by jn_ku
Disclaimer: I am not a financial advisor. This entire post represents my personal views and opinions, and should not be taken as financial advice (or advice of any kind whatsoever). I encourage you to do your own research, take anything I write with a grain of salt, and hold me accountable for any mistakes you may catch. Also, full disclosure, I hold a net long position in GME, but my cost basis is very low, and I’m using money I can absolutely lose. My capital at risk and tolerance for risk generally is likely substantially different than yours.
I’ll cover many things that I think will be generally beneficial for newer traders and investors first, but if you’re just looking for my current observations on GME, write about it and the end, so feel free to skip the wall of text in the middle if that’s what you’re here for :).
One thing I would suggest for newer traders, particularly following the Robin Hood fiasco, is to transition to a more powerful broker/platform. As I’ve mentioned a few times, I use TD Ameritrade’s thinkorswim platform (see very recent review here). They don’t pay me to promote it or anything, other than that I can say that my portfolio performance has been greatly enhanced by the capabilities the thinkorswim platform provides.
I’ve gotten many questions and comments requesting guidance on educational materials. I haven’t responded because I am honestly not the best person to ask about that. I will say that the resources listed in this sub (to the right of the list of posts) look to be fairly comprehensive and excellent in quality.
Awareness, Ideas, Thesis, Due Diligence
Most common question I got since my last post about my process for identifying trading and investing opportunities.
At a high level, it all starts with awareness and various ideas about how the world around us is likely to change, and what the market currently anticipates (you will commonly hear phrases like ‘X is already priced in’, or ‘the market is already discounting the fact that’, etc.).
Regarding GME, the idea I had was that some struggling retail and other businesses, which had been left for dead by the market, would actually rebound fairly quickly, and perhaps benefit from pent-up demand as the vaccines rolled out.
Ok, that makes sense, but how, in fact, do you take your awareness of the world, take some of those ideas, and actually do something with them?
I tend to start with running a screen (screen as in a sieve, not screen as in what you’re staring at right now) in thinkorswim. Other platforms have similar tools. tradingview.com is also excellent for a web-based tool. These allow you to filter stocks by various types of criteria.
As an example, I might start by filtering for:
- Stocks in the retail sector
- Market cap >65mio, <3bn (I find that to be a good range for minimally stable micro cap to smaller mid-cap that is likely insufficiently covered by analysts, and therefore more likely to be substantially mis-rated by the broader market)
- PE < 7 (nothing magic about 7, that’s just what I decided to use as a relatively but not ridiculously low PE multiple)
- Fixed Charge Coverage Ratio >1 (i.e. they can cover fixed costs out of earnings, so imminent bankruptcy risk is likely lower). Note that if you’re looking ultra deep value you might actually specifically want to find companies at risk of bankruptcy at first glance, to dig through in detail to find ones that look more likely to turn themselves around from the brink for some reason.
Etc. It takes longer to think about what kinds of filters to use than anything else. Once I’ve set those criteria up, you just run the scan (click a button in thinkorswim) and out pops a list of stocks that match the criteria in less than second. On 2/6/2021 running the above scan gives me 9 names (of which, funny enough, Express–apparently another meme stock short squeeze play based on just looking at its chart for 2 seconds–is one). For those who are curious, the list I got was: ANF (Abercombie & Fitch), GES (Guess Inc), PLCE (children’s Place), DBI (Designer Brands inc), GCO (Genesco), CAL (Caleres Inc), CHS (Chico’s FAS INC), CATO (Cato Corp), EXPR (Express Inc)
At that point I might quickly check the charts to see what the daily action has been like for the past year, looking for patterns that might be interesting. I’ll pick PLCE for this example, since it is breaking out strongly, and looks to be about to smash through resistance of the price on the eve of the pandemic crash. It also apparently blew out its last earnings estimates, which doesn’t hurt.
At this point I might proceed to check their SEC filings (lots of insider buying a few days ago, Blackrock increasing stake, recently new CFO, etc.), whale wisdom, company news etc. I found an interesting article from earlier last year that seems particularly positive–they have apparently been a leader in the retail sector in developing their digital omnichannel, with a large and foresighted investment made over 3 years ago, which made them particularly well-positioned to deal with the challenges of the pandemic (at least as far as bricks and mortar retail goes) and indicates very good things about the strategic vision of their management team and board.
It was a ridiculous bargain in November, but may still have room to run even today. Not an endorsement or telling you to go buy some of the stock, but that’s my quick read.
With the above 30 minutes of research done, I might make the decision that it warrants further investigation.
As you dig deeper, you start to build a working thesis or theory on how the company is going to deliver performance, or get enough attention from the investment community to warrant a re-rating outsized gains in share price (the bull case). Then you try to find all the reasons and evidence as to why that isn’t going to happen (the bear case).
From that point on you iterate as many times as seems prudent to you, depending on how much of your portfolio you intend to invest. Since we’re all here already, summarizing and posting your due diligence to this sub seems like a no-brainer. It is very likely you’ll get good feedback to help you refine your thesis even further, or perhaps stop you from making what might be a big mistake.
Even if I decide not to make an investment at the moment, at the very least I might add that stock to a watch list, etc. I can actually set thinkorswim to give me an alert if any new companies pop up that match those criteria from now on. This type of feature is pretty common with screening tools. This might happen if, for example, a struggling retailer gets its cash flow in order and crosses from <1 FCCR to >1 FCCR.
A process very much like the above is how I found GME to begin with, and subsequently found my way to Reddit since there was so much GME-related traffic.
The Market is so much bigger than GME, so I highly encourage you to use the knowledge, tools, and techniques you’ve learned about or been exposed to to explore that bigger picture.
You, The Market, The Trade
If you’ve found something that looks interesting enough to warrant actually investing, it’s worth spending some time to further think about precisely how you think you should do so before you just hit the buy button.
If your thesis and time horizon are longer-dated, then stocks are likely your best bet.
If instead you have a very specific time window in which you’re interested, or have reason to believe the stock will move by a certain date, then options might be much more capital-efficient with a higher return (though a much higher risk of greater or total losses as well).
There are many ways to express your ideas or bet on your thesis. In fact, your thesis about a particular company might lead to trades on an entirely different company. If your due diligence on a key industrial company that primarily supplies parts to a certain car company shows major investment in technology and production efficiency, that might also bode well for their customer, and thus warrant an investment there as well or instead. My DD on oil storage capacity getting full back in April led to me taking some speculative positions in oil tanker stocks, as another example.
You may also modify the way you position your trade based on market conditions. Jon Najarian (a CNBC regular who focuses on options trading) recently described how he is transitioning his portfolio using a stock replacement strategy. This means using various options strategies to try to mimic the performance of stocks, but without holding stocks directly. The reason for this is that he is increasingly concerned that we may have a large market correction in the near term, and would like to have a defined limit to potential losses (a feature of many options strategies). I don’t know if he’s correct, but his moves make sense as a way to address his concerns.
Another thing I’ve referenced a few times in my post is writing cash-covered puts to essentially bet against the price falling vs betting that the price is going to rise. This comes with the added wrinkle that ‘losing’ (i.e. the stock price in fact falls below the strike price of the put) comes with the added feature that you end up owning stock. For this reason I commonly use this as a strategy on high-confidence stocks as a way to gain some revenue if the price goes higher, and effectively buy the dip if it goes down first.
How you express your thesis in terms of the specific trades you make can greatly impact the likelihood and magnitude of your returns, and the profile of your risk. Buying the stock you like, while straightforward and with a very intuitive risk/reward profile, may not be the best way forward.
That being said, it is critical that you do understand the trade before you execute, so I would highly recommend practicing via paper/simulated trading–which, by the way, is a built-in feature of thinkorswim–before you execute a complex multi-leg option play. Ok, I’ll stop shilling for the rest of this post at least :).
Back to GME
On Thursday and Friday what I believe we saw was despair-driven selling compounded by the tug of war between shorts that entered at $150+, and shorts still piling into the trade.
Overall short-side sentiment is more cautious at this point than at the highs despite supposed sentiment among short-side players that GME is a $10 ($20 at best) stock. This is reflected in Ortex data showing utilization dropping below 100% for the first time in months (i.e. shorts are no longer borrowing every single share they can get their hands on), and short interest stabilizing over the past few days. As of Thursday utilization was 69.3%, and free float on loan was at 44.1%. Data for Friday should become available just before Monday market open.
The reason for the above, I believe, is that while shorts seem to believe current prices are still a good entry point, they need to be concerned about getting blown up if a short that entered at the squeeze highs decides to cover and lock in profits. The removal of restrictions on GME by Robin Hood adds another element of risk.
The lower the price, the likelier that deeply profitable shorts cover, spiking price while doing so at the expense of the newest shorts, and the easier it is for retail sentiment to move price, so we’re in a sort of very fragile equilibrium until the larger shorts that entered at the higher price points have covered.
I’m not sure how to estimate when this would be, other than to say that the lower the price goes, and the more days that pass, the lower the incremental profit potential and higher accumulated interest cost for the short position holders, so I don’t expect them to hold those squeeze high short positions for very long. It is possible that the spike on Friday was a push to cover a fair bit of those positions before the weekend. I would also expect that they will move to cover if somehow momentum seems to turn to the long side, which would accentuate and accelerate the the inflection of momentum greatly.
I’m not sure what I’m going to do with my last 130 shares of GME at this point. It’s possible I hold them for a while to watch how things play out for the next few weeks, but I wanted to give everyone reading my post fair warning that going forward I may make an intra-day decision to sell part of all of the position. I will, however, keep open the cash-secured put position, as an automatic entry back into GME at an effective $30 price point if the price is <$40 by April. I may open new positions based on developments as well.
On a different note, I took some time to once again review my thoughts and decisions over the course of the trade. While doing so I was reading back through my posts from 12 days ago (only 12!? feels like it’s been at least 3 weeks…) reminding me that I had previously begun building a position in AMC as a value play (via a couple of march $3 strike calls) on rumors of imminent rescue/turnaround financing. I was originally planning to build a better position once I had time to study the potential trade structure better, but instead unloaded them at ~1000% profit for a net ~$2000 gain to concentrate further on GME when I was re-positioning my portfolio, not even realizing at the time that AMC was another stock with a legitimate short squeeze momentum thesis (LOL, I really should pay more attention to social media). I just glossed over the profit as about what I was expecting off the bounce from market rerating the stock from “bankruptcy is imminent” to “holy cr*p, the studios need AMC for their movies to make money!”. I should have realized when I was getting so many messages from people asking me to do for AMC what I was writing for GME. I didn’t even do any DD on the short interest there(!) and ignorantly advised people that they should only pay attention to the value thesis as I channeled my inner Charlie Munger.
I guess it just goes to show that you only have time to look so far into so many things at once. As I’ve mentioned previously, trading is a hobby of mine, and something I do in my spare time. I’m not sure if I would have been able to coherently manage momentum trading two stocks that were basically printing money in overdrive at the same time to take full advantage of either trade, especially while writing daily posts. Try to keep that in mind if you choose to pay attention to what I write :).
Also, apologies if you’ve messaged me and haven’t gotten a response. I will sometimes try to respond if I have time (and a good answer), but if you have a good question it would probably be better to either post as a comment or your own post so that you can get a broader range of responses, and also so that the responses can be seen by (and therefore benefit) everyone.
Hope you’re having a good weekend, and good luck in the market on Monday!
Disclaimer: This information is only for educational purposes. Do not make any investment decisions based on the information in this article. Do you own due diligence or consult your financial professional before making any investment decision.