Over the last few weeks there has been a great deal of buzz about GameStop. In case you missed it, GameStop is a retail company that sells video games and associated equipment in shopping centers across the country. Due to the recent pandemic, many Wall Street Investors noticed that people are shopping in person less and thus predicted that the GameStop and its stock would go down in price. Some of those investors even made bets that this would happen (by “shorting" the stock).
Many individual investors on an internet forum disagreed with this prediction. In an act of defiance, they decided to buy large shares of GameStop stock and encouraged everyone on the forum to do the same thing. As more and more people bought the stock, the price of the stock increased drastically. The stock price increased from around $20 at the start of the year to over $400 at one point proving the Wall Street investors wrong and causing some of the largest investment firms to lose millions of dollars in the process. Conversely, many of these individual investors who were on the internet forum made thousands of dollars. Many people realized how much money they had made and began to sell the stock to realize their profits. As more people sold their stock, the price of the stock began to decrease. As I’m writing this article, the stock is around $60.
Here are 5 lessons we can learn from GameStop:
1. Sometimes buying individual stocks can make you a lot of money. The GameStop stock price increased from $20 to over $400 at some point. People who purchased shares of the stock around that lower number and sold it around the higher number made a substantial profit. There have been reports of people making thousands of dollars and beyond.
2. If you purchase a stock when it is already near its peak you can lose a lot of money. While many people on the internet forum who bought the stock when it was around $20 made a huge profit, many people who purchased the stock when it was near $300 or $400 were not as fortunate. Because the stock went down in price and is now around $60, anyone who bought the stock higher than this price lost a substantial amount of money.
3. Making money buying individual stocks relies on good timing and good luck. Some people made a lot of money by purchasing the stock and some people lost a lot of money by purchasing the stock. Which group you may fall into if you choose to buy individual stocks depends on many factors, but two of the biggest factors “good timing” and “good luck.” None of us can predict the future, so despite how good we think our guesses may be, making money by purchasing individual stocks has a great deal of risk. Who could have predicted that people on an internet forum would buy stock in a struggling company and cause the price to increase over 600%? Who could have predicted that the price would decrease to $60 less than 2 weeks later? A lot of the profit people make buying individual stocks requires them to buy the stock and sell the stock and just the right point and timing these two things can be challenging to say the least.
4. The prices of stocks can change drastically. In this situation, the price of GameStop stock ranged from $20 to well over $400 and the change happened in the span of weeks. Although changes to stock prices don’t usually have this wide of a range, this situation was a good illustration of a key investment principle: prices of stocks can change and some stocks are more volatile, and likely to have these types of changes more frequently than others. This can be great news for investors who are able to “time the market” and happen to buy the stock at its low point, but this can be hard to do. Stock prices change for myriad of reasons that you can’t always predict.
5. Stock prices aren’t always based on the company’s financials and overall value. GameStop prices changed a lot over the past few weeks, but this change wasn’t based on something that the company itself did. In fact, nothing about the actual business of GameStop or its financial outlook changed. Yet, despite this, the stock price fluctuated a lot. Although this worked out well for investors in GameStop who made profits, the fact that stock prices can change may not be so good for other companies who are more successful. In fact, it isn’t uncommon for successful companies to experience a drop in their stock price despite increasing their revenue and doing good from a “business sense.” Since a company’s stock price isn’t always based on the company’s financials, this makes it more difficult to predict which stocks will earn you a profit and which will not.
My point? Buying individual stocks is risky. You have the potential to make a lot of money, but you also have the potential to lose a lot of money. What actually happens for you depends a lot on luck. To avoid having to rely on good luck, I invest in index funds. This means I own a little piece of all the stocks. This strategy gives me steady profits and also minimizes risk.