrow shares of a stock and then sell them back into the market, with the hopes of buying them back later at a lower price. They then return the borrowed shares and profit off the difference. But when stocks like GameStop go the other way, short-sellers may buy back shares at their current higher price in an attempt to minimize financial damage. Melvin Capital closed out its short position in GameStop on the afternoon of Jan. 26 , taking a loss after being ensnared in the squeeze. After trading below $20 per share in early January, the stock soared on its way to an intraday high of $483 on Jan. 28, a gain of well over 2,000%. GameStop shares faced intense upward pressure from both the short sellers trying to cover plus Reddit traders buying the stock outright or call options in the name. In fact, Plotkin told Congress he believes aggressive options activity might have been an even bigger factor in GameStop's rise than short covering given the volume of shares exchanging hands. These events were the subject of Thursday's hearing before the U.S. House Committee on Financial Services. In addition to Plotkin, participants included Robinhood CEO Vlad Tenev and Keith Gill, a Reddit user and YouTuber who is credited with helping fuel retail interest in GameStop. Gill made the case that GameStop was vulnerable to a short squeeze in an August YouTube video, during which he also explained why he thought the stock was undervalued on a fundamental basis. Gill also was highly active on Reddit's WallStreetBets, an online forum that played a key role in the GameStop saga. Indeed, online discussion about stocks is another area where hedge funds may adjust, Plotkin said. "I think there will be a lot closer monitoring of message boards. There will be software providers. We have a data science team that will be looking at that," he said. Plotkin said the moves are in response to the evolving nature of the U.S. equity market, which began to see increased participation from individual investors at the start of the coronavirus pandemic . Developments involving GameStop and other stocks like AMC Entertainment appeared to spark further downloads of brokerage apps such as Robinhood . "Financial markets are changing. There's a lot of new players. I think they saw an opportunity to drive the price of a stock higher and today with social media and other memes, there's the ability to collectively do so. That was a risk factor that, up until recently, we had never seen," said Plotkin, whose fund lost 53% in January after facing the GameStop surge. Historically, Plotkin said retail investors have been at adept at rallying behind the stocks of disruptive internet companies or electric vehicle makers. "You know, ideas with big opportunities and they chase them because they believe in the fundamentals," he said. But with GameStop and the other so-called meme stocks, Plotkin said online traders saw a technical opportunity to drive up share prices and acted on it. GameStop's stock, however, has fallen significantly in recent weeks as the short squeeze came to end. It fell more than 11% Thursday to close at $40.69 per share, although the stock had briefly turned positive during the congressional hearing after Gill, the Reddit trader, said he remained bullish . The stock is down 87% in February.

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Melvin Capital's Plotkin at GameStop hearing: Reddit traders exploited opportunity around short interest

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Melvin Capital is rethinking its short-selling approach after it was caught up in the Reddit-fueled GameStop trading frenzy, according to the hedge fund's manager.

In a congressional hearing Thursday, Melvin's Gabe Plotkin said the power of social media was on full display as retail traders to piled into shares of GameStop, and it's something all hedge funds will have to contend with going forward.