It was David and Goliath!

Short selling is wrong!

They stuck it to the Wall Street fat cats!

Well, that sounds pretty exciting.

If you read a couple of articles, you got a piece of the picture, but probably not the whole picture.

As a crypto trader or any trader, especially if you are new, there were numerous lessons that this trade could tell you.

And looking at the GameStop situation, you can see where crypto fits into the big picture.

But given our current financial environment, let’s look at one of the big features of this story, the impact of Financial Crises.

Financial crises are personal

Matt Tabbi wrote a great article and interview about the Wall Street Bets traders. The article helps one understand another point of view, the personal one.

The costs of financial armageddon aren’t necessarily dollars and cents. It’s about lives.

People were hurt when the market failed during the Great Financial Crisis of 2008. Young people watched their parents lose everything, suffer and decline.

They resent the attitude of the people and institutions that benefited from that destruction.

Their reaction is visceral and real.

The underlying impact of these events cannot be understated. So the desire to get one over on the hedge funds or Wall Street is a big motivating reason for this event.

Significant financial crises have a way of changing attitudes, shaping events long into the future.

After the Great Depression, the response to the pain these people felt lasted decades.

The pain of the current lockdown environment will shape attitudes in the years ahead.

We have no idea what this might look like yet, but looking at GameStop will give you an idea.

Smart money versus dumb money

The press loves to shape a story around a hero and a villain. In most of the articles about GameStop, they used the David and Goliath analogy.

We’ve talked about how the press shapes information on these pages before.

Everything you read should be considered information with a purpose. The purpose might be to shape an attitude about events. It might be to get people to buy or sell something in a subtle way.

For example, one article took the position that the hedge funds were the smart money and the story’s heroes. They called the hedgies smart money and the retail guys dumb money.

Why do you think they wrote that?

We’ve talked about how the press likes to call traders “gamblers” when it suits them. And how they use the term as one of sophistication on other occasions. In the article lauding hedge funds over retail traders, they did both.

And yet this dumb money had analysis. They used a time tested trading strategy used by hedge funds. They saw a catalyst and exploited it.

The lesson here is that you should evaluate everything you read critically. Ask yourself what the author is trying to get you to do.

Clearing is the boring part of the market

When you get into the market, you’re probably focused on the exciting part. The buying and selling.

You don’t ever hear anyone going on about the clearing part going on in the background. That’s the boring but necessary stuff.

In the GameStop saga, the boring stuff had a material impact on events.

In crypto, the clearing system is an interplay between a software program, crypto mining operations, an incentive system and the blockchain record. We’ve covered this before in our Guide to Crypto.

When crypto began, there was a lot of focus on this system, primarily the blockchain part. Today, most crypto participants treat it like clearing in the traditional market.
It has faded to its place in the background.

In Bitcoin, the trades or transactions are cleared and verified every 10 minutes or so, 24 hours a day, seven days a week. They have done so for 13 years without interruption.

But in stocks (stonks for you new guys), the trading day has an open and a close. The clearing in stock is called T + 2. That means trade date plus two days. That’s how long it takes to settle, which is a lot better than T + 5 in the old days.

The lag between the formal settlement and the trade date in an active market is where part of the problem was.

Stonks give app constipation

The clearing problem came to the forefront when GameStop started to gather steam.  At the end of a trading day, trades are netted meaning, buys and sells are matched off for clearing. The trades that remain outstanding require a deposit to the central clearing agency. This is to protect against clearing problems in the + 2 part of settlement.

The trades have a deposit price assigned based on a variety of factors. The risk, volatility and price are all part of this metric.

So even if it’s only for a day or two, a company may require a significant amount of capital for clearing deposits.

Now when you add in margin trading, you have another source of demand on your capital. Together, margin and clearing put Robinhood in a difficult position where the money for clearing far exceeded their available capital.

Some have questioned whether they were in trouble. The ability to raise $3.4 billion almost overnight answers the financial question. On the PR and customer service part the jury is still out.

Revenge trading won’t make you rich

I love it when I hear about people making bank trading. Anyone who has done this job feels the same way. We all know how tough the game can be.

There are also some important lessons about trading in this situation that can be valuable to you.

One is about revenge trading.

The idea of revenge is a prevailing element of one of the narratives. Revenge trading feels good initially but can be lethal to your account in most situations.

I recall a great prop trader trading against another trader in a thin but volatile issue. He hated the guy and was going to show him who the man was.

Two hours after he started, he looked up from his terminal in a moment of realization and said OMG! He’d just blown a quarter of a million trying to screw the other guy.

When you are laser-focused on revenge, you are no longer thinking about profit or risk management.

There are better ways to get revenge.

One of the best kinds of revenge is making money, growing your account and moving on to the next opportunity.

You are not responsible for the other guy’s trading

There is also a great lesson about public forums. Forums like Reddit are great places to learn and gather information, share ideas and get insight. But they also have some downsides.

Now, if you rely on another trader’s

thinking, how will you know when to sell or where to sell?

Thinking for yourself is important. You can borrow the idea, but you have to have your own approach and plan that reflects your unique circumstances.

Some people publicly stated they were holding on to GameStop no matter what.

They were going to go down with the ship.

They may be able to afford it, but this thinking is purely emotional and bad for your account.

Once you make a big call on a forum, lots of things start to happen. You might feel responsible to the people following your advice. You might be swept away by all the encouragement and forget why you’re in the trade in the first place.

The need to be consistent can be lethal financially.

And you aren’t going to beat the pros by going down with the ship.

Even in 2021, losing money intentionally still isn’t the definition of winning.

GameStop shines a light on crypto

Reflecting on the GameStop story, we can see crypto in a unique light.

In crypto, all participants are equal. There is no information asymmetry. Or if it does exist, it’s the tech guy who learned to code on his own that has the advantage over the financial pro.

This is especially true in DeFi.

Hedgies and large institutions have no real advantages over the small informed trader in crypto. They don’t have any more information about Bitcoin or Ether than you do.

Regulation exists at the gateway to protect buyers like you and me, but there is no favouring one participant over another. Even the perception of favouritism doesn’t exist.

Crypto clearing is mathematically and incentive-based, and immutable. It isn’t perfect, but it works flawlessly so far. The integrity of the market is maintained by participants, math, incentives and disincentives.

We see the crypto market use advanced technology to develop new innovative financial products. DeFi is essentially an innovation sandbox.

So rather than operating inside of a long-established system, you get to help shape crypto by participating.

You can’t change the past, but you can shape the future

Markets are places where different opinions and ideas can be tested and executed. They aren’t perfect. They reflect their rules, participants and deficiencies.

One of the things markets express is sentiments among different participants. Sentiment is a powerful force in certain circumstances.

Traditional markets provide a guide for what is possible after 2500 years of interaction. Up till now, it’s the best we have.

But numerous financial debacles show us the limits of that system.

The crypto market demonstrates how this system can be reimagined.

How the playing field can be leveled.

How people like you can get started and feel as if you have a stake in the future of the system.

It’s still early days, but everyone can get involved if they want to.

You can’t change the past, but by participating in crypto, you can shape the future.

 

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