During the early stages of 2021, a new trading phenomenon swept the American stock market. Meeting on social media and Reddit message boards, millions of average retail investors began targeting single stocks in an attempt to "disrupt" the traditional Wall Street hierarchy. The group quickly earned the nickname "Reddit Traders" and gained notoriety among the public, media outlets and regulatory bodies.
What Is Reddit Trading?
Reddit trading is an informal strategy where retail equities players use social media to coordinate their focus on specific stocks. According to various media outlets, as well as the Reddit traders themselves, the strategy's goal is to upend the conventional Wall Street dynamic and make money in the process.
Although new to the marketplace, the Reddit traders saw an explosion of notoriety during the onset of the COVID-19 pandemic. Throughout 2020, the group steadily grew in ranks as the subreddit Wallstreetbets built a massive following. Public interest in Wallstreetbets spiked during the early part of 2021 as the community grew to more than 6 million users.
In the live market, Reddit trading contradicts traditional day, swing, or "buy-and-hold" investment strategies. While actual trade executions vary wildly, the progression typically unfolds as follows:
- Discussion over securities and potential trading opportunities takes place in subreddit communities such as r/stocks, r/investing or r/wallstreetbets. Featured topics span the market, including the semiconductor, e-commerce and retail sectors.
- A single asset or group of assets is identified as being potentially lucrative within the communities. Historically, they target stock, commodity and cryptocurrency products.
- Reddit followers place trades according to recommendations made on the subreddit message board. Retail brokerage apps such as Robinhood are outlets for members of the Wallstreetbets community to execute their trades.
- The increase in trading volumes typically sends target markets trending quickly. In the case of GameStop, Reddit traders are credited with prompting an epic rally that boosted the stock's valuation multi-fold during January 2021.
From the NYSE and NASDAQ to crypto exchanges, Reddit trading has caught the attention of the financial community. Given the coordinated participation driven by the social media giant, both retail traders and institutional investors stay abreast of what Reddit traders are contemplating.
What Are Reddit Stocks?
Founded in 2005, Reddit is a centralised platform where the public may interact on a variety of interests. As of fall 2021, Reddit featured more than 430 million active members, 52 million daily users and over 100,000 active communities (subreddits). Portions of the massive Reddit platform are dedicated to stock investing, such as the Wallstreetbets subreddit.
A Reddit stock is a publicly-traded equity listing that is targeted by one or more subreddit communities. Below are a few top Reddit stocks (market, ticker symbol):
- AMC Entertainment (NYSE, AMC)
- Blackberry (NYSE, BB)
- GameStop (NYSE, GME)
- Advanced Micro Devices (NASDAQ, AMD)
- Alibaba (NYSE, BABA)
- Amazon (NASDAQ, AMZN)
- Clover Health Investments (NASDAQ, CLOV)
- Lucid Group Inc. (NASDAQ, LCID)
In reality, any over-the-counter (OTC) penny stocks, NASDAQ, or NYSE listings may become a Reddit stock. The reasons for this vary, but may include a company's perceived market valuation, trends in pop culture, or an attempt to execute a short squeeze.
Intrinsic value is an objective measure of an asset's value. For stocks, calculations are forward-looking in nature. Key data points include factors like projected growth, cash flows, dividend commitments and macroeconomic trends.
For the equity asset class, intrinsic value is frequently different from the current stock price. This opens the door for opportunistic investors looking to buy an undervalued listing and profit from the subsequent appreciation in stock price. A famous example of value investing is the buy-and-hold strategy promoted by Warren Buffett and Berkshire Hathaway Inc.
Reddit traders also engage in value trading and attempt to identify opportunities in stocks with positive intrinsic value. Their targets have spanned from blue-chip NYSE offerings such as Apple (AAPL, NASDAQ) and Palantir (PLTR, NASDAQ) to technology penny stocks IZEA Worldwide (IZEA, NASDAQ) and Meta Materials Inc. (MMAT, NASDAQ).
According to the Merriam-Webster dictionary, a meme is "an amusing or interesting picture, video, etc., that is spread widely through the internet." Thus, a meme stock is defined as "a stock that has gained popularity due to some online trend, as if the stock has gone viral like a meme."
Trending Reddit stocks are often meme stocks in that they amuse subreddit followers and boost market participation. The result can be a temporary spike in traded volumes and enhanced pricing volatility.
A prominent example of a meme stock is electric vehicle producer Tesla (TSLA, NASDAQ). Behind CEO Elon Musk, Tesla has historically been a frequent target for Reddit traders. In fact, a study from investment bank Barclays found Tesla's stock price is positively correlated to the number of Reddit posts mentioning TSLA. Although not all posts qualify as memes, many are designed to get attention by poking fun at Tesla and Elon Musk.
A short squeeze is an event where an aggressively shorted stock's price rises unexpectedly. As a result, short-sellers must quickly close out their positions, thereby fueling a dramatic bullish move in stock price.
Reddit traders have a storied history of attempting to benefit from short squeeze strategies. In fact, the r/shortsqueeze community is devoted solely to finding opportunities in this arena. The strategy unfolds per the following progression:
- R/shortsqueeze members scan the stock markets for instances where institutional investors such as hedge funds or ETFs have short-side exposure to a particular company.
- When identified, the members promote a bullish stance toward the company.
- If the intensity of public buying sends the stock price soaring, then the short-sellers will have to close out their positions.
- Once the short-sellers exit the market, the company's stock price rises dramatically.
Prominent examples of Reddit short squeezes have occurred with BlackBerry, GameStop and AMC stock. In the case of AMC, prices jumped from US$2.20 to US$56.68 from 1 January 2021 through 30 June 2021. The robust uptick in value caused many Reddit traders to predict that AMC would continue its upward trajectory and exceed a US$1 trillion market cap.
Regulation Of Reddit Stocks
The highly-publicised Reddit stocks of early-2021 caught the attention of many regulatory bodies, namely the U.S. Securities and Exchange Commission (SEC). Following the GameStop and AMC breakouts of January 2021, the SEC issued a statement regarding the market turbulence:
"Extreme stock price volatility has the potential to expose investors to rapid and severe losses and undermine market confidence. As always, the Commission [SEC] will work to protect investors, to maintain fair, orderly, and efficient markets, and to facilitate capital formation."
A few weeks later, in February 2021, the United States Congress held a pre-second quarter hearing over the GameStop incident. It heard testimony from Robinhood and Reddit CEOs, most of which addressed the issues of market manipulation and financial integrity.
As of this writing (25th November 2021), no new SEC or governmental regulations are in place to prevent Reddit traders from using social media to discuss stocks. However, according to Sen. Elizabeth Warren (D-MA), "There are rich people on both sides of this, people who are trying, it appears, to manipulate this market. And that's what we don't know the details of." Given the significant governmental interest in social media and Reddit stocks, the future of regulation remains unclear.
The rise of social media has allowed traders and investors to openly collaborate on the financial markets. As one of the world's leading platforms, Reddit is a hub for analysis, discussion and stock-picking. Subsequently, equities offerings known as Reddit stocks periodically spike in popularity and generate extraordinary volatility.
Realistically, any equities offering can become a Reddit stock. Drivers of public interest vary, but they include valuation models, meme stocks and short squeeze strategies. Examples of top Reddit stocks are AMC, GameStop and Tesla.
During 2021, subreddits such as Wallstreetbets came under SEC and Congressional scrutiny. While no formal regulations were enacted against the Reddit traders or retail broker Robinhood, the situation remains fluid. As of this writing, the future of the top Reddit stocks, Wallstreetbets and social media trading is largely unknown.
FXCM Research Team
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