As GameStop dives in, the transient print from Volkswagen 2008 offers an concept of how painful it’ll be
People walk past a GameStop store in Midtown Manhattan on January 27, 2021 in New York City.
Michael M. Santiago | Getty Images
Volkswagen often comes to mind when investors are trying to come up with a brief print that’s on par with GameStop’s staggering surge over the past week.
In October 2008, the German automaker more than quadrupled its shares listed on the Frankfurt Stock Exchange within two days and briefly became the largest company in the world.
The rally was initially triggered by a surprise announcement that Porsche had increased its stake in VW, which pushed a number of short-selling hedge funds to exit.
Last week, the stationary video game retailer in the wilderness rose 400% as a group of retailers coordinating on Reddit’s WallStreetBets forum pushed the share price up by taking advantage of increased interest in short positions in the name.
After the GameStop mania ends, will the stock follow Volkswagen’s path on its way down?
After Volkswagen’s peak on October 28, 2008, shares fell 58% in four days, and a month later, shares fell 70% from their high, which, according to FactSet, returned most of the pressure.
So far, GameStop’s stock fell 30.8% to $ 225 apiece on Monday after closing at $ 325 on Friday. Stocks fell another 40% on Tuesday, bringing their two-day losses over 50%.
“The classic pattern of past bottlenecks is a rapid rise and a rapid fall,” said Lindsey Bell, chief investment strategist at Ally Invest. “Squeezed stocks can move violently for no reason, and the tide can turn quickly. And when the pressures stop, everyone tries to sell at the same time.”
The brief interest in GameStop as a percentage of stocks available for trading went from over 110% a week ago to around 53%, according to S3 Partners. So fewer short bets have to be made to fuel the squeeze further. Trading volume also fell sharply on Monday as retail momentum slowed.
“Both fundamental and momentum short sellers have found opportunities and exit points to reduce their positions in the face of these losses as the GME short squeeze is in full effect,” said Ihor Dusaniwsky, S3 managing director for predictive analytics.
Short sellers borrow shares of a stock at a certain price in the expectation that the market value will drop below that level when it is time to pay off the borrowed shares.
However, when the stock bounces up sharply, short sellers are forced to buy back stocks to limit their losses, resulting in what is known as a short squeeze.
“All bruises like this end the same way, and stock often returns to where it started its flight,” said Peter Boockvar, chief investment officer, Bleakley Advisory Group.
Back where it was
Eventually, at the end of the speculative mania, stock prices should drop to levels that reflect the health and fundamentals of the company. The jury is not yet sure if GameStop can revive its highly competitive video game business in the age of streaming and internet.
“Can GameStop adjust its business model to enable streaming games? Can they close some of their stores to generate more cash flow? These are all questions we are waiting for,” said John Davi, founder and CIO of Astoria Portfolio Advisors .
Netflix is a great reminder that if you believe a company has an outdated business model, things can quickly change again, Davi said. Netflix, once a DVD-by-mail service, has grown to become one of the largest streaming companies in the world.
“Recall that NFLX had multiple drawdowns ranging from 50% to 80% before becoming the company it stands for today,” Davi said in an email.
Some GameStop investors expressed optimism after activist investor and Chewy co-founder and former CEO Ryan Cohen joined the company’s board of directors in hopes of driving a change in strategy.
– CNBC’s Nate Rattner contributed to this story.
Subscribe to CNBC PRO for exclusive insights and analysis as well as live business day programs from around the world.