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Are there any lessons to be learnt from GameStop rally?

Team Veye | 08 Feb 2021

Are there any lessons to be learnt from GameStop rally?

The stock markets are full of unpredictability. In recent times there could be no better example than the roller coaster ride experienced in GameStop (GME) shares.

GameStop is a retailer that sells video games in physical form while people are increasingly buying games online. It had recently lost $275 million on revenues of near $5 billion.

The Company had closed almost 800 stores worldwide since the beginning of 2019, representing both underperforming locations and de-densification in certain trade areas. It expected these closures to create a more profitable footprint.

GME’s stock had opened in 2019 at $15 a share, and by January 2020, it was only $6. With the coming of COVID-related economic shutdowns, matters became worse, and the stock slumped to $3 in March 2020.

While its business was going down, some hedge funds might have valued GME at a much less price and viewed this as an opportunity to make quick money. These funds might have shorted these in large quantities hoping to square up when it had fallen to very lower prices. It looked like easy money.

As the stock price recovered in the fourth quarter, short interest rose. In fact, there were more shares shorted at the end of December than shares outstanding. Retail traders could sense the squeeze, while hedge funds thought they were adding shorts with massive potential.

GameStop had been swept up in a battle between big-moneyed hedge funds betting against it and small investors trying to prop it up. This included some large investors too who understood they could buy and push GME ever higher. Their logic was that the shorts would get squeezed and have to buy back their shares to limit losses. The short-sellers buying back shares moved the stock even higher.

GameStop Corp. wrapped up its worst week on record as a stunning reversal of fortune wiped out $18 billion from the video-game retailer’s stock-market value. The stock fell 80% in the last five days, its worst weekly performance on record, to $63.77 in New York.

In the whole episode, investors who were shorting limitlessly as well as late entrants lost heavily. The important lesson to learn here is to check supply and demand positions also and never go for pure speculation in trading.

Disclaimer

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