GameStop Bulls Crushed Hedge Funds. This Stock Could Be Next
Unless you were unconscious yesterday, chances are you heard about the massive short squeeze on GameStop initiated by a ragtag bunch of Redditors.
The audacious posts put forth by the “WallStreetBets” crowd were honestly a boatload of fun to watch last year while we were all at home in sweatpants. And honestly, I still laugh every time I read their “about community” description on the front page.
Source: https://www.reddit.com/r/wallstreetbets/
But what started last year as a smallish community of financial jokesters has grown to over 2.4 million so-called “degenerates.”
With size comes purchasing power. And when that purchasing power knocks it out of the park, apparently you get written up in London’s Financial Times.
Congratulations, WSB… You have hit the mainstream.
Since last October, total call option volume on GameStop Corp. (NYSE: GME) — as represented by the blue line in the chart below — has run up from around 10-11,000 per day to as much as 1 million on Friday.
I mean look at this ridiculousness.
Source: Bloomberg
Back in October, I explained the mechanism by which large purchases of single-stock options can drive markets.
Basically, when a call option is issued to retail investors, the market maker has to go buy stocks as a hedge in case the shares get called away by the expiration date.
How much they have to buy is based on how many standard deviations (or delta, in trader parlance) the strike price is from the current stock price, and how long until expiry.
The closer the expiry and the closer the option strike price, the more stock the market maker has to buy.
And in the event those options in question happen to expire that day, and the stock in question happens to be the most shorted on the market, then those shorts are going to have to cover.
Source: https://www.highshortinterest.com/
And yes, you’re reading that right… There were more shares of GameStop borrowed and sold short than there were GameStop shares!
That’s when fireworks happen.
If You’re Keeping Score, That’s Retail Army 2, Fund Bros 0
In this case, those fireworks blew up in the hands of one prominent hedge fund — Gabe Plotkin’s Melvin Capital.
Plotkin, whose fund had been returning roughly 30% per year until this month’s slip-up, was down so much that hedge fund legends Ken Griffin and Steve Cohen (incidentally, his former boss) had to step in and bail him out.
He wasn’t the only one either.
Activist short seller Andrew Left’s investment newsletter company Citron Research was absolutely pilloried online for its short call on GameStop. Some jokesters even tried to hack their Twitter account.
Left himself, who is clearly big mad, felt compelled to post a rebuttal outlining why he’s short.
Literally zero points he makes are anything new. We know malls are in trouble. We know they were losing money and leveraged. We know eventually, gaming consoles will switch over to either subscription or downloads.
But timing matters, and his clearly stinks.
Is it going back to $20 like he says?
Yeah, probably… but with over 100% short interest remaining, there’s a lot of potential to initiate another squeeze before the week is up.
So You Wanna Be a YOLO
Full disclosure, I bought a little back around $17 as a speculation and sold it at around $65 at close on Friday, after what I thought was the massive short unwind most analysts were expecting.
But while that unwind is clearly not over, I just don’t feel comfortable doing anything with it at these levels.
And besides, there are other angles to take if we’re going to look at the retail space.
One of the most beaten-down sectors over the past year has been commercial real estate. SL Green Realty, a huge office REIT, is still down roughly 33% from its pre-coronavirus highs.
Source: Bloomberg
SLG has been on several investment newsletter lists as “a stock that could soar in 2021,” but there’s a zero percent chance I’m biting on commercial real estate until much later in the year.
It is true, however, that as vaccinations continue to roll out and the weather gets warmer…we are probably headed back into the office.
In turn, that means we probably won’t be able to wear sweat pants and slippers much longer.
And while a whole bunch of retail/apparel stocks have run up over the past couple of months, there’s one I like that has surprisingly remained down.
Designer Brands Inc. (NYSE: DBI) is basically the old DSW footwear outlet. The company required a rebranding and ticker change a couple of years ago when it acquired Camuto Group, which included footwear and apparel brands such as Jessica Simpson, and Lucky.
Since then, it hasn’t really received much coverage in the analyst space (new tickers tend to do that), volume has declined, and it remains roughly 30% off its pre-COVID lows.
Source: Bloomberg
It did get a bit of a pop on Monday on big volume, because… drum roll please… shorts got squeezed!
Source: Bloomberg
Because of that, it jumped along with all the other high-short interest stocks, but it has quickly faded back to a level I feel comfortable picking up a ¼ stake.
While it’s true that basically, the company just sells dress shoes, we know demand for office apparel is absolutely going to rise in the next year.
Given that it has traded as low as roughly 2x earnings over the past year — compared to bargain-hunter retail peers like TJ Maxx and Ross Stores who trade closer to 25x — the upside value here is enormous.
Source: Bloomberg
Moreover, because it got absolutely annihilated during COVID, earnings expectations are abysmal… but the year-on-year revenue and profit comparisons are incredibly easy to beat.
This was a $30-35 stock a few years ago before the acquisition, and there’s no reason to assume it won’t be again once we move past the pandemic.
Source: Bloomberg
And if we happen to get a Reddit-fueled short squeeze in the meantime, then the sky’s the limit.
YOLO!
All the best,
Matt Warder