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Unpacking the GameStop squeeze

The Investments team unpacks the frenzy that took social media by storm.

Driven by online communities, social media platforms have emerged as a force to be reckoned with – and this was certainly the case when retail investors recently took to Reddit to drive share prices. The Investments team unpacks the GameStop squeeze, explaining what happened and what we can learn about identifying market trends in an increasingly digital, event and news-driven environment.

Online community rallies behind struggling retailer

Unsurprisingly, a number of retailers struggled in 2020 against a difficult economic backdrop. Of these was gaming retailer GameStop, whose 5,509 physical stores were impacted not only by the pandemic, but by the ongoing transition to online streaming platforms. Despite the company’s challenged outlook and with its share price falling below $5 (in AUD terms) in April 2020, GameStop surprised markets when its share price surged in late December – trading at a high of $27.75. This was not the end, however. A buying spree at the end of January 2021, spurred largely by Reddit’s community of investors, drove the share price to an unprecedented $452. As at the end of January this year, GameStop was up almost 1,900% on a year-to-date basis and has continued to fluctuate – falling to about $40 a share before surging to about $253 a share on 9 March and reaching a peak of $300 just a day later.

Source: Factset

A range of flow-on effects erupted in response to the surge – resulting in trading halts and the shutdown of platforms that help facilitate online share trading. The prime example was Robinhood – an embattled online trading platform known for its democratising investment image and for bringing a new wave of at-home investors into the fold, which was recently required to testify before the US congress. Robinhood was accused of interfering with and benefitting from GameStop developments by shutting down the buy feature for GameStop and only allowing investors to sell.

Wall Street vs r/WallStreetBets

The rise in GameStop’s share price was significant because a largely amateur online community on Reddit (specifically r/WallStreetBets, which has about two million subscribers) proved they had enough power to shake even Wall Street – in turn, impacting high-profile investors and hedge funds with short-selling strategies when GameStop, which was thought to be one of the most heavily shorted stocks on Wall Street, defied market expectations to rise in value. Short-sellers were subsequently forced to close their short positions and buy GameStop shares back at a higher price than they sold them for, which resulted in pushing the share price even higher due to supply and demand for shares in the company. Losses were further amplified when these investors and hedge funds returned those investments to lenders and paid the borrow fee associated with them.

Quick take: What is ‘shorting’?

For those less familiar, shorting involves taking advantage of an investment that is expected to fall in value. When a fund ‘shorts’ an investment, it borrows that investment from a lender (often for a borrow fee) and then sells it. The idea is that if the investment’s value goes down, the fund can buy it back cheaper, return it to the lender and make a profit in the process. But if the investment rises in value, the fund still needs to return it to the lender – meaning it has to buy the investment back at a higher price, pay the borrow fee and take a loss.

A familiar story

Looking back, we see the GameStop story was foreshadowed by the Hertz saga – a similar tale of a social media-driven buying spree, where investors egged each other on to defy market expectations and make money on the struggling, century-old car rental company. After Hertz’s revenue was impacted by the global economic shutdown and it filed for bankruptcy protection in May 2020 (which involved calling for the approval of financing by the US Bankruptcy Court for the District of Delaware), online investors pushed its share price to $7.92 in June. Hertz capitalised on the frenzy by issuing millions of dollars’ worth of additional stock, but it wasn’t enough for a happy ending.


In March 2021, the share price fell to a low of $0.85 after bankruptcy proceedings concluded and proposals were made for investment firms to buy Hertz out for about $7 billion. Despite various warnings (including one from Hertz itself, noting its stock would likely be worthless), shareholders are expected to lose out on their investment. On the other hand, unsecured bondholders can take a cash payout of 70% of the face-value of their investment or roll their debt into new financing, while lenders expect to rake in millions of dollars in fees and interest payments as part a multi-billion-dollar bankruptcy package of loans organised by Hertz. In the meantime, various plans have been proposed for the company – from being sold to investment firms to a restructure that could take the company public.

Source: Factset

Sentimental value vs fundamental value

What led a social media community to rally behind a struggling retailer – one that was declining in value even before Coronavirus? Various reports suggest two reasons for driving GameStop: first, an attempt to damage high-profile, high-net-wealth investors who have benefitted from others falling behind, and second, the sentimental value associated with buying from gaming stores. This poses questions about sentimental versus fundamental (underlying) value, what companies like GameStop are really worth and, in turn, whether investors could see a repeat of the Hertz saga. Let’s take a closer look at that.

While the GameStop share price has been driven to extreme highs, sending its market value to above US$23 billion and making it worth more than almost 90% of US companies listed on the Russell 3000, by looking at the company’s cash flow, debt and growth – that is, its fundamentals – markets can get a better idea of what it’s really worth. At this stage, while retail stores are expected to have a better year in 2021, perhaps the biggest challenge facing GameStop is the ongoing transition from brick and mortar stores to online streaming platforms. With thousands of physical stores, this could mean GameStop continues facing cash flow issues.

However, a refresh of its board (which includes the likes of digital business owner Ryan Cohen, who bought a near-13% stake in GameStop) is expected to help GameStop make the transition and remove a number of obstacles contributing to the company’s underperformance – from closing underachieving stores and ending expensive leases, to further exploring the digital gaming experience, optimising GameStop’s e-commerce structure, and expanding its product line.

But is this enough to save the company? It’s important to note that while hope is not an effective investment strategy, it is possible that positive business results could potentially drive up the market capitalisation of GameStop in future – that is, if it’s not already too late. After all, even Ryan Cohen – now the company’s largest shareholder – said he thought GameStop had missed the digital revolution, while high-profile investors and hedge funds continue to be sceptical about GameStop’s ability to steer itself out of trouble after previous failed attempts to revamp the business. If there’s one thing Hertz and GameStop have in common, it’s that they share a long journey ahead. So for now, the success (or otherwise) of GameStop could take some time to unravel.

What can we learn?

The GameStop story has reinforced the power and reach that populist platforms and online communities have in shocking the financial establishment. As it stands, these developments have prompted many short-sellers to reconsider the way they invest, including how much information they share with the public on their outlooks for different stocks. Given the increasing power behind communities like r/WallStreetBets and the apparent tendency of investors to overlook a company’s fundamentals, could it be that amateur online investors have a better idea of where money will flow in future? Despite this trend, it can still help to remember that:

  1. It doesn’t always pay to buy into trends. Time will tell how GameStop develops, but if Hertz is anything to go by, it’s possible that many of the investors who bought GameStop shares during the buying frenzy could lose money on their investment if the company falls again.
  2. Such trends tend to carry high levels of risk, which can be hard to recover from. Sure – shorting strategies are also risky. But unlike the Reddit-driven trends of amateur investors, speculative investing (including shorting strategies) tends to occur within regulated markets, is often driven by extensive market research and market consensus, and is generally accessed by experienced investors and fund managers.
  3. Online platforms aren’t always the most reliable source of advice or information. In this case, there’s merit in not talking to strangers – not only because there’s an element of risk in blindly following someone’s advice, but because it would be difficult for a stranger to ascertain someone else’s personal circumstances and provide meaningful advice.

How Colonial First State investors benefitted

With that said, there were still some winners from the GameStop squeeze. And by working closely with our skilled investment managers, Colonial First State was able to capitalise on these developments. Our team had exposure to GameStop shares through the Realindex Global Share and Realindex Global Small Companies funds, which serve as the building blocks of several Colonial First State investment options – for instance, Lifestage and the Multi-Index series.

Based on GameStop’s fundamentals, Global Small Companies and Global Shares held positions in GameStop shares for several years. However, the value of their positions increased significantly during the buying spree. To put this into perspective, the Global Small Companies position in GameStop increased from 30 basis points at the time of initial investment to almost 600 basis points in January 2021, purely due to the huge increase in the company’s stock price. Naturally, this rapid rise in value also led to increased levels of risk, which prompted the investment manager, Realindex Investments, to identify GameStop as an overvalued holding whose price could no longer be justified by the company’s fundamentals. The investment manager rebalanced the position back to its fundamental weight and successfully executed a sale of GameStop shares across all investment options which held the company for an average price of about $428.

By carefully monitoring market developments, the team was able to capitalise on the social media-driven trend and, in turn, contribute strongly to the returns of these investment options.

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