Buried in Reddit, the Seeds of Melvin Capital’s Crisis

For months, retail investors posting on a Reddit forum were broadcasting their intentions to take down a prominent, but reclusive, hedge fund called Melvin Capital — and doing so by buying call options on video game retailer GameStop, a stock in which Melvin had disclosed a big short bet. 

But the effort appears to have failed, thanks to a $2.75 billion investment by Citadel and Point72 Asset Management, according to a statement from all three firms.  

That’s not going to fill the entire hole. As of Friday, Melvin was down 30 percent this year, which comes to $3.75 billion of the $12.5 billion with which it started 2021, according to calculations using numbers reported in the Wall Street Journal, which first revealed that the hedge fund was getting the bailout.

The effort to take down Melvin appears to have started late last year, and by mid-January, short sellers began noticing spikes in the price of GameStop. They suspected someone was covering — well-known short sellers Jim Chanos and Andrew Left were known to be short GameStop and had tweeted about the company. 

But it wasn’t either one of those men who had earned the most ire of a popular Reddit forum, WallStreetBets, whose description reads, “like 4Chan found a Bloomberg Terminal.” 

These retail investors had taken aim at Melvin, a fund headed by Gabriel Plotkin, a former portfolio manager with Steve Cohen’s SAC Capital. Cohen’s successor firm Point72 had more than $1 billion invested in Melvin’s fund, according to the Wall Street Journal.

About two months ago, a Reddit user called Stonksflyingup posted a video, with the title “GME Squeeze and the Demise of Melvin Capital” — with trial scenes from the miniseries “Chernobyl” superimposed with text asserting that “Melvin Capital got too greedy,” as well as an explanation of how a short squeeze can occur. The clip concluded with a photo of an explosion with the words “Melvin Capital” splashed across it. 

More Reddit posts and videos about Melvin Capital have been posted since then, and the Reddit users even started mentioning other stocks Melvin Capital was shorting, like Bed Bath and Beyond.

“Here’s the next play after GameStop to f--- Melvin Capital even more,” wrote a WallStreetBets user ten days ago, referring to the specialty retailer. 

“They made it their f------ life mission to take him out,” said one hedge fund manager who is also a short seller and has been watching the Reddit forums on Melvin for months. “They are the stock version of insurrectionists.”

[II Deep Dive: In Tough Year for Short Sellers, Muddy Waters Pulls Off Big Gains]

The Reddit users were able to discover Melvin Capital’s short against GameStop because it was expressed in listed put options. Unlike most short positions in the U.S., those bets must be disclosed in filings with the Securities and Exchange Commission. 

Melvin’s most recent filing showed that it held 5.4 million puts on GameStop, valued at more than $55 million — an increase of 58 percent during the third quarter.

Melvin also disclosed short bets via puts on more than a dozen other stocks — and the prices of many of those have also been soaring.

The big stock moves all began happening on January 12, the day after activist investor Ryan Cohen, also the co-founder of online pet retailer Chewy, joined its board. Since then, GameStop had gained about 600 percent as of Monday morning around 10:30 a.m. but has since come off a bit. It’s now up 300 percent for the year.

Melvin’s biggest short was GSX Techedu, in which it had owned put options worth roughly $149 million at the end of the third quarter. GSX had soared last year, hurting other short sellers, but had started to come back down. This year, it had fallen more than 10 percent until January 12, when it began to climb back up. It’s now up nearly 90 percent for the year after doubling since the mid-January move.

Other shorts Melvin disclosed were the talk of Wall Street on Monday, including National Beverage, iRobot, and Bed Bath and Beyond. All were soaring Monday morning — when the overall market was down.

Short sellers say that may be because Monday was the first time traders could buy those shares since the Wall Street Journal reported on Friday evening that Melvin was having a bad year because it was losing money on GameStop and other unnamed positions. These stocks were ripping before the market opened, which short sellers say indicates that more sophisticated traders, including other hedge funds, besides the Reddit users were getting in on the action. (The Reddit users typically buy call options, which can’t be done except during market hours. After hours, traders must short stocks via a prime broker.) 

Melvin’s other short bets also have been climbing since January 12. National Beverage, for example, had gained more than 70 percent since January 12 until Monday morning at 10:30 a.m., at which point it peaked. It’s still up almost 40 percent for the year.

But the short squeeze may be over, as hedge fund heavyweights are now solidly behind Plotkin.

On Monday, Point72 agreed to invest $750 million, and Citadel is investing $2 billion. Both are taking a non-controlling passive revenue share in the firm. 

“Gabe Plotkin and team have delivered exceptional results over the history of Melvin. We have great confidence in Gabe and his team,” Ken Griffin, founder and CEO of Citadel, said in a statement.

Steve Cohen offered his testimonial as well: “I’ve known Gabe Plotkin since 2006 and he is an exceptional investor and leader. We are pleased to have the opportunity to invest additional capital and take a non-controlling revenue share in Melvin Capital.”