* By: Lara Ryan
On January 27, 2021, the White House and U.S. Securities and Exchange Commission (SEC) announced that they were “monitoring” volatility in the stock price of GameStop Corp. (NYSE: GME).[i] The announcement came as no surprise to those who had been following events surrounding the video game retailer’s stock.[ii] GME stock surged by as much as 1,700% in just two weeks.[iii] GME’s 10-day realized trading volatility, which measures movement in the stock’s price[RL1] , was 308%.[iv] Forty-four “circuit breakers,” or automatic trading halts, were triggered in the first two hours of trading on January 27 alone.[v]
A group of retail investors, empowered by easy access to commission-free trading and social media, triggered a short squeeze in the stock.[vi] The resultant rise in stock price caused one hedge fund to seek an injection of emergency funds to cover its short positions.[vii] Events surrounding GME drew attention because they brought together many areas of growing concern in stock markets, including: (1) the business practices of zero-commission, app-based trading platforms and, specifically, payment for order flow[viii] and the use of “game-like” features to generate user activity;[ix] (2) clearing corporations’ demands for greater margin during downturns, which drain liquidity and increase potential contagion effects;[x] (3) the need for a shorter trade-settlement cycle to mitigate credit risk;[xi] and (4) political and financial stability concerns related to quantitative easing and negative or near-zero interest rates.[xii]
In the wake of GME, regulators, legislators, and the media have all scrutinized these issues.[xiii] However, the events of GME exposed another issue that requires greater attention: the extent to which technology challenges core assumptions of market regulation and the need for smarter tools to regulate the digital economy. Threats to retail investors are fundamentally different in a digital economy providing “democratized” access to financial market speculation.[xiv] To properly discharge its investor protection mandate, the SEC must think differently about its approach and must adapt flexible tools to address these issues.
GME spotlighted the serious threat to investor protection posed by the combination of social media, access to frictionless zero-commission trading apps, and a dearth of quality investor advice. Consequently, growing public concern with social media “filter bubbles” and the role of algorithms[xv] is spilling over into the SEC’s domain as financial regulators grapple with the potential for social media to facilitate market manipulation.[xvi] Indeed, the phenomenon has already earned a name of its own: “meme stocks.”[xvii]
Concern with “meme stocks” raises the more difficult issue of whether the SEC can or should attempt to regulate online speech in order to discharge its regulatory mandate. Arguably, the door is open for social media abuse until the SEC draws a regulatory line between the expression of opinion and misleading communications concerning securities markets.[xviii] On the other hand, if the SEC takes measures to restrict investors’ ability to communicate online, it runs the risk of overstepping its regulatory remit.[xix] It may also run the risk of contravening its mission to “maintain fair, orderly, and efficient markets” by appearing partial to incumbent players (e.g., hedge funds) by shutting-off retail investors’ channels of communication.[xx]
Unknowns associated with “meme stock” trading complicate the SEC’s ability to design solutions that curtail new risks to investor protection.[xxi] The SEC is regulating an environment it does not yet fully understand, which means it will need to experiment with its approach.[xxii] At the same time, unfamiliarity counsels against new rulemaking because of the potential for formal rules to produce unintended consequences. It is also unclear whether SEC needs new rules in this area; it can already prosecute fraud under Section 10(b) of the Exchange Act and Rule 10b-5 and market manipulation under Sections 9(a)(1) and (2) of the Exchange Act.[xxiii]
In fact, SEC rulemaking may be partly responsible for creating the vacuum in investor advice that rendered retail investors reliant on social media in the first place. For example, in 2002, the SEC adopted rules regulating the production of research reports by brokerage firms in response to concerns with biased analyst reports.[xxiv] The rules had the effect of reducing the profitability of research production and depressing the availability of quality research for retail investors.[xxv] Some commenters suggest that the quasi-fiduciary duty recently imposed on brokers by the SEC’s new Regulation Best Interest (“Reg BI”) aggravates this issue.[xxvi] They claim that Reg BI makes it less attractive for broker-dealers to make recommendations to retail investors due to potential liability, thereby leading brokers to simply choose to stop offering recommendations to retail clients.[xxvii]
Whatever the cause of the problem, the solution lies in identifying and crafting tools to stay ahead. Hedge funds will undoubtably add social media investment sentiment as a factor for consideration in the wake of GME.[xxviii] The SEC should keep pace by leveraging advancements in artificial intelligence and natural language processing to detect potential fraud.[xxix]
Core concerns with investor protection stem from issues related to disclosure and information asymmetry.[xxx] “Meme stocks” are no exception. On January 30, three days after it announced it was “monitoring” the situation, the SEC released a memo warning retail investors about these “Hot Stocks.”[xxxi] The memo contains good advice, but it would be surprising if it reached even a handful of its target audience.[xxxii] The SEC’s inability to effectively use channels of communication familiar to retail investors only compounds issues with information overload and a pervasive lack of financial literacy, which all push investors toward unregulated internet sources.
The SEC must invest in technology to monitor social activity and communication among retail investors online to detect fraud more quickly, and it must work to improve investor education by reaching investors through their preferred channels of communication. As SEC Commissioner Hester Peirce acknowledged in her speech on the subject, “[t]he digital economy does pose some new regulatory challenges, but it also gives us new tools to meet those challenges.”[xxxiii]
Lara Ryan is a Junior Editor with MJEAL. They are originally from Dublin, Ireland and they majored in Economics at the University of Chicago. You may reach them at email@example.com
The views and opinions expressed in this blog are those of the authors only and do not reflect the official policy or position of the Michigan Journal of Environmental and Administrative Law or the University of Michigan.
[i] Public Statement, U.S. Sec. & Exch. Comm’n, Joint Statement Regarding Ongoing Market Volatility (Jan. 27, 2021), https://www.sec.gov/news/public-statement/joint-statement-ongoing-market-volatility-2021-01-27; Reuters Staff, White House Monitoring Situation Involving GameStop, Other Firms, Reuters (Jan. 27, 2021, 1:41 PM), https://www.reuters.com/article/us-gamestop-white-house/white-house-monitoring-situation-involving-gamestop-other-firms-idUSKBN29W2I1.
[ii] Matt Levine, How Will the GameStop Game Stop?, Bloomberg (Jan. 28, 2021, 12:08 PM), https://www.bloomberg.com/opinion/articles/2021-01-28/knowing-when-to-sell-gamestop-stock-at-the-top-is-impossible.
[iii] Sagarika Jaisinghani & Nikhil Nainan, GameStop Slugfest Spreads as Calls for Probe Build, Reuters (Jan. 28, 2021, 9:30 AM), https://www.reuters.com/article/retail-trading/wrapup-1-gamestop-slugfest-spreads-as-calls-for-probe-build-idUSL8N2K32JL.
[iv] Matt Levine, GameStop Is Just a Game, Bloomberg (Jan. 26, 2021, 12:14 PM), https://www.bloomberg.com/opinion/articles/2021-01-26/will-wallstreetbets-face-sec-scrutiny-after-gamestop-rally.
[v] Bailey Lipschultz, Reddit-Fueled Traders Trigger Volatility Halts Across Market, Bloomberg (Jan. 27, 2021, 11:07 AM), https://www.bloomberg.com/news/articles/2021-01-27/reddit-fueled-traders-trigger-volatility-halts-across-the-market.
[vi] Matt Phillips & Taylor Lorenz, ‘Dumb Money’ Is on GameStop, and It’s Beating Wall Street at Its Own Game, N.Y. Times (Jan. 27, 2021), https://www.nytimes.com/2021/01/27/business/gamestop-wall-street-bets.html.
[vii] Juliet Chung, Citadel, Point72 to Invest $2.75 Billion Into Melvin Capital Management, Wall St. J. (Jan. 25, 2021, 3:49 PM), https://www.wsj.com/articles/citadel-point72-to-invest-2-75-billion-into-melvin-capital-management-11611604340; Kat Lonsdorf, ‘The Game Is Rigged’: How Fury Over The Great Recession Fueled The Reddit Trade, Nat’l Pub. Radio (Feb. 9, 2021, 5:01 AM), https://www.npr.org/2021/02/09/965129433/the-game-is-rigged-how-fury-over-the-great-recession-fueled-the-reddit-trade.
[viii] Dave Michaels, GameStop Saga Prompts SEC to Weigh Review of Payment for Order Flow, Wall St. J. (Mar. 9, 2021, 2:05 PM), https://www.wsj.com/articles/gamestop-saga-prompts-sec-to-weigh-review-of-payment-for-order-flow-11615316739.
[ix] Fin. Indus. Regul. Auth., Inc., 2021 Report on FINRA’s Examination and Risk Monitoring Program 22 (2021),https://www.finra.org/sites/default/files/2021-02/2021-report-finras-examination-risk-monitoring-program.pdf. See also Steven Lofchie et al., GameStop: Regulators Should Focus Less on “Solving the Problem”; More on “Improving the Situation,” Cadwalader Cabinet, at 7, http://www.findknowdo.com/sites/default/files/2021/02/15/18/GameStop%20Memo_%28Final%29.pdf [hereinafter Cadwalader Memo].
[x] Lawrence Goodman et al., Robinhood and GameStop: Essential Issues and Next Steps for Regulators and Investors, Ctr. for Fin. Stability, at 3, www.centerforfinancialstability.org/research/GME_Robinhood_020421.pdf [hereinafter CFS Memo].
[xi] Jim Angel, GameStonk: What Happened and What to Do About It, 25 (Feb. 10, 2021), https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3782195.
[xii] See Matt Stoller, The Cantillon Effect and GameStop, BIG by Matt Stoller (Jan. 31, 2021), https://mattstoller.substack.com/p/the-cantillon-effect-and-gamestop;CFS Memo at 2.
[xiii] See, e.g., Matt Phillips, Congress Hears Testimony Again on GameStop, Focusing on the Financial Plumbing Behind the Frenzy, N.Y. Times (Mar. 17, 2021), https://www.nytimes.com/2021/03/17/business/gamestop-hearing.html.
[xiv] See generally Capitalisn’t, GameStop, Robinhood And Our Troubling Obsession With Speculation, Univ. of Chicago Stigler Ctr. (Feb. 11, 2021), https://www.capitalisnt.com/episodes/gamestop-robinhood-and-our-troubling-obsession-with-speculation.
[xv] See John McKinnon, Legislation Would Force Google and Rivals to Disclose Search Algorithms, Wall St. J. (Oct. 31, 2019, 4:21 PM), https://www.wsj.com/articles/legislation-would-require-search-engines-to-disclose-algorithms-11572540266.
[xvi] See Investor Alert, U.S. Sec. & Exch. Comm’n, Thinking About Investing in the Latest Hot Stock? (Jan. 30, 2021),
[xvii] Andrew Ross Sorkin et al., It’s Memes vs. Regulators, N.Y. Times (Feb. 4, 2021), https://www.nytimes.com/2021/02/04/business/dealbook/meme-stocks-regulators.html.
[xviii] See Cadwalader Memo at 5.
[xix] The Federal Communications Commission is the federal agency responsible for regulating internet communications. About the FCC, U.S. Fed. Commc’n Comm’n, https://www.fcc.gov/about/overview (last visited Apr. 15, 2021). The SEC is empowered to protect investors, facilitate capital formation, and maintain fair, orderly, and efficient markets. About the SEC, U.S. Sec. & Exch. Comm’n, https://www.sec.gov/about.shtml (last visited Apr. 15, 2021).
[xx] About the SEC, U.S. Sec. & Exch. Comm’n (emphasis added), https://www.sec.gov/about.shtml (last visited Apr. 8, 2021).
[xxi] See Mike Murphy & Greg Robb, Yellen to Discuss ‘Meme-Stock’ Volatility on Wall Street with Top Regulators, MarketWatch (Feb. 2, 2021, 11:45 PM), https://www.marketwatch.com/story/yellen-to-discuss-meme-stock-volatility-with-top-regulators-report-11612327556.
[xxii] Columbia Law Professor Joshua Mitts has stressed that the SEC’s lagging approach to policing the use of social media and other new technologies in financial markets has led to substantive and organizational deficits in the regulator’s ability to identify potentially manipulative and concerning patterns. See Tory Newmyer & David Lynch, GameStop Frenzy Leaves Behind a Mess for Wall Street Regulators, Wash. Post (Feb. 3, 2021, 5:50 PM), https://www.washingtonpost.com/business/2021/02/03/gamestop-sec-regulation; GW Business and Finance Law Program, GameStop: Tug of War Between Investing Strategies – Regulating Digital Economy Conference, YouTube (Mar. 12, 2021), https://youtu.be/YoDruAjfLwY?t=2704.
[xxiii] See, e.g., Sec. & Exch. Comm’n v. McKeown, No. 10-80748-CIV, 2011 WL 13250547, at *1 (S.D. Fla. Jan. 25, 2011).
[xxiv] See Cadwalader Memo at 10.
[xxv] See id.
[xxvi] See id.
[xxvii] See id.
[xxviii] CFS Memo at 4.
[xxix] The SEC has announced willingness to use “sophisticated data analysis” to detect disclosure violations in the context of potential Environmental, Social, and Corporate Governance. Press Release, U.S. Sec. & Exch. Comm’n, SEC Announces Enforcement Task Force Focused on Climate and ESG Issues (Mar. 4, 2021),https://www.sec.gov/news/press-release/2021-42.
[xxx] See Public Statement, U.S. Sec. & Exch. Comm’n, The Importance of Disclosure – For Investors, Markets and Our Fight Against COVID-19 (Apr. 8, 2020), https://www.sec.gov/news/public-statement/joint-statement-ongoing-market-volatility-2021-01-27; Luis A. Aguilar, Commissioner, U.S. Sec. & Exch. Comm’n, Remarks before the Consumer Federation of America’s Annual Conference: Seeing Capital Markets Through Investor Eyes (Dec. 5, 2013), https://www.sec.gov/news/speech/2013-spch120513-2laa.
[xxxi] Investor Alert, U.S. Sec. & Exch. Comm’n, Thinking About Investing in the Latest Hot Stock? (Jan. 30, 2021),
[xxxii] Cadwalader Memo at 12.
[xxxiii] Hester Peirce, Commissioner, U.S. Sec. & Exch. Comm’n,Remarks before the George Washington University Law School Regulating the Digital Economy Conference: Atomic Trading (Feb. 22, 2021), https://www.sec.gov/news/speech/peirce-atomic-trading-2021-02-22.