stocks

Why GameStop Stock Has Gone on an Epic Tear

GameStop has rocketed 2,419% since April. However, recent heat under GME shares has been fueled not just by good news, but also doubters calling it quits.

Shares in GameStop (GME, $64.75) briefly soared almost 75% at one point in Friday trading, causing a quick trading halt, after a well-known short seller canceled a planned livestream critique of the video game retailer.

But that's just one ingredient in what has been a nearly perfect scenario fueling a massive run-up in GME stock.

Friday's gains extended a rally in GameStop, whose battered shares sold for as little as $2.57 per share in April, but have since exploded by 2,419%.

The proximate cause for Friday's pop in GameStop shares, which finished the day up 50.5%, was a canceled presentation by Citron Research, which was to outline five reasons to sell GME stock. Citron said Thursday that too many hacking attempts on its Twitter account forced it to postpone its livestream.

GME chart

But the larger takeaway for retail investors is that a two-week short squeeze in GameStop continues to push shares to what many analysts say are unsustainable highs, even if some fundamental changes to the business are encouraging.

The rally in GME stock began in earnest in August after Chewy (CHWY) co-founder Ryan Cohen took a 9% stake. A big part of the bear case on GameStop stems from the fact that it operates brick-and-mortar stores in an age when gamers download content and play online. So the involvement of someone pivotal to a successful e-commerce operation has led many investors to believe in a potential, meaningful turnaround.

The gains have accelerated over the past month or so after Cohen upped his stake to nearly 13%, and more recently after Cohen struck a deal to get three people on GameStop's board of directors.

Baird equity research, which rates GME at Neutral (equivalent of Hold), said the addition of former Chewy executives suggests GameStop is accelerating its digitalization strategy.

The Short Squeeze

Cohen's investment, nor the board news, doesn't explain why GameStop stock has nearly tripled since Jan. 12, however.

Another crucial reason for the stock's remarkable run is its enormous number of shares sold short. Short sellers expect a stock's price to fall. A sudden spike in demand for a stock forces short sellers to buy shares to cover their pessimistic bets.

It's known as a short squeeze, and it could take a while to burn out given the massive number of bets against GME. Indeed, recent data shows that short interest in GME exceeds the number of shares outstanding.

If the board news or Citron's canceled presentation were sparks, the short interest was the gasoline.

Citron maintains that GME is "going to $20," and that's actually optimistic compared to Wall Street's consensus. Of the eight analysts covering GME tracked by S&P Global Market Intelligence, one rates it at Buy, four say it's a Hold, two call it a Sell and one says Strong Sell. Their average price target of $11.01 gives GME implied downside of about 80% from current levels.

CFRA Research, which rates the stock at Sell, sums up the longer-term bear case on GME quite nicely:

"We hold concerns over GME's ability to maintain competitive positioning, namely due to high dependence on brick-and-mortar and secular shift away from physical gaming and toward digital and mobile."

But the past couple of weeks of GME stock trading are just another illustration of how, in the short term, fundamentals don't always steer the ship.

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