From the desk of Jeroen Bakker
Benelux Practice Lead, Pierpoint Financial
In the seventh episode of (In)Famous Securities Lending Transactions, we continue our commentary on stocks that are in ’play‘ in the securities finance world. In this episode, I look at the Texas-based consumer electronics and gaming merchandise retailer GameStop.
GameStop traces its origin back to 1984 and via a string of different names went public in 2002 when Barnes & Noble booksellers took GameStop public while retaining majority control. Throughout the following years, GameStop acquired multiple companies across the globe; EB Games, Micromania and Kongregate to name a few.
In 2016 the effects of the change in the way gaming were conducted started to impact on the stock price of GameStop. Physical games were in decline due to the new online gaming services such as Xbox Live and Nintendo Eshop; as a result, the ‘outdated’ retail shops were no longer in vogue, and GameStop decided to close 150 shops in 2017.
At the same time, GameStop expanded its non-gaming business, however, their net income for 2017 was down 90% compared to 2016 while for 2018 they reported a loss of $673mn. A turnaround was necessary and came in July 2019 when GameStop partnered with R/GA to revamp their stores, focus on retro and competitive gaming as well as introduce new consumer experiences. Would this, in combination with the closure of an additional 200 of their 5700 stores, be enough to turn around the downfall of the share price?
The gradual decline in physical gaming demand combined with the ‘old school’ set up of GameStop is clearly showing in the stock price graph. To emphasise the turnaround, I will zoom in on the year 2020; this graph shows a completely different picture with a share price increase of 380% since the all-time low on 3 April.
This was mainly due to the announcement of the strategic partnership with Microsoft whereby GameStop will start using Microsoft business applications, but more importantly, GameStop will begin selling Xbox All Access, Microsoft subscription service. The question of course is, is this newfound revenue stream sufficient to offset the losses of consumers no longer buying games in-store or is there still a short play strategy for the hedge funds that could prove to be lucrative?
With the securities lending data provided by FIS Astec Analytics, I am going to investigate if, the turnaround in the strategy that the company has made and which is showing in the last share price graph, is also showing in the securities finance world. Is there a demand for shorting GameStop, and is this short position financially viable?
The SBL graph immediately shows that apart from a small peak in July 2019 the stock was rather “GC” despite the high utilisation levels. Utilisation levels are actually close to maxed out or maxed at 100% from September 2019 onwards. It takes until March 2020 for the fees to follow rising close to the 80% mark before dropping back down to the lukewarm territory of the 3-5% area. Fees then increase rapidly towards 40% and trend downwards again. All in all, a very volatile fee graph which is mainly caused by the high utilisation.
When utilisation levels are low (<25%), there is lots of room to absorb increased demand and therefore not lead to immediately raised SBL fees. While when utilisation levels are high (>85%) increased demand will directly lead to an increased fee. This is due to the fact that new borrowers looking for stock can only outbid existing borrowers in order to secure supply. As a result, lenders will take the rerate offer to their existing borrowers, who will potentially return the stock instead of accepting the rerate. This is called a Fill or Kill order or FOK order, in any case, the increased fee is now the new reality which in return will trigger more rerates in the market.
Let’s focus now on the last year of SBL data where the utilisation hardly drops below 80% and is actually fixed at 100% throughout a large period of the year. I am using indexed SBL fee in order to safeguard the actual fees. At the start of the graph, SBL fees are GC (below 50 bps), however, in March of 2020, the fees rapidly increase to 8,000% of the fee back in September to rise even further in May to 12,000% of the GC fee almost a year earlier. This is followed by a steep drop all the way to a fivefold of the September 2019 GC level to increase back up to the 5,000% of that same level.
Throughout the blog, I raised two securities finance questions: Is there a demand for shorting GameStop and is this short position financially viable?
There is definitely demand for shorting GameStop, with utilisation levels close to or at 100%, as the graphs clearly show, however, is there any money in it? Shorts put on in 2020 are currently in a loss-making position while shorts before 2020 have a cost of carry that is roughly 30% per annum which makes them difficult to keep on with the recent share price hike. The trend is not showing any ease in the utilisation so the fees will remain volatile, while the stock price is trending upwards.
Entering and exiting a short position are the trickiest parts of short selling; unlike investing in a long position, you can’t just ride out a negative wave and “hope” for better times. When the charts are turning against your short position, you either need to cut your losses and close your position or have very deep pockets because your losses can be infinite.