This past week saw mania in the traditional finance markets – hedge funds were short GameStop by over 100% of the float. In laymens terms, this means that hedge funds were shorting GameStop stock by more shares than were available to trade.
A few years ago, this likely would not have caused any shockwaves. With the entrance of apps offering commission-free stock trading, like Robinhood and WeBull, a new generation of traders were introduced to the markets.
Entrepreneuring retail traders noticed this, and started to pile in on the stock, buying up shares and driving the price higher. To cover the short, the hedge funds would have to buy the shares on the open market. As the price ran higher and higher, this spelled trouble for the hedge funds that were shorting the stock.
Suddenly, the hedge funds that were short needed a bailout – to the tune of millions, and they got it. They doubled down on their position and the unthinkable happened; brokers started preventing buy orders, and only allowed traders to sell their positions, while allowing institutional clients to buy. This is clear as day market manipulation.
What does DeFi have to do with this?
Decentralized Finance flat out prevents this type of market manipulation. Being a decentralized and open system, all participants are on a level playing field. Exchange operators would not be able to selectively enforce who can trade, and what types of trades different participants can make.
Today’s stock markets operate on a centralized infrastructure, giving those who own the infrastructure and those who provide access to the infrastructure unfair advantages. To give commission free trading, Robinhood sells market orders to institutional clients before they are placed, giving these institutional clients the opportunity to profit directly off their customers orders.
Wouldn’t you like to get Robinhood’s orders, buy the stocks seconds before and then sell it to Robinhood traders, making easy money in the process? Schemes like this exist all over the traditional finance markets, and DeFi is the answer to leveling the playing field.
This same scheme could exist in decentralized finance markets, except the difference is anyone would be able to make a profit from it. Retail traders today stand little chance of calling up Robinhood and being given access to participate in this scheme.
What does the future hold?
DeFi technology is still young, and would struggle to run the worlds financial markets today. However, with the emergence of layer-2 networks, and thousands of developers working day-in and day-out on the tech, DeFi will grow stronger and stronger every year.
There may come a time in the next decade when blockchain infrastructure and decentralized markets are the standard protocols for financial markets. However, even when the technology reaches the point where it can handle the trading volume, implementing DeFi will require the people to put up a fight. The power-brokers of Wall Street are unlikely to give up their power over financial markets willingly, and will go to extreme lengths to retain control.