How much are meme stocks really moving the markets?

This is “not just something to be looked at and joked about,” Silverblatt says of investors flocking to social media sites like Reddit and pouring billions of dollars into what have now become known as “meme stocks.”

The frenzy began at the end of January, when a sea of retail investors rallied around video game retailer GameStop and forced hedge funds out of their short positions—their bets that the shares would decline. The stock price is up about 1,252% from the beginning of this year.

It was the first time a fleet of supposedly uninformed investors had bested institutional investors to such a degree. For Silverblatt, it was also a tip-off of what could lie ahead.

So far, the impact of meme stocks—Bed Bath & Beyond, Beyond Meat, and Clover Health have since joined the list—on the broader market has been minimal. “We can no longer say that will always be [the case],” Silverblatt says.

FAANG stocks (Facebook, Apple, Amazon, Netflix, and Google [Alphabet]​) are the large-cap behemoths that tend to sway the market. As seen in 2020, strong performance from these companies can continue market gains through a pandemic, even with soaring unemployment and cities shut down. The impact of relatively tiny meme stocks on the overall market pale in comparison to the likes of the $1.7 trillion market cap of Amazon or the $2.1 trillion of Apple.

Even so, the impact of meme stocks—and GameStop in particular—on the small-cap sector is notable.  

The S&P’s small-cap index, which tracks 600 small-cap companies in the U.S. across 11 industry sectors, has GameStop sitting in its No. 1 spot in terms of market capitalization, despite the company’s recent stock price plummet after it said that trading of its stock was under SEC investigation. GME’s capitalization was more than $16.8 billion at market close June 11. The runner-up for capitalization is Macy’s, which closed at $6 billion and has more than three times the 2020 revenue of GameStop. 

“That’s abnormal—I mean that’s an extreme,” says Silverblatt of GameStop’s market cap compared with others on the index.

Small-cap indexes surged this year. Both the S&P 600 and the Russell 2000 Index, which tracks the 2,000 smallest companies in the Russell 3000 Index, are up more than 70% over the past 12 months. (Of course, large-cap markets are thriving, too. The S&P 500 closed at a record 4,243.91 Friday.)

Funds that track the small-cap indexes have benefited from surges in meme stocks—as have executives at companies like AMC Entertainment who are taking home millions by cashing in on their shares.

A new kind of investor

The financial markets underwent a key shift in investor demographics in 2020, whether it be from stay-at-home boredom or newcomers sensing an opportunity.

A slew of lower-income and more racially-diverse investors entered the market last year, according to the Financial Industry Regulatory Authority and the University of Chicago. Some 66% of investors opened their first taxable account last year, according to research on more than 1,200 households, and most of them were under the age of 45.

The broker-dealers the newcomers use to trade stocks, including Robinhood, Charles Schwab, or Fidelity Investments, have seen radical increases in business, with individuals opening millions of new accounts.

In the cases of GameStop and other meme stocks, many investors are buying positions, then closing them shortly afterward. 

“What’s going on with the meme stocks is that there are a lot of people who are certainly trading intraday,” says Dave Sekera, chief U.S. market strategist for investment research company Morningstar. “And so when that momentum turns, that’s why we also see a lot of people trying to hit the bid on the way out.”

This kind of trading is “incredibly risky,” says Tony Molina, a CPA and senior product specialist at automated passive investing company Wealthfront. With such extreme price fluctuations, Molina says that “there’s a lot of potential to lose money as well as gain money.”

People can no longer discredit the impact that social media has had on those fluctuations, according to Silverblatt.

“There’s been a significant seismic shift in what motivates these younger investors who are going into the market,” Silverblatt says.

While traditional Wall Street investors have relied on detailed financial forecasts or models, there appears to be a lot of movement based on stocks like AMC or BlackBerry that are likable to these meme investors, or what is currently trending.

Earlier this year, the House Financial Services Committee asked Reddit CEO Steve Huffman to testify alongside executives at Robinhood, hedge fund Citadel, and hedge fund Melvin Capital. Huffman was asked to testify particularly about what role that chatter on the social platform had played in the GameStop market events in January.

Gary Gensler, the new chairman of the Securities and Exchange Commission, which oversees the markets and financial services companies, said in March that he would focus on the problem of “gamification” of trading and brokerage apps during his time in charge of the agency.

But many analysts would say it’s a stretch to think that extreme market movement in a few, relatively low-capitalized companies will have any major effect on the broader market.

“It’s just not large enough to have an impact on the overall market volatility,” says Morningstar’s Sekera.

While there may be plenty of other AMCs or GameStops to emerge in coming months, Molina at Wealthfront doubts whether meme stock volatility can significantly swing the broader markets.

“That, to me, seems super far-fetched, and I just don’t see that as where we’re headed in the overall global market,” Molina says. 

Whether or not meme stock madness could lead to more widespread volatility in the S&P 500, the mania has evidently led many to rethink the status quo.

Earlier this month, Bank of America’s equity research team stopped covering GameStop, and it suspended its coverage on Bed Bath & Beyond. Financial regulators told the House Financial Services Committee in May that they are studying what has taken place in the markets this year and are reviewing whether to update their rules. In the past, S&P Global has removed companies that outgrew the small-cap index. It wouldn’t confirm whether it was considering doing so in the case of GameStop.

GameStop, social media, and memes have taken the financial community on an unexpected ride. The permanence of their impact remains to be seen.

Correction, June 14, 2021: A previous version of this article misstated which Citadel business an executive represented when testifying before Congress. He represented the hedge fund. The article has also been updated to clarify S&P Global’s statements about GameStop’s position in the small-cap index.