In September, Sinan Aral published The Hype Machine: How Social Media Disrupts Our Elections, Our Economy, and Our Health — and How We Must Adapt. Five months later, the book might be described as prophetic: This month alone at least two of Aral’s three predictions have come to fruition. First there was the Capitol riot, fueled by months of lies about election fraud on social media, and then there was this week’s Wall Street meltdown, courtesy of Reddit message-board users who launched a fading retail company’s stock price higher than that of Apple. I spoke to Aral, director of MIT’s Initiative on the Digital Economy, about the gray area that is large coordinated stock buys and whether the Securities and Exchange Commission can do anything about it.
How did you see this coming? Has this sort of thing ever happened before?
In my book I start with the example from April 2013, when Syrian hackers infiltrated the Associated Press’s Twitter handle and put out a tweet that said, “Two explosions in the White house and Barack Obama is injured.” This tweet went viral and the market crashed — it lost about $140 billion worth of equity value in a matter of minutes. What we have to realize about examples like that is that social media doesn’t live in isolation. Companies like Dataminr and Ravn use algorithms that sift through the sentiment on social media, trying to find signal in the noise. And they’re connected to automated trading algorithms. They’re also giving buy/sell recommendations to institutional investors in real time. There’s a feedback loop between social-media sentiment and trading already.
With GameStop, I think there are a number of really important questions that we have to ask. Is this illegal? Is this market manipulation, contravening some sort of rules? There are at least three categories of speech here that matter. One, if I long the stock and I get in there and I put out misinformation in order to encourage other people to buy the stock, that’s textbook market manipulation that would run afoul of the SEC. Two, if I get on a message board and I’m like, “Rah, rah! Let’s stick it to the hedge funds!” while I’m buying stock, that’s just my opinion. I’m not sure that violates any SEC law. And then three is a potentially new form of speech that I would call coordination. That’s where social-media users get together and essentially coordinate large-scale buying of a stock without any misinformation. It’s not just rah-rahing, but it’s some sort of coordination. If producers were selling, we would call it price-fixing or collusion, and there are laws and rules against that. But in this case, I don’t know whether SEC rules permit that kind of speech.
I’ll also add that I fully expect an SEC investigation here because the other thing you have to find out is, were there people involved in this conversation who had ties to the stock, or to people who have held the stock, or institutions that were really in there to organize the mob? We saw those two types of people in the Capitol riot as well. There were people in the Capitol riot who were in military garb with zip ties, weapons, and a plan. Then there were people in the Capitol riot who were holding up their cell phones like they were at Disney World, marching to the Capitol, and suddenly they found themselves caught up in this thing. I think that an SEC investigation could potentially find that there are those two types of people in the GameStop situation. But that’s yet to be determined.
But people aren’t buying GameStop based on misinformation or fake news and we haven’t seen anything to suggest any institutional manipulation. I think what a lot of observers are struggling with right now is whether they should be cheering on the underdog. It’s hard to articulate why this might be a bad thing when the losers, for now, are hedge funds.
Whether it’s a good or bad thing goes to the fundamental core of what we believe the market is. If the market is the sum total of everyone’s opinions, devoid of any connection to either real performance, real fundamentals, or real goings-on at a company that would predict its performance, then maybe it’s a natural thing. But if we believe the market is tied to some underlying reality of a company, then these types of distortions are not good for an efficient market because resources aren’t being put into companies that create value by having those resources and the people who put those resources there would benefit from the true economic value creation that a company would conduct based on having those resources. I don’t believe that we want a financial market that is one big Ponzi scheme based on the whims of certain people or influencers. I prefer to believe in a market that has some fundamental realities to it, which then has an overlay of opinion and perspective on top of it that is a noisy distribution around the reality.
Is this something that the finance industry has been waiting for?
That’s a good question. I don’t know. I’m not sure whether they had this specific thing in mind or not, but I am fairly sure that most quantitative financial analysts understand that there is momentum based on information, diffusion, and opinion.
By the way, there’s also an ironic feedback loop going on here. Institutional investors like hedge funds frequently use automated systems to mine sentiment in social media and link those to automated trading algorithms and/or buy/sell orders. There’s multiple different feedback loops going on. It’s not as if there’s the institutional investors on one side and then the crowd on the other saying stick it to the man. The institutional social listening is plugged in to the social media sentiment and is sensing changes in real time as well. I think that feedback loop and other feedback loops are important to this process. BlackRock was long on GameStop and may have made more than $2 billion this week on that stock alone.
So how can we adapt to this?
The next step needs to be an SEC investigation. I think we need the full details before we decide how we’re going to adapt to it. In my book I describe four levers that we have to adapt generically: money, code, norms, and laws. Money represents the business models of the systems and platforms, because money creates the incentives that their users and their clients abide by. Code is how the platforms are designed and how their algorithms are designed. I described at length the sort of neuroscientific cognitive behavioral aspects of the design of platforms like Robinhood, where you get a confetti image when you make a trade or when you make a gain. That stimulates the dopamine reward system in your brain. That’s actually by design and that’s true on Facebook and Twitter and everywhere else. It’s gamified. Norms is how we, as a society, decide to behave. Examples of movements, in terms of those norms, include deleting Facebook or stopping hate for profit. Another adverse norm is manipulating the GameStop stock price. Then, finally, we have laws, how we regulate. That could be everything from privacy to Section 230 of the Communications Decency Act, if we’re talking generically, and in this case it involves SEC investigation, SEC modernization of rules, and so on.
In the situation that I described, where this isn’t institutional manipulation but an organic coalition of home traders, which one of those levers needs the most work?
There’s two things that need to happen before we discover when the dust settles. First, we need to see who’s going to be left holding the bag. If it’s the retail investors that started this, then it’s going to be much harder to convince people to join a mob like this in the future. There’s going to be a moment where people in that retail investor group who are part of the “hold the line” crew decide they want to take their profits. They’re going to want to appropriate the value that’s been created on paper. Once they start doing that, the stock price is going to drop, and then somebody is going to be left holding the bag and it’s not clear who that’s going to be. Is it going to be the people who tagged along or people who were found to have been organizing, or is that distinction even relevant? It’s not clear yet.
Once we see who is holding the bag, we need to see if there will be SEC action. If there is, who is the SEC going to act against and how are they going to do it? That could also be a deterrent for future behavior like this.