Why did a seemingly ungainly retail video games shop cause such a tumult in the haughty egotistical world of Big Finance? It could not have been that the sums of money involved were astronomical. After all, GameStop stock valuations pale in significance to the $1.7 trillion dollars fiscal stimulus that is being proposed by Joe Biden. Yet, in a few days in January, GameStop shook the heart of the Wall Street financial establishment.
As the saga unfolded, apart from the seriatim commentary on the movements in the stock price, more searching questions were raised about the volatile and often vacuous nature of the stock market in a capitalist system. The global capitalist financial structure often gets a free pass, as the alternatives are too dreadful to mention or they are simply ignored as being too coarse and impracticable.
It all began when private investors on a multitude of forum boards – primarily Reddit’s Wall Street Bets community chat – took a principled stance against the many short positions taken by large hedge funds that were betting on the demise of the company. A similar phenomenon was also seen with other stocks such as Nokia, Blackberry, AMC Theatres, and Cineworld UK. The reaction on the forum boards was initially emotive as private investors bemoaned the premature demise of once ubiquitous brands that they had grown up with. This unassuming reaction without warning quickly morphed into a cantankerous campaign to “Stick it to the Big Guy”. The next step of the process was perhaps the most crucial and unprecedented of all. The Herd started moving at pace, buying Gamestop stock options, effectively sustaining the price, and hurriedly accelerating the upward movement of these stocks. Prices rose from $39 on the 4th of January to $94 on the 24th of January and eventually hit $450 on the 28th of January, an unprecedented rise in share value. The movement in price was so overwhelming over the first few days that the hedge fund Melvin Capital had no option but to exit their short positions, incurring losses of $3bn, with Gabe Plotkin the founder of Melvin Capital personally losing $463 million.
Frictionless platforms such as Robinhood have enabled the ease by which private investors can trade speculatively. Private investors can now trade with fractions of shares down to $1 as the minimum level of entry without transaction fees, adding to the “Gamification” of the whole process. A major catalyst in the quickening of stock prices was the endorsement by Silicon Valley oligarchs such as Elon Musk and more resoundingly by Chamath Palihapitiya, who champions himself as the patron of the “Little Guy” having himself come from a Sri Lankan immigrant family.
The sentiment expressed by private investors is in many ways similar to grievances that have been aired in other political paradigms; The Occupy movement, the Election of Trump, and Brexit. This phenomenon can be seen as another opportunity to express frustrations with global capitalism and in particular at Wall Street. The issue highlights and amplifies the intrinsic paradoxes within the market economy, with the growing realization that there have been a few clear winners while most have come out substantially worse. Robinhood suspended trading in Gamestop shares on the 28th of January, causing the price to subsequently tumble. There is incontrovertible evidence to suggest that it was maneuvered into this position to back institutional players. This action in itself reconstituted the fears and suspicions of the private retail investor.
What does the Gamestop saga teach us? What goes up must eventually come down. The creation of artificial financial bubbles can happen by design or inadvertently. These financial bubbles have a historical context going back to the Tulip bubble in 17th century Holland, The Stock Market Crash of 1929, The Dot Com crash of 1999, and of course more recently the housing bubble and Global Financial Crisis in 2008. Hymen Minsky wrote about “The Business Cycle”, how euphoria in a constantly progressing upwards trend leads to complacency and hence eventual bursting of the bubble. The creation of artificial bubbles in an Islamic economy fostered by short-term frenzy, short selling, and virtual financial instruments are unlikely to occur. Aside from the prohibition of short selling which is evidenced below, short-term frenzy centers around unabated speculation. In Islam, the critical construct around investment is for productive growth, as trading in the share of a business is not intended to be the primary activity.
The Islamic perspective
Short selling in relation to the stock market is a mechanism where shares in a company are borrowed from a lender for a fee. They are immediately sold at a high price. The hope is that the price of the shares falls, so they can then be bought back at a lower price. Then the original shares are returned to the original lender and the short-seller pockets the difference. Short selling in Islam is generally prohibited. Their impermissibility is essentially on the principle that trading in something you do not own is impermissible.
Hakim ibn Hizam relates that he asked the Prophet ﷺ,
“A man may come to me wanting to buy something that I do not possess; should I buy it for him from the marketplace then sell it to him?” He (the Prophet ﷺ) said “Do not sell that which you do not possess.” (Narrated by At-Tirmidhi 1232, An-Nasaa’I 4613, Abu Dawood 3503, and Ibn Maajah 2187.)
And he ﷺ said, according to the hadeeth of Abdullah Ibn al-As,
It is not permissible to take a loan and sell at the same time or to sell that which is not in your possession (Narrated by the 4 with a sahih isnad.)
Classical trading platforms return a profit whether the user wins or loses. These classical trading platforms work on the basis of a transaction fee which is collected when any trade is placed irrespective of the eventual direction of the trade. However, disruptive platforms such as Robinhood are even more nuanced and pernicious. They disguise their intent with transactions that are classed as being free and frictionless. Hence no transaction fees are taken from the private investor. This business model returns a profit by selling the transaction data (and probably personal data) to the brokerage or clearinghouse a fraction of a second before the trade occurs; this provides the brokerage house with crucial information of aggregate transactions.
Disruption is an often overused term in modern business-speak but may aptly apply here. The Gamestop episode is telling in that whatever the original motivations of the Reddit boards, the extreme price movements were essentially powered by viral campaigns based on profit insatiability. This is the same insatiability that has been demonstrated previously by financial institutions. Only now the players have changed. However, this is where the similarities take a pause. The small private investor, whether envisioned or not, has made an impact on the conventional modus operandi of the stock market. The ability of these players in a herd to principally change the direction of an established perspective, effectively overnight, has shaken the orthodoxy of the stock market.
The fundamental construct of Islamic economics is that it encourages trade and entrepreneurship for the benefit of the trader and of society. Where productive enterprise is fostered, however, the current free-market financial industry model is by design a platform for speculative trading and not a vehicle to supply equity into productive enterprise. Incentives and behaviors that drive any economy, Islamic or otherwise, have played a pivotal role in the Gamestop saga. Capitalism has a reductive approach to human behavior in that it promotes self-interest as the cornerstone of all human actions. It depicts this as being amoral. Islam by its essence is not reductive and incorporates a holistic approach as to why a person should carry out an economic activity. Economic policies in Islam are formulated on the needs of society, the religion, and the individual, and not by material gain alone. Hence incentives can be moral, spiritual, material, societal, or a combination of these.
Investing for a Muslim is at the best of times in the current financial framework fraught with danger. The intricacies and complexities of the modern financial landscape coupled with a nested framework of corporations and holding companies make it difficult to appraise the essential legitimacy behind an enterprise. This will color any subsequent investing decision. The maxims applied to investment decisions are the following:
- You cannot trade or invest in something you do not own
- You cannot trade in haram activities or base investments in enterprises that have haram concerns
- The purpose of the investment should be for productive, non-speculative purposes (although this is a bit more difficult to discern).
Trade, Investing, and Speculation are terms often used interchangeably and are ripe for confusion.
Allah subhana wa ta’ala says in the Qur’an,
Allah has permitted trade and prohibited Riba (2:275)
Disperse through the land and seek the bounty of Allah (62:10)
Islam does not guarantee profits or eliminate risks of every kind. It accepts that trade and/or investment is inevitably about taking some element of risk. What Islam assumes differently is that it carries responsibility, in addition to seeking profits. Externalities (or other considerations) carry immense weight. These considerations are formed from the adherence to the values that Islam inspires such as spiritual upliftment, benefitting the needy in society, creation of gainful employment, and the circulation of wealth. This does not mean that every investment is solely for altruistic purposes. The very nature of investment is to seek a higher material return, and this principle is not alien to Islam but is delimited within other objectives.
Regulation is an important dimension in the Islamic economic model. The Hisbah (Regulator) is not just concerned with the running of efficient operations of the markets but brings into being other wider concerns to the issue at hand. Regulators in a capitalist framework tend to be focused on the efficiency and operations of the markets, leaving externalities to the government to address. Coupled with an overriding principle of minimal regulation, this means that a free-market model is by definition not comprehensive. Regulation in itself is the antithesis to free-market economics. Where regulation does intrude, it does so only to protect the established equilibrium. Janet Yellen (Treasury Secretary), when discussing Gamestop, was referring not to institutional investors having rigged the market in their favor for so long, but instead about collusion between retail private investors on forum boards.
Yet collusion is an ever-present scourge on modern financial markets. It has become nested and visceral and almost impossible to eradicate. The reason for this is often quite simple. Collusion superficially is nearly always defined as the pernicious arrangement between two or more parties to gain benefit either by access to “perfect” information that others do not possess or to crowd out other participants. However, the collusion between regulators and the large financial players in maintaining the status quo of the market is rarely noted. This is perhaps the most insidious and unnoticed effect of collusion.
Both regulators and Wall Street possess the same conceptual orthodoxy of the market and its operations. Hence, collusion between the two is only natural as the aims and objectives coincide. The Gamestop episode offered only minor annoyance to this cabal, but it did expose the soft underbelly of the framework without really challenging it comprehensively. Capitalism has a strange habit of absorbing and subsuming new movements, such that they are seen as eventually being inextricably linked to the tenants of the free market itself. There are already moves a plenty to sow the seeds of assimilation in elements that have demonstrated a rebellious outlook. Chief amongst these are private retail investors who do not have the endurance instincts to individually resist the Wall Street onslaught. After all, the herd did not move again in the same fashion for another stock as it did for Gamestop. Other stock movements subsequently have petered out before really getting off the ground.
Free-market capitalism has an uncanny ability to portray itself as being synonymous with trade. To the extent that one cannot be seen, as if by a conjuring trick, without the other. They have become in the minds of people inextricably linked. This is perhaps the primary reason for the failure of movements such as Occupy, which dissipated because their narrative could not form an alternative to capitalism and trade. Their battle was framed in the light of trade being at one with free-market economics, thus the fight was lost before it really started. Islam provides a clear distinction between trade and free-market economics from an elementary perspective. Trade is an important function in an Islamic society, however, it is not the sole reason for existence. The West has lost this distinction and rampant commodification has evolved to such an extent that societies have transformed from being human societies to being market societies.
About the Author: Riaz Hassan is a host on The Thinking Muslim podcast and currently works in Artificial Intelligence and Innovation as a senior strategist. He previously worked in the financial and investment industry for over 15 years in a senior capacity