GameStop: The Story of a Stock

We independently assess all our recommendations. Purchases through our links may earn us a commission.

In 1984, two Harvard alumni opened a software retailer in Dallas, Texas, naming it after the world’s first computer scientist Charles Babbage. Ross Perot, the famous independent Presidential Candidate in 1994, was an investor. Babbage began to focus on Atari and Nintendo and soon launched the GameStop branch in 1999. Later, it was acquired by Barnes and Nobles, who relaunched it as a big retailer in 2002, taking it public with an initial public offering (IPO) at $18 per share. It became an independent company in 2004. 

During the next 15 years, GameStop acquired many other video games retailers, including EB Games in 2005 for $1.44 billion. The $GME stock price rose steadily from under $10 to as high as $61.45 on December 27th 2007. Those were the good times.

The Slide

The slow downslide began in February 2017 when GameStop’s controversial Circle of Life program hit the news. It was an attempt by the management to compete in face of a changing market digitizing at a rapid pace. However, the program was a source of distress for the salespersons, as it required them to lie to drive sales. The announcement of Microsoft’s Xbox GamePass service added to the declining stock price back below $20. 

When an expected purchase of the company by a private equity firm in New York didn’t follow through in June 2018, shares dropped to $12. At the start of the next year, GameStop reported a huge net loss of $673 million for the first time in its history. Even the year before, the company had turned a profit. 

Hedge Fund vs. Activist Investor

The next phase was a tussle of opposing positions by two activist investors and run-of-the-mill institutional short-sellers. Dr. Michael J. Burry of The Big Short fame bought a stake in the company worth $7 million via his firm Scion Asset Management in late 2018. He was also the first to take note of the extraordinary shorting of GameStop’s stock at a time when, by August 2019, the company’s stock had plunged to the extreme low of $3.32. In a letter to the board, Burry advised that the company should buy back its shares to minimize the heavy shorting.  

In September 2019, the company gave a dismal report for the 2nd financial quarter ending in August, but the price had already hit a bottom and it didn’t decline any further. 

Instead, the next winter of 2020, the company gained another activist investor in the form of Ryan Cohen of Chewy fame. This spunky pet store had given Amazon a run for its money in all things pet-related, and Cohen had comfortably sold off his company back in 2017. Cohen filed a massive 13% stake in the company worth a hefty $76 million with the SEC, but the heavy shorting of the stock continued, given the upcoming pandemic conditions further stressing businesses.

Pandemic Woes and Deep-Valuation Perks

GameStop was one of those companies with a poor pandemic response: not closing soon, and not giving employees any benefits or relief. There was also in disregard of orders and precautions at store locations around new game releases. Despite these misfires, not everything was on the decline. 

In May 2020, the Restore GameStop Presentation by Hestia (Permit Capital Enterprise Fund) gave an in-depth analysis of the reasons for the recent poor performance. But it also had an appendix titled “Consumer Demand Is Not The Problem.” It turns out that the hype around the digitalization of gaming thought to be GameStop’s nail in the coffin was overblown. Consumer surveys showed that buyers were choosing physical buys for both new and used games and choosing GameStop more often, or as much as, its nearest rival Amazon. The boom in gaming due to lockdown doldrums added a 1,500% surge to online sales. 

Subsequently, several deep-valuation theses on GameStop appeared on SeekingAlpha, a trader-friendly subscription service. Deep valuation is a longstanding approach to investing pioneered by Benjamin Graham which rests on the observation that a lot of stocks become undervalued when cyclic lows are interpreted as problematic by big investors. Given stocks’ tendency to self-correct to a more authentic market valuation over a longish period of time, the deep-value investor seeks out cheap stocks that they believe in, trusting that they will improve.

By the way!

Did you know we’re launching a Kickstarter campaign? In the next few months, our campaign for ‘Gentle Jack: The Party Game for Bad Friends‘ goes live! Visit the official website or follow the Kickstarter page to stay in the loop.

Learn more

The non-institutional but professional investors on SeekingAlpha noticed the continuous shorting of 90% of GameStop’s outstanding shares. One writer, Josh Klien, even called it “price manipulation” of an unprecedented level. The truth is GameStop was nowhere near the risk of bankruptcy implied by such heavy shorting at under $5. If the purpose of short-sellers is to correct inflated stock prices, then $GME was already near rock bottom at the onset of a global pandemic. Klein wrote:

“This type of share price manipulation is practically unheard of. Despite a net cash position, a <0.06 price-to-sales ratio, a management team that anticipates break-even free cash flow this year and positive free cash flow next year, an activist investor actively seeking to create shareholder value, and a console refresh that will bring in revenue growth going forward, the share price continues to be a source of tremendous shorting.” 

Klein not only noted the potential for substantial brick-and-mortar sales with the upcoming release of new video game consoles but also noted the strong returns GameStop could expect from the leasing or selling of its store locations. Thus, while GameStop had suffered from its own mismanagement and unwise resource allocation, there was still lots of potential in its future. The extent of the shorting seemed inexplicable. 

Enter Roaring Kitty and r/WallStreetBets

In July 2020, Keith Gill, a certified financial analyst, started his YouTube channel “Roaring Kitty” with the disclaimer that the channel would simply share his personal investing strategy, but wasn’t meant to be taken as advice or stock recommendations. Compared to the bearish short-selling approach, bullish is going long and hoping to profit from price raises. Keith added outlined a more bullish investment strategy concerning GameStop in hour-long videos such as the one below about the company’s magazine Game Informer. He also mentioned partnerships with Sony and Microsoft to take advantage of the digital mania. 

Keith Gill cross-posted his due diligence in r/WallStreetBets, a forum that started in 2012 to support small retail investors. Notorious for their loose language and meaning habits common across all social media, the group boasts a deeply analytic approach to stock valuation, favors going long and holding, and warns new investors as much about risky investments as they do hype up the stocks they like. 

The subreddit was founded in 2012 by Jamie Rogozinski to share and discuss information about stocks and trading. When Robinhood opened its digital doors for zero-commissions trading to encourage “investing for everyone”, it became easy to apply the discussion points. Much ado has been made about Reddit and Roaring Kitty driving up the stock price, but back then, the stock price remained firmly under $5 right up until the activist supporters came back into prominence. 

Optimist Speculation and Price Uptick

$GME finally began its climb above $5 in late August as news of Burry’s fresh investments came out. Stakes upwards of 3% and 5% gave the retail investors the vote of confidence to match the conclusions they had reached. Amidst the new console cycle, the stock price had reentered the $10-range by late September.

Frustrated by the continued indifference of the board to public sentiment and activist support, Ryan Cohen’s RC Ventures wrote an open letter in November. Ryan stressed that with the recent upswing and cash flow, GameStop could change its game plan, adopt an e-commerce and tech-focused model, and turn shareholder profit again like in its heyday. As a result, optimist speculation moved the stock price closer to $20. 

Even when the third-quarter report revealed a 30% plunge in sales and a 10% reduction in its store base, it didn’t affect the price overall. Online sales were up 200% from last year, fueling even more optimism for Ryan Cohen’s vision. The stock remained steadily in the $10-range until Ryan Cohen’s campaigning resulted in a big reward. 

The First Price Jump and the Short Squeeze

On January 10th 2021, GameStop appointed three new directors, all former Chewy management, to its board: the former CEO Ryan Cohen, Chief Marketing Officer Alan Attal, and Chief Financial Officer Jim Grube. This positive news led to the first price jump on January 13th to $31.40 from $19.95 the day before. Though some pundits interpreted it as a short squeeze, a seasoned analyst did not agree.

Ihor Dusaniwsky is the founder of S3 Partners, a paid resource provider on the stock market’s short selling activity. He reasoned:  

“GME’s board shake-up and stronger holiday sales is causing a long-buying tsunami, which is the primary factor for the price move.”

The short squeeze must have started during the third week with the price steadily leaping upward through $39.12, $43.03, $65.01, and $76.79 between the 21st and 25th of January. When short-sellers find prices of stocks they’re shorting unexpectedly rising, they have two options. They can “close off” their short positions by buying back the shares they had borrowed from lenders so they can return the loan but at a loss (as they are buying back at much higher prices). Or, they can borrow even more shares and sell them to “cover” their short positions. The second option shows their insistence that the rise is temporary, and they would buy back at lowered prices to return the loan at a profit. Ironically, for a heavily shorted stock, when the hedge funds scramble to sell more borrowed shares, it ends up driving the price up even more.

The Final Price Hike, Celebrity Involvement, and the Gamma Squeeze

By this time, these steep climbs had attracted the attention of Wall Street at large, and many institutional investors had jumped into the shark pool, such as private equity firms, tourist dollars, and of course, rival hedge funds. This was a prime situation for something called a “gamma squeeze” that involves options trading. 

Similaer to a bond, options are derivative financial securities whose prices depend upon the underlying stock. “Call options” allow the buyer to purchase a stock at a fixed price within a limited timeframe, and “put options” allow the buyer to sell owned stock in a similar way. Huge market-making funds sell options at heavy premiums and, as trading increases, they purchase proportional amounts of stock in the market to keep it in their supply. This establishes a positive-feedback loop that keeps driving the price higher and higher. They typically choose put options to minimize their risk if they have to sell (hedging). The extraordinary amount of put volume during these dates (compared to stable call volume) points to the tactics that big investors and market-makers were employing.

Hedge funds Melvin Capital, Citron Research, and Maplelane finally closed their short positions by January 25th, incurring billions in losses. The prices at $65.00 and $76.79 were simply too high for them to afford the collateral money that share-lending institutions demand to insure the loan (collateral and the interest rates that go along with it hike up with the stock price). Regardless, short-sellers were still shorting the stock during this time. 

Meanwhile, the subreddit community had also ballooned during this time and the global attention was intense. All of this combined into an exceptionally high volume of trading from Redditor hypists, institutional big sharks, and the buy-back action of short-sellers. On the 26th, the price lept up to $147.98. That’s the day a handful of celebrity investors also got involved, with Chamath Palihapitiya and Mark Cuban boasting investments while Elon Musk posted a link to r/WallStreetBets in his infamous “Gamestonk!!” tweet. 

The next day, GameStop stock opened at $354.83 with a one-time peak of $483 during day trading. It fell sharply the day after (down to $193 on the 28th), but only to climb back up to $325 on the 29th, the Friday that most call and put options were about to expire. This volatility is what creates the rabbit ears on its year-to-date graph on Google Finance. The graph after that connects key pricing points with key events. 

Early on, reporting on the GameStop saga over-sentimentalized the “David vs. Goliath” aspect of the tug-of-war between the Redditors and the hedge funds. 

As the prices naturally fell back come February, financial commentators and news media were quick to dismiss any significance of the small trader phenomenon. A few even had the audacity to compare this frenzy to the Capitol riots mere weeks before. 

They did hype up the stock, but upticks always followed major investor events, after which the snowballing short and gamma squeezes took over. Yes, they were aware of it and urged each other on by citing these upcoming squeezes, but the extreme shorting of the stock and failure to close the short positions at the right time created the snowball. Yes, many Redditors were also using call options, but it was the put volume (that was three times its normal level) and trades of 5,000 to 10,000 shares leading the charge. And yet, you’ll find news reports, analyses, and congressional hearings overly focused on a few elements, while the role of Big Money Wall Street in the hedge-fund-versus-hedge-fund money wars is conveniently passed over in discussion.  

Investing in businesses is a healthy activity for young people and professionals alike. Now that young and individual investors have shown they have an impact and a play in the usually sealed-off machinations of the stock exchange, more outsiders should start looking into the inside. Don’t give up your seat at the table.