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The hedge funds shorting this like Melvin entered into a very crowded trade where the risk / reward towards the end, when GameStop was trading in the $3-$4 was very questionable. Over 100% of shares were sold short. This was at a time when GameStop had a book value of around $10. There's a reason why certain individuals / value funds have been buying heavily into this stock with 5% ownerships being disclosed at one time or another: Michael Burry, Donald Foss, Must Asset Management, Senvest Capital, Ryan Cohen.

Hedge funds like Melvin have billions of dollars under management and they need to allocate a certain percentage of that pool to each idea they have to make sense financially and they poured too much money into this one short idea than would be appropriate from a risk management perspective. They didn't do their research properly and probably thought the company would go bankrupt. That wasn't the case. GameStop doesn't have much debt and they survived the pandemic. The shorts should have realized their mistake and started covering. What was going on for months this summer and fall seemed like the posterchild of an inefficient market. Instead the shorts doubled down and they've tried to break the momentum of people buying into the stock ever since September when it started rallying by heavily naked shorting and buying large blocks of short term puts. You can observe this by reading level 2 and seeing the entire tape being red and bid prices being rapidly sold off. Numerous articles were written weekly on various financial sites saying the stock rise doesn't make sense and some were even irresponsibly telling retail investors they should short, often lying through omission on important details like Ryan Cohen becoming an activist investor and the extremely high short float and the new console cycle and the new microsoft deal and huge ecommerce growth. I question how many of these authors had connections to the short funds and wrote articles for them.