Wall Street has been rocked over the past week by amateur traders pumping money into unfavored stocks in an attack on short positions held by large hedge funds. Bricks-and-mortar video game retailer GameStop and cinema chain AMC are now up more than 1,744% and 838% year-to-date, respectively, after retail investors organized via Reddit thread WallStreetBets piled into the stocks in a bid to drive their prices higher and squeeze institutional short-sellers . Short selling is when investors borrow shares at a certain price, expecting the market value to fall below that level when it's time to pay for the shares. Hedge funds have already lost serious money and been forced to close out some short positions , as online activists continue to seek new targets , despite warnings that the David versus Goliath trend could end in tears for some retail investors. On Thursday, Redditors were leading a charge into shares of Nokia and others. Now, analysts have told CNBC their strategies for investors to stay safe as the battle between retail investors and institutional money hots up. 'Firestorm of speculation' "Although some of these shares have become more sought after on our platform, we are encouraging traders not to get swept up in the hype, to diversify their holdings and invest for the longer term instead going after short term gains," said Susannah Streeter, senior investment analyst at brokerage Hargreaves Lansdown . "If they don't do their homework and are caught up in this firestorm of speculation, they could end up getting seriously burnt." Streeter told CNBC via email Thursday that investors should think of their portfolios as a "planet of core investments," with smaller shares as satellites orbiting around it. She advised to investors to diversify into bonds or mixed-asset funds if looking for shorter-term investments. David Trainer, CEO of investment research firm New Constructs, projected Thursday that GameStop will eventually fall back to the $40-50 per share mark based on the company's fundamentals. The stock was changing hands at $347.51 on Thursday morning, compared to $19 at the turn of the year, $10.47 at the start of November when a wider short squeeze began, and $4 a year ago. "The action in GameStop's stock is a game of musical chairs and my advice for investors is to sell before the music stops," he said. "As fickle as the trading mob has been to select GameStop as one of their favorite stocks, they could be just as fickle as to when to let the stock drop." Trainer also suggested that the illumination of this "reckless and unethical trading environment" may end up catalyzing a "near-term stock market correction." A correction is a decline of 10% for a stock or index from its most recent peak. In recent days, U.S. stocks have sold off sharply as substantial hedge fund losses caused investors to fear the funds would need to sell other stocks to raise cash. Mark Hawtin, investment director at asset management firm GAM, told CNBC's "Squawk Box Europe" on Thursday that investors needed to "keep a cool head," but contested comparisons to the 1999/2000 tech bubble, on the basis that there are still plenty of stocks which are not overvalued. "I think you just have to remain focused and structured, so buy the companies that you have a good long-term story for, that represent good value, and avoid those companies which are being sucked into this vortex of retail mania," he said. 'Cascade of selling' AJ Bell Investment Director Russ Mould said that while "no tears will be shed for hedge funds losing money," investors need to be aware of the risks, especially in light of heavy losses on the main U.S. indexes on Wednesday. The VIX index, or "fear" index, meanwhile, saw a 60% surge overnight. Mould highlighted the detachment from fundamentals, noting that GameStop was losing money for two consecutive years before the pandemic hit, and booked losses for the first nine months of 2020. For context, the company's $24 billion market cap would now make it the 30th biggest stock in the U.K.'s FTSE 100 index, he pointed out, just above Associated British Foods , which was making profits of more than £1 billion prior to the pandemic. Traders holding the stock might also now have difficulty offloading it, Mould highlighted. "The whole point of the short squeeze was to force the price higher by refusing to sell to shorts who needed to close out, but holders of GameStop now need to sell and find a buyer for them to lock in their profit," he said. "Who is going to do that, in the knowledge that the share price has been wilfully ramped, there is hot money looking for an exit and the valuation looks lofty for a loss-making retailer? Booking a profit might not turn out to be as easy as it looks, at least anywhere near the share price peaks." He also warned that a wider ripple effect on global stock markets could be starting to play out. "First, hedge funds on the hook for losses on GameStop may need to liquidate other positions where they are long to cover their cash needs, especially as they are likely to have been using leverage (borrowing or trading on margin) to try and further goose their returns," he said. "This could stoke a cascade of selling that begets other selling and in a worst case creates a 'flash crash'."
