Shorting a Meme Stock

I first shorted AMC stock on August 27, 2021. Trading at $40.09 a share, the stock had soared during the pandemic. Despite years of negative earnings, AMC was favored by retail traders and hailed a “meme stock”. In the coming months I repeatedly doubled down, amassing a much larger short position as the stock’s price rose.

Since early 2020, I had watched many funds and investors get burned in short positions. Irrational price gains, like the explosions of GameStop or Dogecoin, enticed bets in the opposite directions. Many of the assets championing newly high prices, however, seemed to hold onto these valuations and dry up short-sellers’ solvency.

How could someone tell, then, if something was worth shorting? Even if it was priced absurdly high, could it stay that way longer than any contrarian could last? This is the dilemma that short-sellers were facing against meme stocks. The problem is that they entered positions before they considered it.

Price gains in GameStop initially shocked people. Nobody knew why its stock was skyrocketing. Even after its popularity amongst retail investors became known by the Street, it seemed to sustain retail interest longer than most assumed it could. Prices were inexplicable in stocks like GameStop, AMC, Blackberry, and more, and short-sellers were piling in.

Something I learned from this process is the concept of hidden risk. If there are price movements you don’t understand, there is hidden risk beyond your understanding. Even in the case of an obvious overvaluation, there is hidden risk if it is unclear how it got there or why its price may remain high.

The price movements in many memestocks and retail favorites were similar to trends in anything: fashion, gadgets, toys, apps. Understanding the audience of the trend — their attention span, funds, and determination—is thus critical to being able to capitalize on it.

In the case of meme stocks, the funding was largely derived from stimulus checks. A large proportion of retail investors held the attitude that the stock market was similar to a game, and meme stock gains were conflated with winning said game. The question then became when they would either get bored of the game or not be able to afford playing.

In many ways, a retail investor during the pandemic was like a person waiting for their plane. Have you ever installed a game on your phone due to a delay? You might play that game for a while, and maybe you’ll think the game is entertaining enough to regularly play. When your plane arrives, however, you turn off your phone and quickly forget. Retail investors were bored during the pandemic, with nothing keeping them busy, so they played the game.

Fast forward to August 27, 2021. Stimulus checks seem to have stopped. Life is returning back to normal, and schools are preparing to welcome their students back to class in person. AMC stock is ridiculously high, but it was a trend I was willing to bet against.

Every irrational price asymptotes to zero. In the case of AMC, I thought the zero was coming. While I found it likely that some retail investors would hold its price in place at an undetermined level, I thought the trend had plenty to lose before leveling off. I continued to short when the stock was at $50.57, $40.73, and $43.96.

On December 2, 2021, I closed my position when the stock was at $29.69. AMC stock stopped winning, people playing the game got bored, and many were moving on with their lives. I figured that even a $29 per share valuation seemed exorbitant for the company, but I was happy backing out with pretty significant returns.

Today, AMC is trading at $15.35. The trend is over. What happened to its investors who pushed it to its $72 all time high? Maybe they ran out of funds, maybe they got bored. Either way, it seems the hidden risk has been teased out.