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A CASE STUDY OF GAMESTOP

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A CASE STUDY OF GAMESTOP

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 1. Executive summary

An epic price bubble and the movement surrounding the event has taken the world by shock in
early 2021. GameStop, a legacy video game retailer has been getting significant attention orig-
inating from Reddit users, seeing an opportunity in the company. Over the course of a month,
a large volume of retail investors started buying the company’s stock following the precedent
laid out by social media figures, with the slogan of beating Wall Street in its own game, sparked
by the heavy short interest on GME of over 100% of outstanding shares.
This study aims to examine the inner workings of the bubble, its cause and effects with the
purpose of paving the development of future regulatory, educational and investing actions.
For the purpose of our study we have been using outstanding data, to evaluate GameStop as a
business in terms of financial health, competitive position and future potential, based on the
company’s financial reports and statement. We have formulated a valuation for the company
based on said findings, laying a foundation for the rest of our research.
In the second section of the study, we used market data of the price action in question, as well
as sources going into the potential origins of the movement, such as a timeline of Reddit posts
and search data. For the interpretation its interpretation, we have used pre-existing research
conducted on the individual aspect of our study, with the aim of extending on and synthesize
said research.
The company GameStop is one of the biggest video game retailers, with a business model
relying on physical sale of gaming hardware and software in a brick and mortal setting. Which
has been under decline for the past years due to a shift in the sector.
Analyzing GameStop, we have found that although the company is not under direct financial
risk, the company’s core business is under pressure, due to the trend of moving towards digital
products in gaming.
We found that the company does not possess relevant competitive advantage to compete in the
existing market in its primary businesses (software and hardware), requiring innovation and
discovery of new markets for a turn around. According to our analysis the company has yet
failed to demonstrate such a change in their direction, indicating that a rapid increase in stock
price is not justifiable.
As the increase in price could not be explained by fundamental factors, we have compared the
GME price action to models of bubbles.
Our examination of the price action confirmed that it follows classical models of bubbles, with
displacement initiating from Reddit, traced back to Keith Gill who has become the face of
1
movement. We found that Reddit activity played significant role in fueling the bubble, with
changes in community engagement on Reddit preceding, price action indicating a causal con-
nection.
We have further investigated the effect of predatory trading in the form of a short-squeeze
which have been a key element in the popularization of the movement, trying to profit on short
selling hedge funds.
We found that according to the environment in which the short-squeeze took place, speculators
could not have gain aggregate profits, meaning that the ones who did, have mainly profit off
of each other.
Following these findings as well as the high social media engagement, we have examined to
what degree manipulation could have played a role in the event, finding that due to the “echo
chamber” effect actors such as Gill had the capabilities of influencing the price action. And
that the social media activity surrounding GameStop has shown a resemblance to that of known
pump and dump schemes.
On the other hand, contrary to manipulation in pump and dumbs, the actions of Keith Gill seem
to be motivated by non-financial factors, given that he has not sold his share over the course of
the event. Which proposes the idea that investors in the market can act based on rational goals
other than financial gain.

2
Contents

1. Executive summary ............................................................................................................ 1

2. Introduction ........................................................................................................................ 4
2.1. Problem statement ....................................................................................................... 4
2.2. Structure and Methodology ......................................................................................... 4
3. Literature review................................................................................................................. 6
3.1. Bubbles ........................................................................................................................ 6
3.2. Predatory trading ......................................................................................................... 7
3.3. Manipulation ............................................................................................................... 8
4. Analysis .............................................................................................................................. 9
4.1. Analysis of GameStop as a business ........................................................................... 9
4.1.2. Fundamentals .......................................................................................................... 10
4.1.2. Competition ............................................................................................................ 12
4.1.3.Financial stability .................................................................................................... 14
4.1.4. The Reboot ............................................................................................................. 16
4.1.5. Valuation ................................................................................................................ 18
4.2. The price action ......................................................................................................... 20
4.2.1. Bubble ................................................................................................................ 20
4.2.2. Predatory trading ................................................................................................ 27
4.2.3. Manipulation ...................................................................................................... 30
5. Conclusion ........................................................................................................................ 36
6. Appendices: ...................................................................................................................... 38
6.1. Appendix 1: ............................................................................................................... 38
6.2. Appendix 2: ............................................................................................................... 38
6.3. Appendix 3: ............................................................................................................... 39
6.4. Appendix 4: ............................................................................................................... 40
6.5. Appendix 5: ............................................................................................................... 40
6.6. Appendix 6: ............................................................................................................... 41
7. References ..................................................................................................................... 42

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 2. Introduction

2.1. Problem statement

The past months the financial and media world has been shocked following the price develop-
ment of a struggling legacy retailer GameStop, a company analysts have long written off and
has fallen out of the favor of investors for the past years. Until recently when retail investors
all around the world have joined in an unprecedented, coordinated effort to push the stock up,
wanting to profit on overexposed hedge funds, to show not only Wall Street can play the dirty
game.
Due to novelty of such a movement, a lot of questions arise. The story of the average investor
beating the Street in its own game is a very attractive one which perpetuated in the media can
create a precedent and can possibly be dangerous for both uninformed investors as well as the
system in general. Therefore, getting insight into what really happened can benefit us to see
how to proceed, in terms of educating the public, possibly imposing new regulations, or how
to prepare as investors.
To tackle these elements our study will explore the question of:
- What is the driving force of socially induced security pumps?

2.2. Structure and Methodology

As foreshadowed in the introduction, to examine the driving forces of socially induced security
pumps, we are going to use one of the first big scale event of such nature, conducting a case
study of GameStop, with an exploratory approach. Alternatively, we could have chosen some
other companies that have recently skyrocketed due to social media engagement, such as AMC.
We have chosen GameStop as it is the one with the most readily available information, the
most traceable origin and has been the most popular and media covered making it suitable for
demonstrative purposes.

The study follows an investigative structure, starting from an in-depth view into the company
in question to establish a base upon which we can evaluate the validity of the price action, after
which we will be investigating the arising contradictions as they unfold, starting out from the
initial discrepancy between intrinsic value and share price.
Following this structure multiple sub questions have arisen, the most important of which being:
- Can the price increase be fundamentally justified?
- Does the event follow the structure of classic bubbles?

4
 - Did the speculators profit on an aggregate level?
- What could be the roles and motives of though leaders?

The study can be broken down into two segments. The first being the Analysis of GameStop
as a business, which as previously mentioned will serve as a base for the investigation to follow.
And the second part is the Analysis of the price action. The actual price action, surroundings,
causes and effects.

In the analysis of GameStop the company, we are primarily relying on sources published by
the company, including various financial reports and regulatory filings as well as other state-
ments and information issued by the company such as conference calls or letters to sharehold-
ers. These sources combine qualitative information like commentary and explanations of re-
sults as well as plans and initiatives regarding the company’s future direction. And quantitative
data in the form of sales numbers, shop closures, historical revenues and expenses as well as
other financial data. At the end of the section, based on that historical and present quantitative
data, that we interpret using the framework laid out by qualitative findings, we are making a
valuation of the business.

In the second section, we are mainly relying on observations of the price action itself, public
sentiment and especially the Reddit timeline outlined by the regular updates of Keith Gill
(deepfuckingvalue) who has been the started and media face of the movement. In addition, we
are using other media sources regarding his activity, such as recordings of the relevant congress
hearing and his YouTube content, to get an overview of his involvement in the event. We
interpret these observations using existing research conducted over the individual aspects we
examine.

5
 3. Literature review

As outlined above in Methodology and Structure, this study touches on many different fields
of research in the process of finding the core forces driving the event in hand.

These areas can be broken down similarly to the structure of the article itself. With bubbles
being the first to be examined.

3.1. Bubbles
The formation and behavior surrounding bubbles have been deeply researched in the past.
In 1986 Hyman P. Minsky American Economist has published his book Stabilizing an unstable
economy (Minsky, 2008), in which he has done an extensive work developing his “financial
instability hypothesis” examining the nature of the credit cycle, heavily relying on ideas ex-
pressed by Keynes in the early 20th century focusing on the valuation of assets and “the inher-
ent instability of investment decisions” (Keynes, 1936). In his work Minsky establishes the
relationship between actual economic activity and financial markets, arguing that the inter-
twined nature of these elements creates spiral effects leading endogenously to an increasing
disconnection between financial instruments and real assets.

Jean Paul Rodrigue Canadian scholar has later built upon the cycle mechanism outlined by
Minsky, developing a description of bubble timelines and a model for the behavior of partici-
pants during the event. (Rodrigue, 2006) In his analysis Rodrigue identifies four phases of a
bubble based on public awareness, investor behavior and asset price activity.

Minsky and Rodrigue primarily dedicate their work towards macroeconomic phenomena, but
the principals and core structure they have laid out can be translated into explaining more con-
served economic events, individual asset bubbles with the replacement of the catalysts such as
interest rates, with aspects unique to individual companies or events. This study is aiming to

6
contribute to the discovery and observation of such catalysts that can materialize as sparks for
bubble like events.

Other scholars such as Taisei Kaizoji and Sornette (T. Kaizoji & D. Sornette, 2008.), expanded
on the field describing behavior of rational traders with awareness of bubble mechanics, prof-
iting on the calculatable behavior of “noise traders”, exploring how momentum traders ride
these price waves and can impact the price themselves with the extra volume they bring creat-
ing additional volatility increasing the size of bubbles. Our study will lightly touch on this
subject for the purpose of providing a more complete picture explaining the GME price action,
presenting a new factor of social investment movements as a new target for momentum trading.

3.2. Predatory trading

In 2005 Markus K. Brunnermeier and Lasse H. Pedersen has published an in-depth model ex-
plaining the nature of predatory trading. A trading activity that exploits the need of other in-
vestors to reduce their positions. (Brunnermeier and Pedersen, 2003) In their work they exam-
ine and model how traders engaged in predation profit on “distressed traders”, in a process
where under the appropriate conditions of low liquidity and limited range of action for certain
participants, the selling of some actor forces other actors to sell as well, followed by the buy-
back of assets later, which leads to an overshooting of the price and depressed liquidation price
for the traders under distress followed by a reversal to the equilibrium after the event.
René A. Carmona and Z. Joseph Yang have further investigated the relationship between the
presence of noise traders and predatorial activity, as well as modelling the liquidation process
of distressed traders, examining how distressed traders make decisions to exit, in a differential
game with looser time constraint. (Carmona, R. and Z. Yang. 2008.) In our study we are relying
on this previously published research to explain what part predatory trading could have played
in the GME price action, expanding on the topic by examining how predatory trading differs
applied by “naive agents” as opposed to rational traders and its effects.

The GameStop case has also been directly studied from the perspective of predatory trading by
Dr. Usman W. Chohan in his paper titled Counter Hegemonic Finance: The GameStop Short
Squeeze (Chohan, 2021), a descriptive writing summarizing the event in a narrative structure.
The paper gives an overview of the motives of participants and the overall idea behind their

7
actions, but does not examine their actual outcome, or effects, which our study intends to do
so.
The case was also examined under the lens of participants’ characteristics in the paper of “Who
participated in the GameStop frenzy? Evidence from brokerage accounts” (Hasso, Müller, Pel-
ster and Warkulat, 2021), the paper provides insight into the distribution of different type of
participants in the GameStop pump and their trading and demographic characteristics prior to
the event, with the findings that a large portion of GME traders, especially early participants
have been traders previously engaging in gambling like trading, investing in highly speculative
securities. They have also followed the path of these traders in terms of their exit strategy. And
used metrics describing public awareness to compare with changes in stock price to examine
causality and correlation. Our study has in general used this paper, as a point to build upon,
interpreting its findings, while also reexamining some of its aspects supplemented with addi-
tional data, with difference in conclusions. In particular “Who participated in the GameStop
frenzy?...” when associating attention and stock price have been using metrics associated with
attention of new members to wallstreetbets with the conclusion that attention has with lag fol-
lowed stock price, as an effect. While in our study we have been using metrics related to en-
gagement of existing members, indicating that community engagement has increased prior to
the rise in stock price, indicating that community engagement had bigger impact.

3.3. Manipulation

In the section labeled manipulation, our study focuses on the magnitude of influence thought
leaders can possess and hence their power and opportunity to engage in manipulation.
In his recent work titled “Game On: Social Networks and Markets” Lasse H. Pedersen inves-
tigates in depth the mechanism of influencing naive agents by rational and fanatic agents. Ex-
plaining how irrational behavior can become dominant in the market due to an “echo chamber”
effect. (Pedersen, 2021) Pedersen has in his paper also applied his model on GameStop giving
a very comprehensive explanation of the event. In this study we use Pedersen’s work exten-
sively for the purpose of demonstrating how thought leaders can affect asset prices. On the
other hand, we take a more detailed approach into the individual behavior of though leaders
and the internal work of social groups, focusing more on how these effects come to be as op-
posed to what these effects are, meaning a difference in scale of view point.

8
The 2019 publication of Endrit Komidha and Matthew C. Li examine some specific aspects of
social trading in the form of studying platforms such as Zulutrade and Etoro in which investors
can be directly copied by other’s meaning that the thought leadership of such actors is directly
translated to trading activity. In their paper they establish characteristics that determine how
many copiers a trader can attract, hence showing their influence as though leaders. (Kromidha
and Li, 2019) In our study we have synthetized these two approaches together with the models
of Pedersen to give a more comprehensive view of how thought leaders gain influence and
effect markets.

4. Analysis

4.1. Analysis of GameStop as a business

In the year 1984, the company Babbage’s a small software retailer has been funded in Dallas
Texas. Throughout the years the company has been growing acquiring other businesses as well
as mergers finally taking on the name GameStop. The company since has been a retailer of
mostly game software as well as related other merchandise such as accessories, video game
consoles and board games, revolutionizing the industry with a unique business model using
what they call the “buy-sell-trade program”, allowing customers to exchange their preowned
video games and other items in the stores for cash and other products.

Over the years the market has been saturated, competition has been rising and according to
their financial statements (GameStop Corp 2019-2010, 2020-2011) has reached its boundaries
in terms of growth in the early 2010s providing a steady cash flow thereafter.
Since then, with the emergence of online retailers the business model of GameStop has been
under major pressure losing significant market share. And the company has been struggling to
keep shops open, being forced to close around 20% of locations the past 3 years. Due to tight-
ening margins and plummeting sales volume, revenues have suffered gravely the past 5 years
followed by the company’s stock price bottoming below 4 dollars a share at a fraction of even
the price at its IPO in 2002.

9
As the chart below demonstrates, the valuation of the company has been on a very volatile ride
since, with the involvement of multiple forces and contradiction with talks of a possible turn
around, market craze fuelled bubble, and manipulation claims investigated by multiple bureaus
(WSJ Michaels, 2021).

FIGURE 1 GME PRICE ACTION TO DATE (TRADINGVIEW, 2021)

4.1.2. Fundamentals

To be able to make sense of all the possible explanations surrounding the behaviour around
GameStop contracts we have to delve deeper into the company’s current situation and their
outlook for the future to better understand the potential motives of different groups of interest
and be able to evaluate their claims.

First looking at the company’s business model and the industry it operates in, in context.
GameStop is still to this day is quoted to be the largest retailer of videogames in the world.
They operate over 5000 stores all across the world with their majority focused on North Amer-
ica. Their revenue sources can be broken down to three product categories. Them being Hard-
ware and Accessories, Software and Collectibles. These categories can further be broken down
into sub-categories such as new and pre-owned products for both hardware and software. Es-
tablishing these different categories is important as they are subject to non correlating cyclical
factors and most importantly different long-term trends.

10
GameStop strategy has been to become and maintain being a non specialized retailer within
the gaming market selling a vide variety of products covering all popular brands. Using the
complete sales breakdown GameStop has been using in its reports until last year:
- Retail of hardware of all three major manufacturers. Sony with the PlayStation series, Mi-
crosoft with the Xbox series as well as Nintendo products.
- New Physical copies of video game software of all major titles.
- Preowned copies of software mostly acquired from customer’s in exchange for store credits.
- Video Game Accessories, which include electronics such as headsets, controllers, memory
units and other related items.
- And digital products such as subscriptions and most importantly downloadable content.
(Hubner, 2016)

Starting last year GameStop has decided to stop reporting a complete breakdown of its sales,
which at least, not practical given its importance in the evaluation of the company’s transition.
According to this new classification the three categories are the already mentioned Hardware-
Software and Collectibles. The latest annual report states the current contribution of these seg-
ments to be approximately 47% software, 42% hardware and 11% collectibles (see Appendix
4). From that it seems so that there is a balanced distribution between the two leading operations
of gaming software and hardware sales, but looking at historical data reveals some hidden is-
sues.
The past years both hardware and software sales have been gradually decreasing from 3,6 to
2,7 billion and 4,2 to 3 billion respectively starting from 2017. In this interval the ratio between
hardware and software sales seems to be fairly constant. (GameStop Corp., 10k FY19 2020,p
19) To uncover the structural change within GameStop’s revenue streams we have to take a
step back in time. If we go back 10 years we can see that the sales of software has been on
steady decline. Sales of new video games has declined from 3,7 billion dollars a year to around
2 billion dollars a year. While sales of gaming hardware remained steady. 1,7 billion dollars of
new hardware has been sold in 2018 (last available year with complete breakdown) and around
the same in 2010 (GameStop Corp 2019-2010, 2020-2011) (See Appendix 5). The reason the
two metrics have both been down the past years maintaining a static ratio has to do with the
cyclical nature of hardware sales. According their evaluation of the industry in their latest
yearly report “The video game industry has historically been cyclical and is affected by the
introduction of next-generation consoles, which could negatively impact the demand for exist-

11
ing products or our pre-owned business” (GameStop Corp 2019 p.17, 2020). Until 2020 hard-
ware sales have been on a downtrend due to release schedules of the two major consoles the
Xbox and PlayStation. Both of which has released their newest generation products in late
2020. Looking at the latest quarterly reports of GameStop, this effect is clearly visible even
though it has been blurred to a degree due to the store closures caused by the pandemic as well
as supply chain problems experienced by manufacturers. With the start of the console cycle
hardware sales are in rise with expectations of 2 billion dollars of sales the following year.
In conclusion GameStop has very stable console business that has managed to keep up over
time and adjusted for cyclical factors it has even grew since the reference point we have been
previously using. On the other hand, software sales do not experience cyclicality of the same
nature and the experienced decline is due to the negative trend in sale of physical software
copies. The company’s sales of the substitute product category, digitally distributed software
has been a category that didn’t show considerable growth over the years. With change in man-
agement and an announced transition GameStop has put effort towards improving its digital
presence and according to their latest conference call they made significant progress lately and
since the pandemic e-commerce sales have been up over 175%. (Q4 2020 GameStop Corp.
Earnings Conference Call, 2021). It makes a very compelling claim but as the company no
longer reports sales numbers broken down into physical and digital copies of software it is hard
to evaluate. In the same period this improvement within digital and e-commerce sales took
place, overall software sales fell 30%. Looking back to the last complete breakdown model we
know that as digital sales have been around the 200 million level. Given that we do not know
how much of the growth came from e-commerce sales of physical copies and actual digital
sales, a top bracket estimate would be 500 million in digital, which we will use to compare
GameStop with competitors.

4.1.2. Competition

The competition GameStop faces can be broken down into its main businesses, hardware and
software. Furthermore, we can look at competitors that are more directly competing with
GameStop, other brick and mortar stores as well as online competitors distributing both phys-
ical and digital products.

12
Looking at the hardware segment of GameStop first, which is the more stable segment the
company operates in, main competitors include well diversified retail brands such as Wal-Mart,
Target, Best Buy and so on. These retailers are not highly specialized towards the video game
industry but due to their huge scales of operation they take up serious market share. Here, an
interesting aspect to consider is distribution of stock from the manufacturers as especially new
generation consoles are in high demand and low supply. With GameStop being forced to close
down stores and storage units their bargaining power and handling capacity is falling as op-
posed to its well diversified competitors who can get along with much tighter margins and can
handle larger orders. Other than brick and mortar stores online retailers such as Amazon also
take up market share in the distribution competing for the same supply. And as the retail market
in general is experiencing a shift towards web-based sales channels the competition is growing.
As we established before, GameStop seems to have had a steady presence and revenues in the
gaming hardware retail market with revenues between 1,7 and 2 billion dollars a year according
to the console release cycle. On the other hand, by looking at the overall progression of the
market we can see that the company’s global market share has been declining over the years as
they have been stagnating while the market has risen considerably (Newzoo, 2021). To sum-
marize although GameStop kept up its previous revenues, they were unable to capitalize on the
opportunity provided by a fast growing market, losing market share over the years. And their
relative growth to competition has been negative.

The other primary focus of GameStop is the retail of software in form of both digital and mainly
physical copies. Before getting into the comparison of GameStop with competitors, it is worth
taking a look at the substitutional relationship between these two alternatives with a perspective
of overarching trends. In terms of functionality digitally distributed software functions the same
as physical copies with consoles working from installed files. Digital copies have the additional
advantage for both consumer and retailer of being virtual, not requiring storage space, inven-
tory management and manufacturing. Digital copies cannot be out of stock or damaged and can
be purchased from the comfort of one’s home with zero delivery time. (Devine, 2021)For the
same reasons digital products are also more cost effective for retailers. In the case of GameStop
according to their 2017 annual report (later reports do no contain profit margin data with de-
tailed segmentation) their gross profit margin on digital products have been over 80% while
only around 23% on physical copies of new software (GameStop Corp 2017 p.F-33, 2018). As
seen, physical copies already suffer a disadvantage both in terms of profitability and arguably
costumer value. In addition, trends also continue to enlarge this difference with less and less
13
gaming and multi-use hardware containing units that support reading printed copies, continuing
the transition towards digital content with the perspective of by time completely abandoning
physical software distribution.
Although its disadvantages have forced physical sales into a decline, there are still multiple
distributors present that directly compete with GameStop’s physical sales. Among them are the
ones such as Wall-Mart, Amazon and others mentioned discussing the competition in the hard-
ware market.
The more relevant competition comes from digital software distributors. In this segment the
market share of GameStop is at the moment negligible, as until lately the company has failed
to recognize and tackle its emergence. If as reference we take the 500 million digital revenue
for the company that we have estimated compared to Microsoft’s over 8 billion Xbox content
and services revenue (Microsoft corp.p.39, 2021) or to use a more relevant comparison with
another resale distributor Valve which operates Steam having been made 4,3 billion dollars on
digital game sales in 2017. (Steam sales revenue 2017 | Statista, 2021)
These two competitors demonstrate major sectoral shift, brought by the rise of digital sales.
One being the newly gained power of console manufacturers to distribute their products di-
rectly to their customers, which we see in case of Xbox content while previously they had to
use channels, requiring middlemen such as GameStop and now without need for distributors
GameStop’s sales drop subsequently. This precedent stands true for other console manufactur-
ers such as Sony’s PlayStation store. As console manufacturers have an obvious overwhelming
competitive advantage selling on their own platforms the other yet un talked of segment is PC
software, where there is more diversification. Here again the liberalization of distribution
caused by the shift towards digital sales stands. Game developers such as Ubisoft or Electronic
Arts can distribute their software directly with ease compared to their prior reliance on third
party distributors. Despite that third party distributors are major players offering various ser-
vices and collecting titles of different developers with Valve maintain the biggest platform with
Steam, again being long years ahead of GameStop in the digital space with 10 times the sales
volume and user base of tens of millions. Therefore, the competitiveness of GameStop as a
new entry is highly questionable.

4.1.3.Financial stability
As the year of the pandemic has been extraordinary involving lot of temporary store closures,
supply chain problems and temporary shifts in demand, to evaluate the company’s financial
14
health it will be better suited to look at their 10k report filed in 2020 as opposed to the most
recent report, supplemented with present information regarding their strategy and aims going
forward.
Earnings of GameStop has been negative for the past 3 years. Looking at the 3 years prior to
the pandemic, they made a net loss of 470 and 670 million dollars in 2019 and 2018 respec-
tively and just barely broke even in 2017. This has been a significant change compared to
steady earnings of around 350 million 2016 and before. To be able to understand this sudden
drop of first over 300 million on the bottom line followed by further earnings decline we have
to take a look at the company’s 10k reports.

FIGURE 2(GAMESTOP CORP. 10K FY19, P.19, 2020).

Starting with the 2019 report looking for explanation, we see that net sales have fallen close to
2 billion dollars with significant decrease in hardware sales. As we previously examined it is
coming from the cyclical nature of the console market, which has also been the reasoning ex-
pressed in the report, as 2019 has been the last year before the wave of new generation machines
in 2020. Looking at the 2020 filings it seems to be confirmed with close to equal hardware
sales despite the pressure caused by the pandemic. Furthermore, the company has recognized
the significant impairments of goodwill which in accounting terms creates a loss but does not
materialize in cash flows. GameStop have also recognized goodwill impairments in 2018
amounting to close to a billion dollars, writing down the company’s entire goodwill balance
from previous acquisitions by 2018. Adjusting for that we would get to earning of around 200
million which would fit with the expectations in line with the console cycle. For the year 2017,
looking at the 2019 10k report the 300million drop compared to previous years is also explained
by impairments of intangible assets in this case. which has been recognized here under Income

15
(loss) from discontinued operations and found under 358 million of asset impairments in the
2017 report. This one also being a one-time event distorting information over previous years
(GameStop corp. 10k FY17, p.18, 2018). Adjusting for this we again come to earnings that do
not fall far from previous years, adjusting for the console cycle. Which shows that their cost
reduction initiatives, including closure of underperforming locations and optimization efforts
were relatively successful mitigating the impact of the significant decrease in software sales.
Looking at their cashflow statement we see that in 2018 the company got significant funds
through selling a fully owned subsidiary Spring Mobile amounting over 700 million dollars
(three years of free cash flows in good years). The company has used the funds to decrease
dept and reward shareholders. GameStop has repaid 400 million of senior notes without issuing
new dept and repurchased 200 million of common shares. Given that at that point of time they
had a dept ratio of close to 0,8 reducing dept seems to be a sensible decision. On the other hand,
spending a whole year of free cash flows on buy backs seems to make a statement of the com-
pany’s self-evaluation of their future potential as an innovative turn around investing in growth.
Continuing in the year 2020 with a further 200 million reduction of long-term dept, according
to their balance sheet. These liability decreasing actions unless being a long term focus doesn’t
have significant effects given that they still carry total liabilities of over 2 billion and around
0,8 debt ratio (actual financial debt has been significantly reduced in proportion, but given the
interest environment, offsetting vendor balances or interest incurring debt doesn’t make mean-
ingful difference, therefore we have been using total liability based metrics) . Considering
GameStop’s claims to be aiming for a turn around that they call the Reboot, their strategy of
decreasing long-term dept with all their spare cash flow, especially given the current low inter-
est environment seems counterintuitive. Overall GameStop had comparable amount of debt
looking at peers such as BestBuy, a current ratio of 1.2 but weak operating cash flow ratio of
well below 0.5, even considering return to pre-pandemic cash flows and the reduced liabilities
following store closures. (GameStop Corp., 10k FY19 2020,) (GameStop corp., 10k FY20
2021)

4.1.4. The Reboot

After going through the company’s historical and present situation in regard to their financials
and business model in general. The last thing to look at is their perspectives going into the
future. As mentioned before in the year 2019 GameStop has announced its turnaround plan,
which they call the Reboot. It is a for step plan involving the creation of new revenue streams
and the consolidation of historical activities.
16
The 4 steps involved in the Reboot are:
- Optimizing the Core Business
- Becoming the Social/Cultural Hub for Gaming
- Building Frictionless Digital Ecosystem
- Transform vendor partnerships
According to their letter to shareholders in May 2020 (GameStop corp. Letter to Stockholders,
2020) the company has made significant improvements in all four areas.
As we have examined before it seems to stand true for optimizing the core business model as
much as the environment allows. The most significant element being the closure of unprofitable
branches. They have improved their inventory management system reducing inventory levels
by 30% the past 2 years, with the aim of reducing costs and improving profit margins. As well
as improved the financial stability of the company via dept reduction.

To improve GameStop’s presence as a platform aiming to create a community, the company

has expanded the scope of its PowerUp loyalty program. The company has also established
experimental product labs, experimental stores of different focus. These stores provide custom-
ers in store experiences and services such as on-site gaming, opportunities to try out products
and socialize with others. These locations have been designed to support providing these ser-
vices as standalone experiences (as opposed to pre-purchase trial zones) also offering amenities
such as snacks and drinks. (GameStop Testing New Experimental Stores, 2021)

GameStop has reestablished its online store with an improved website and digital store front.
To further support their development appointing a Chief Digital Officer to oversee the devel-
opment.

As last, the letter makes points in regard to Vendor Partnerships, emphasizing the unlocking of
new high-margin revenue streams as well as advancements in digital revenue sharing with key
partners.

The direction outlined by the letter does not seem to confirm a significant change in
GameStop’s business model in the past years. Most improvements aim to connect with the
historical model of the company. Initiatives such as the expansion of their loyalty program
doesn’t give GameStop differentiation power over competitors and instead doubles down on
current practices trying to incentify the costumers who are already part of their ecosystem
17
which is a good strategy in their competition against direct competitors involved in physical
sales but doesn’t address the overarching issue of the changing macro environment, transition-
ing towards the digital space. The same being the case for their improvements to their online
platform which continues to aim at the merchandising of their historical product line instead of
a transition towards downloadable products.
In the last point through their partnerships GameStop seems to tackle the issue of digital tran-
sition. Referring to partnerships such as the one they have arranged with Microsoft, gaining
claim for a part of the revenue on all future digital sales made on an Xbox device sold by GME
in exchange for GME using cloud products offered by Microsoft in their stores as well as Mi-
crosoft hardware in some of their operations. Though in theory this partnership seems compel-
ling the revenue share does not pose a significant revenue stream. Although not published it
can be expected to be of similar volume to the gains of Microsoft from being GameStop’s cloud
provider. (Orland, 2021)

The most innovative direction GameStop took is with their concept stores. Which provide and
experience fundamentally different from competitors. But it is still in an early stage of testing
and the company has yet to show any signs indicating that they would take on an overall trans-
formation of stores based on the initiative.

To conclude GameStop has not yet diverged from its current track, remaining in a market with
strong headwinds. To be able to turn the business around they will have to implement other
blue ocean type initiatives such as their concept stores successfully to be able to capture a new
market, as they are late to enter the digital space with a conventional approach due to the satu-
ration of the market.

4.1.5. Valuation
To have a baseline going forward with the development of the stock price of GameStop, we
calculate an estimate and range for the fair value of GME shares based on discounted future
cash flows using the information previously discussed within the company’s financials.

The three scenarios to consider from worse to best are:

18
 - GameStop’s software sales continue to fall due to the accelerating transition towards
digital products. Console sales continue to provide revenue, but with its higher margin
business disintegrating, more and more stores become unprofitable forcing the com-
pany to close down more and more locations. Due to their decreasing market share
GameStop loses negotiating power towards suppliers and weakens in pricing power
towards customers, forcing tighter margins on the company. Due to their inability to
diversify, the company struggles to return to profitability and gets bought out or files
bankruptcy by the end of the next 10 years.
- GameStop cannot adapt to the digital transition fast enough to establish significant pres-
ence in the market. But with their improved e-commerce capabilities the company can
maintain a position in the niche of physical software sales mostly due to the demand
for used copies as well as their customer loyalty as a legacy brand, also maintaining
their presence in the hardware and collectible segment. Due to the decrease in software
sales, they are forced to close more locations the next 5 years, but their core business
remains stable delivering consistent returns.
- The following years GameStop consolidates its core business, successfully transition-
ing to digital channels maintain their current share in both software and hardware sales.
The company successfully launches new services as first mover, such as their new store
concept creating a social hub for gamers. Through their new market GameStop can
engage new customers and expand its business model delivering significant revenue
growth the following years.

Based on historical performance adjusted for the development in the software market
GameStop can be expected to provide 150 million of yearly free cash flows on average through-
out the console cycle. In our worst case estimate we expect revenues to continue falling 20% a
year with both overall operational income and cost following in line. Averaging a cash flow
showing 20% decrease terminating in 10 years, with a terminal multiple of 0 as the company
does not possess significant asset surplus. Leading to a valuation of 5,47 dollars per share.

In the base line case, we expect GameStop to loose significant part of its software sales over
the next 5 years with a 10% yearly decrease in free cash flows. And a stable stagnation there-
after. Given the lack of growth, but a stable core business after the 10 years we count on a
terminal multiple of 10. This gives us a valuation of 13,95 dollars.

19
To estimate the best-case scenario examined we count on a 0% increase in free cash flows
compared to current cyclically adjusted average, representing the consolidation period the com-
pany is going through with still closing stores, but implementing new initiatives. After the 5
years finishing the consolidation, the company gets on track growing its new business model
resulting in a 15% yearly increase in cash flows. Using a terminal multiple of 30 appropriate
for this growth rate we arrive to a valuation of 59,01.

This valuation gives us an estimate range from 5,47 to 59,01 for GME’s present value. With
weighting these scenarios according to their probability relative to each other, based on our
analysis we get a price target of 15,06.

The current stock price of GameStop is over 170 dollars to justify such valuation the company
would have to grow 25% a year the coming 5 years and 15 thereafter which highly unlike given
that the company is very early into its transformation plan and have not yet found a clear di-
rection to go in.

With a valuation multiple times higher than our best scenario estimate, more than 10 times the
company’s average trading range and 50 times its 52 week low, recent price action requires
further investigation.

4.2. The price action

4.2.1. Bubble

In the financial jargon bubbles in general refer to significant deviations of asset prices from
their corresponding intrinsic value. Bubbles on the other hand contrary to public notion are not
unexplainable or spontaneous phenomena based solely on the blindness and greed of partici-
pants, but events involving both describable psychological factors as well as rational, trading
activity such as momentum strategies or ration gambling that further fuel bubble dynamics.
(Aliber and Kindleberger, 2005) We will examine the case of the GME price development
comparing it established models that aim to explain the structure of bubbles.

The main characteristics of bubbles are:

- Highly overpriced security or securities

20
 - Extraordinary trading volumes and capital inflow, involving high publicity
- Constraints to bets to the downside. Limits to short selling
- Limited supply of accessible shares
(Cochrane, 2021)

Calling a bubble while prices are still elevated is often difficult as pricing of securities is subject
to different interpretation of fundamentals by investors. For example, high multiples present in
the overall US market has led to a lot of investor’s claiming the presence of a bubble, but due
to the historically low returns offered by risk free assets and consequently abundant access to
loans, makes equity investments attractive even at low expected returns, pushing multiples
higher. In the case of GameStop though there seems to be a consensus in regard to the company
being highly overvalued. With a median analyst’s price target of 27 dollars per share according
to the Wall Street Journal. (GME | GameStop Corp. Cl A Analyst Estimates & Rating – WSJ,
2021). (Gazzola, Patrizia & Mella, Piero. 2015)

Trading volume on GameStop stock has been very high the past months peaking during the
end of January with a daily flow of close to 200 million shares, well over 10 times the average
trading volume of GME, and almost 3 times the total number of outstanding shares. (GME
Historical Data, 2021). This also show that supply of stocks was very low compared to demand.
At that point GameStop has been all over the media gaining lot of public attention. With a 10
time increase in search terms over the spam of a week. (Google Trends Gamestop, 2021). The
trading volume has been highly amplified by the abundance of debt for trading purposes,
through the leveraged trading options of discount brokers that have been popularized and made
available for retail investors the past years. (Komáromi, 2006) This trading frenzy in the end
of January has caused multiple of these fintech trading platforms to experience difficulties
forcing the largest discount broker Robinhood to stop allowing the purchase of GameStop
shares. Although the community has claimed Robinhood and other brokers are trying to restrict
their trading, in order to impair freedom of retail investors for the benefit of hedge funds in-
volved, brokers have been experiencing liquidity issues in their clearinghouses due to the enor-
mous flow of trades which demonstrates the significance of the event. (Gonzalez, 2021).

Finally for a bubble to be able to form there is a need for insufficient betting power on the
downside. In an efficient market we assume no limitations in relation to the participants ability
to go long or short on a given security, leading to a price approximating the fair value of the
21
security via forces of supply and demand, with short interest rising as long as the security
reaches fair value. On the other hand, as in real markets limitations to short selling exist as well
as boundaries to sell already owned shares, such as being obligated to hold a security as an
index fund, the market becomes inelastic leading to inflows creating increase in price contrary
to the efficient market hypothesis. (Gabaix and Koijen, 2020)
In the case of GameStop the situation has been, that even before the beginning of this extreme
price action, hedge funds betting for the company to go bankrupt has been short selling shares
exceeding even the number of total outstanding shares with a peak of over 70 million shares
sold short. This is very uncommon, but possible as after a share being borrowed for short selling
is sold back to the market it can be landed and short sold again. The only limitation (with some
exceptions) is naked short selling, meaning to sell short without ever borrowing the shares. In
summary, the company has already been heavily shorted limiting capacity and resources of
firms to increase their short positions. (GME Short Interest Ratio (GameStop), 2021).

After taking everything into consideration, and showing how GME represents characteristics
of market bubbles, a bubble is still only a bubble if it pops and popping it did:

FIGURE 1 GME PRICE ACTION BUBBLE POP (TRADINGVIEW, 2021)

22
After GME being through a complete bubble cycle (now seemingly entering a second one), we
can examine the price development and underlying actions of participants in a historical con-
text.

According to Hyman P. Minsky (originally applying his work on credit cycles) bubbles have 5
distinct stages.
- Displacement: Bubbles begin with investors recognizing an opportunity.
- Boom: After the recognition of the opportunity investors start to slowly adapt, flows
gradually increase as more and more participants get involved. Raising prices project a
confirmation of the opportunity, attracting media coverage, creating fear of missing out
(fomo) for outsiders which in effect causes rapid increase in inflows.
- Euphoria: The fast increase in price of securities intensifies fomo, participants effected
by confirmation bios, as well as late arrivals justify valuations with newer and newer
metrics, scenarios and investment theses disregarding real fundamentals, causing a
huge pump in valuation
- Profit taking: Investors who got in early on, with actual fundamental considerations
start to exit and take profits. The unreality of valuations become apparent to more and
more investors, inducing a correction.
- Panic: The initial correction caused by profit takers, triggers stop losses of traders and
ignites disbelief, causing speculators to exit, which in turn sends the price plummeting
in a self-feeding mechanism until fundamental buying pressure arises again. (Five Steps
Of A Bubble, 2010)

Jean Paul Rodrigue has taken on the same model providing a framework with a more nuanced
breakdown. Labeling the displacement and boom phases as stealth and awareness phases, the
euphoria phase as mania and the two last phases of Minsky as blow off. With more emphasis
on individual behavior making it more suitable to analyze the case of GameStop. (Rodrigue,
2006)

23
FIGURE 3 THE 4 PHASES OF BUBBLES (RODRIGUE, 2006)

The first, stealth phase of the GameStop bubble following the path and discussions of the retail
investor group called wallstreetbets, has started with one of the members under the name Deep-
FuckingValue (DFV) making an investment in the company in the middle of 2019 and has
thereafter started to make regular updates on his investment. Publishing his reasons behind his
decision, including his personal analysis and investment thesis, claiming that the company was
vastly undervalued. At that point, the company has been trading at a valuation of around 4
dollars a share, therefore investing in the GME was well within reason. According to his posts
in April 2020 he valued GME to be worth a minimum of 700million dollars with an upper limit
of 1,5 billion. Meaning a price target between 10 and 21. This was also the point where the
idea of a short squeeze came up(Gill, 2021). According to later analyzed brokerage data the
following months the investment idea was slowly gaining attention, particularly among specu-
lative investors with a “history of investing in speculative instruments, including stocks with
lottery-like features”. (Hasso, Müller, Pelster and Warkulat, 2021) We can follow the path
through looking at the number of comments and likes on his posts starting out with low two-
digit upvotes. During this time participants following his advice could accumulate shares and
so did he as well. (Reddit, 2021)

24
In the same time some institutional investors have also been buying the stock resulting in a rise
in the stock price in August. With the company RC Ventures managed by Ryan Cohen acquir-
ing 9,6% of GameStop according to their relevant SEC filing (GameStop Corp., Form SC
13D/A, 2020). Kickstarting the transition of the GameStop bubble towards the Awareness
Phase.
With the stock rising, the attention directed towards the wallstreetbets posts has risen signifi-
cantly, due to the huge gains DFV has realized through his option trades. The upvotes on the
posts jumping from under hundred to over 2000 in the spam of a month. With community
engagement rising fast, so did the number of threads discussing GME spiraling over to other
platforms and off-line, growing the pool of speculators turning to the narrative of overthrowing
Wall Street by forcing a short-squeeze. (Chohan, 2021)

As media attention has been rising, GameStop google searches jumped over 10 times the end
of January with retail investors rushing to buy the stock. With a huge spike in activity of
wallstreetbets followed by exponential increase of the stock price. Using stock price data and
upvotes of GameStop posts, we can see the correlation between the movement in price and
Reddit activity, with the social media participation running before the price movement, sug-
gesting causation. (GME Historical Data, 2021)

Reddit activity and stock price

400 300000
350 250000
300
250 200000
200 150000
150 100000
100
50 50000
0 0

GME stock price Reddit activity

FIGURE 4 REDDIT ACTIVITY AND STOCK PRICE APPENDIX 2.

25
Following the description of Rodrigue, the media attention brough in a large number of noise
traders, speculators, who seeing the increase in price jumped in as “noise traders buy in re-
sponse to today's price increase and so keep prices above fundamentals” (T. Kaizoji & D. Sor-
nette, 2008.)
Subsequently speculators experiencing gains have fallen into confirmation bios, fueling their
delusions regarding the rise. One of the most apparent being an unshakable belief in an unend-
ing short squeeze. In the end of January 2021 after GME has already peaked, thousands of
posts were circulating with tag lines such as “What is an exit strategy?” quoting the pioneer
DFV or “GameStop short squeeze has not even started yet!”, making made up statements about
short interest with no way of knowing actual short interest data due to it being released in a
semi-monthly basis by Finra(Equities and Options Detail, 2021). Due to the huge trading vol-
ume short sellers had room to exit their positions in the 2 weeks between the two Finra reports
which they did, the number of shares sold short being down from over 60 million to 21 million
in the two weeks from Jan 15 to Jan 29. With the stock hitting all time high at the price of 483
dollars on the 27th followed by a drop to 200 on the 28th creating a bull trap exactly following
the model of Rodrigue and a dead cat bounce to 325 on the bull’s denial. In February followed
by the Finra report that has revealed, that the overwhelming majority of short seller’s have
already exited (a large portion of the remaining short positions being new positions with higher
opening prices with all likelihood), the price of GameStop has fallen sharply as rational profit
takers have exited, creating a downward spiral from the panic sellers. The price action has been
further affected by the fact that a lot of speculating retail investors have been using leveraged
trades, an option they previously haven’t had at their disposal, but now can use via the emer-
gence of discount brokers such as Robinhood, amplifying the magnitude of the crash accord-
ingly to the description of György Komáromi: “if there is an increasing pool of leveraged
shareholders, repayment date and a short sale constraint will more likely be due at a given
moment, amplifying the degree of the price fall” (Komáromi, 2006). After the crash the stock
has reached below 40 dollars.

The models used to describe bubbles has so far gave an accurate depiction of what happened
to GameStop. On the other hand, what happened after, given that GameStop has since, after a
month of the fall has risen to over 250 dollars at its peak and has kept its position relatively
stable over the 150 level for over two months, which seems not to be in line with a behavior
expressed by fast acting speculators hyped up by the media, but more of a depeper ingrained

26
narrative behind participants, and clever marketing by certain groups of interest. It is also con-
firmed by the fact that trading volume has been quite low for this recent period, leaving the
stock to find a point of balance at a still unarguably high price. To get a deeper look into what
has been the driving force behind the initiation of the hype, and also the force keeping it up to
this day, we will examine the rational trading strategies involved such as predatory trading
(aiming to trigger a short squeeze), as well as to what degree misinformation and manipulation
has played a role.

4.2.2. Predatory trading

In the previous section, we have taken a look at the history of GME price action starting from
the beginning. Looking at the statements made by the core initiator of the movement DFV and
surrounding discussions, we can see that they have been aware, that the prices that have later
been reached are not realistic. DFV setting his sealing on its valuation at 21 dollars a share a
couple months before the events unfolding, with no major fundamental catalyst following after.
It does not mean though, that their behavior following the breach of their price target has been
irrational at least not of the members who have been there from the early stages with an actual
understanding of their strategy of triggering a short squeeze.

The core idea behind this strategy is that, by pushing the price of shares higher, some market
participants that hold positions against the newly established trend will incur losses that they
can no longer maintain, forcing them to liquidate their positions, in effect pushing the stock
price even further, creating a spiral as more and more who bet against the trend get forced out.
In case of GME it has been a short squeeze, meaning the newly established trend is bullish with
the aim of forcing short selling hedge funds out of their positions, having to buy back their
shares. Such trading practices “When an institutional trader under financial distress is com-
pelled to liquidate an unusually large position,” and “strategic traders … take advantage of the
liquidation constraints” can be labeled as predatory trading. (Carmona, R. and Z. Yang. 2008.)

According to Brunnermeier and Pedersen, in a normal case of multi-participant predatory trad-

ing with the number of predators increasing the price overshooting subsequently decreases due
to increase in competitive pressure between predators to exit, decreasing the liquidation cost of
distressed traders. This competition occurs, as after the distressed traders have exited there is
27
no external pressure outside the predators pushing the price higher, meaning to make profit
they have to exit at or before this external pressure ends. Meaning that those who stay too long
are set to lose, similar to a hold the bomb game. To circumvent the fall in potential overshooting
and profits, predators can join in a collusion. In case of a collusion predators act organized
similar to if they were one predator, selling together to preventing early exits and pushing the
distressed traders further. (Brunnermeier and Pedersen, 2003)
We can show the difference between these scenarios with a thought experiment. Demonstrating
why deviating from the strategy can create excess profit.
Let’s imagine a scenario with one distressed trader, a short selling hedge-fund and 5 predators.
(Level 2 and calculations described in Appendix 3)
- In the first scenario the 5 predators get into the trade at the same time and have a coor-
dinated exit strategy, meaning that they sell at the same time and price, setting trailing
sell orders. First, they are buying the stock for 1.1 million pushing the price up by 1 pip
continuing by buying 1.2 million to push with another pip until they trigger the hedge
fund to cover and buy back 400 lots it is exposed to at the price of 16 which is at this
point the lowest bid. At that point, the predators have sold 300 lots to the hedge fund
(100 lot was other outstanding sell orders) and they sell the remaining 200 lots at the
fundamentally supported prices of 10 and 9, making 6,7 million dollars on a cost of 6,5
million in total. The average selling price of the predators is 13,4 . Their total profit is
200 thousand 40 thousand per participant.
- In the second scenario we have the same setup, except that one of the participants de-
viate, putting a sell order at the price of 15. In this case the deviating participant will
sell the 80 lots it accumulated at the price of 15 making a return of 200 thousand. The
remaining participants have to buy up that additional 80 lots at the price of 15. Meaning
that their total costs increase to 6700. Leading to a profit of 0 for predators that re-
mained.
In a realistic scenario of course, there are other investors, as well as market makers that execute
trades that distorts the picture, and participants have limited information of each other’s activity
outside the orderbook, but the fundamental force behind deviation remains.

In the case of GameStop, distressed traders have been hedge funds shorting the stock, which
they were many, based on the previously discussed short interest being over the company’s
total outstanding shares. And the participants of the movement acted as predators. Here, when
distinguishing between the two scenarios of collusion and competitive predation, we get to a
28
unique scenario, given that in our example and in the discussion in general we have evaluated
cases of calculated, rational predation. Throughout the pump of GME stock, the participants
were not in any way bound to collude as there have been no agreements between them, and
“tacit” collusion could not occur as trader’s cannot observe others, for the predator’s to be able
to punish deviators. (Brunnermeier and Pedersen, 2003) What really happened was that most
participants have joined as part of the hype wave and were not aware of such deviation ad-
vantage, nor the mechanism of a short squeeze. On the other hand, according to the research
conducted at Paderborn University, those traders who have joined early on possessing a better
understanding of the event showed a higher likelihood to exit early, before the peak. (Hasso,
Müller, Pelster and Warkulat, 2021) Therefore we can say that what happened was, that there
was no collusion between predators, but the selling pressure coming from deviating participants
(those who sold early) has been overcome by the newcoming buyers who joined the hype in a
way described in the mechanism of a classical bubble.
Together with volume data, it has further implications on the nature of the event, in the regard
of whether it was more a well-executed community predation or more of a bubble.
The most relevant measure in this metric is whether the aggregate profits of participants was
positive or not. We have no direct data on the aggregate profits of participants but returning to
our previous though experiment, using available theory and data can give us a picture.
A predation can be profitable “if the market is illiquid and if the distressed trader’s position is
large relative to the buying capacity of other traders. Further, predation is most fierce if there
are few predators.”. (Brunnermeier and Pedersen, 2003). This can be demonstrated in a simple
manner, going back to our thought experiment. In the hypothetical case we described, there
was a very limited number of outstanding sell orders, with a 100 lot at each price, and no
reaction and additional trading activity outside the predators and the distressed trader, a very
illiquid market. We could see that the costs of predators are coming from the shares they have
to purchase at a price higher than the natural equilibrium until they themselves liquidate fol-
lowing them triggering the distressed traders to buy. Now, if observing the rising demand, other
sellers jump in providing another 10 lots for sale at the price of 15 it means that the predators
have to buy that 10 lots before the distressed trader liquidates, increasing their cost bases, lead-
ing to a 70 thousand loss in profit.
Additional liquidity also helps the distressed trader to liquidate at a better price. While the
covering short seller is buying, the price increases as there is a limited volume of outstanding

29
orders at each price. If new parties come in selling, providing liquidity meaning more sell or-
ders outstanding, the same volume of buy orders from the side of the distressed trader is exe-
cuted on a smaller range of ask prices, lowering its cost basis.
After establishing that in a market with high enough liquidity, predation is not profitable, we
take a look at the trading volume data, during the GME pump which as previously discussed
at its peak have been 3 times the number of outstanding shares (GME Historical Data, 2021).
It means that with a short interest of somewhat over 70 million shares on its peak, the short
sellers could have covered their positions 3 times over, in just one day of the pump. With such
high liquidity, the majority of trading therefore had to take place between the speculators and
market makers, generating profit for the liquidity providers and reducing it for the speculators.
And although a short squeeze has occurred during the event, it gave only a fraction of the
trading volume, meaning that most of the upward pressure came from outside, from new buy-
ers.

After examination we can say that the aggregate profit of speculators according to theory had
been negative, but it does not mean that there were no winners, primarily among the ones who
have been investing early, and have started the promotion and hype around GameStop and the
short squeeze. We have seen that with such volume, the short squeeze itself played a minor
role in the price overshooting and the narrative of the public getting rich by taking on the hedge
funds had no validity, it has been and still is the way the movement is being pushed and pro-
moted which brings the question of whether there have been a targeted, deliberate manipulation
or what we see is just a spontaneous hysteria of the masses arising from general misinfor-
mation.

4.2.3. Manipulation

According to Tom Swiers representative of the SEC market manipulation can be defined as
“willful conduct designed to deceive or defraud investors by controlling or artificially affecting
the price of securities”. (Swiers, n.d.) Meaning that activities designed to promote misinfor-
mation about the performance or value of a company with the purpose of inducing buying
activity or trading directly with the intent of effecting the stock price of a particular security
falls under the category of market manipulation. The primary difference between market ma-
nipulation and predatory trading is that “the predator derives profit from the price impact of
the prey and not from his own price impact” (Brunnermeier and Pedersen, p.1828 ,2003), while
30
the market manipulator derives its profits, primarily from its own price impact. As we have
established in the previous section, in the case of the GameStop pump, the price impact of
distressed traders, the short squeeze has only played a minor role, and most of the price action
was driven by the speculators.

The question of whether market manipulation has been present can be tackled from two differ-
ent stand points. The first one being whether particular individuals, have been guilty of manip-
ulation, hyping up the stock price by spreading misinformation. And the other on a global scale,
examining whether speculators as a whole have been affected by manipulative statements in
general.

The question of market manipulation in the case is nothing unreasonable. In this study we were
also following the history of GME stock through the posts and statements of Keith Gill (DFV)
from the beginning, both looking at his personal impact and of the movement as a whole. Based
on our previous finding concerning the origins of (social)media attention as well as the apparent
correlation between Reddit activity and stock price. The question of whether the movement
have played a role in the price action is apparent.

The personal involvement and responsibility of Keith Gill is a question for debate, currently
being investigated by regulators. The seriousness of the case is further demonstrated by the
congress hearing, taken place in February this year. (CNBC, 2021). As the trading activity of
Gill could not directly affect the stock prices, the question is whether he could and did manip-
ulate the markets by deceiving others to invest in the company through his social media pres-
ence. The relevance of this question is amplified by the fact that he holds a CFA license (charted
financial analyst) and during the pump he has been a Finra-registered representative of the
company MassMutual, an insurance company dealing with various financial services, and in-
vestment products, making him a registered practicing stockbroker from a legislative stance
from April 2019 ending the 26th of February this year. (Donachie, 2021) As a registered stock-
broker Gill has been subject to stricter rules and responsibility, concerning his public state-
ments and as an employee was obligated to report his personal trading activity, which he failed
to respect. (Winck, 2021) The legal aspects of Gill’s activity are to be determined by the regu-
lators, but we can investigate its practical effects. For that it is better to look at the movement
also as a whole, as there were an abundance of other traders participating in hyping the stock
and spreading information about it.
31
When considering potential manipulation involved with GameStop the most relevant form to
use as a model is a “pump and dump”. As pump and dumps are schemews in which an investor
tries to “profit by first buying an asset, and then pretend to have a fanatic bullish view on the
asset in order to create a wave of buying by his followers, leading to a price increase. If the
opportunistic investor then sells despite talking up the asset, he is engaging in “pump and
dump,”” (Pedersen, 2021) This description seems to closely resemble the activity that started
out from wallstreetbets, in this case as opposed to one concentrated and organized source, the
effect spreading out through social media use with everyone who got involved furthering the
hype. This scale of social media involvement distinguishes the GME case.

Pedersen in his research on social network effects on investor behavior separates three types of
participants: rational, naive, and fanatic agents. Rational agents are characterized by being able
to process available information in context with their overall understanding of investing and in
reflection to other sources. Naive agents on the other hand, make their trading decisions under
direct influence of social media posts, trading gurus etc. And fanatic agents are the ones who
take on views mostly based on one particular attribute and form a rigid view based on that
without exposure to change by rational reasoning or change in circumstance. In the case of
GameStop one of these characteristics that can be identified has been high short interest. And
although the relevance of short interest as well as the actual metric has been shifted over time,
fanatics have sticked to it. In his model Pedersen describes influence on asset pricing as a ma-
terialization of thought leadership, the aggregate importance of stubborn views. These stubborn
views can both be rational or fanatic.
Each naive agent follows multiple selected sources of information gravitating towards the ones
it deems the most entertaining or informative, as agents follow a relatively rigid set of sources
and distribute their attention between those, without widening their range of sources. In addi-
tion they tend to show disregard to repeatedly receiving information, creating an “echo cham-
ber” effect. In this echo chamber the thought leadership determines whether naive participants
end up following a rational or fanatic line of thought. (Pedersen, 2021)
The influence of agents have a component originating from confirmation, the more confirma-
tion a particular view gains the more convincing power it possesses. And the same goes for
invalidation. The more an agent gets invalidated the less influence it has. And This effect fol-
lows through into the degree of stubbornness. The more previous confirmation a thought leader
shows, the more stubbornness it projects. We explained through the model of Pedersen how
32
thought leadership effects naive investor behavior, and through that inflows. But the mechanics
how though leadership is created and what factors influence it in a trading context requires
further examination.

Kromiindha and Li’s research into online social trading indicates that, the most significant
metrics in a trader’s decision to join copying another trader is the number of previous joiners,
and their popularity. Which seems to be consistent with the “echo- chamber model”. The same
stands true for leavers (who stop to copy), them mostly being affected by the number of previ-
ous leavers and popularity. It means that for the most part, naive investors, copy traders will
follow the herd, engaging in a self-feeding loop. To initiate the start or a reversal in this loop
there have to be external variables. And that is where performance comes in and thus confir-
mation. (Kromidha and Li, 2019) Translating it to the GameStop case, throughout the months
leading up to the pump, Keith Gill has been continuously posting his significant gains demon-
strating his performance, gaining validation, due to this the number of followers increased at-
tracting more and more followers in an exponential manner. With the burst in media attention
the popularity of the movement skyrocketed, bringing more followers pushing the price up,
hence the bubble came to be. The reversal of the bubble has similarly been a result to a shock
in performance and new joiners. New joiners due to disruption, like limitations to buy
GameStop on discount brokers such as Robinhood and to performance to profit takers and new
shorts, which caused a reverse spiral. (Gonzalez, 2021)

We have now established that though leaders have the capability to effect stock prices through
the “echo chamber” effect if they can reach influential dominance, that on its own does not
entail manipulation. As for manipulation to take place, the manipulator has to willfully deceive
investors with the goal of personal benefit.
Going back to our proposition of the GME case resembling a pump and dump, whether partic-
ipants actually have extremely bullish views, or are they pretending for the sake of deception,
intentions of particular social media users is hard to evaluate as their expressions cannot be
distinguished from that of biased “fanatic agents”.
On the other hand social groups such as wallstreetbets are hardly strangers to schemes of de-
ception, partial information and manipulation.

33
To demonstrate, we take a quick look at the most widespread form of pump and dump schemes
spreading through social media at the moment, crypto currency pumps. Crypto pumps are car-
ried out by pump groups connected using different platforms such as Discord or Telegram and
are gathering members through other social platforms such as Reddit, Twitter and social trading
platforms such as Etoro.
The actors of such schemes are organizers and participants. The process of a crypto pump ac-
cording to one of the groups named wallstreetbets |Market Makers a group of around 50 thou-
sand members.
- Members from all over the world join up to push a target coin/token all at the same time
- The coin increases rapidly in price
- The coin becomes top gainer creating attention from traders and algorithms. Meanwhile
participants are promoting the rise to create outside attention.
Accompanied by excessive claims of historical and potential gains. (See appendix 6)
In reality, these pumps are designed in a way that first, before the generation of public attention,
organizers buy the coin in advance, which has been confirmed by analysing pre-pump volume.
After that, pump details are released, followed by participants buying the coin. One such pump
in general takes a couple minutes at most with a reversal to the pre-pump price at the end. As
the aggregate returns amount to 0 with the price returning to where it started, the total loss of
speculators is the money made by the organizers, who buy in advance and the trading fees.
(Jiahua Xu & Benjamin Livshits, 2018.)
There are definite similarities between the way these crypto pump and dumps work and the
GME pump. With the early Reddit investors, taking on the role of organizers, promoting the
stock with false promises, and according to research conducted on broker data, also selling
relatively early in principle. (Hasso, Müller, Pelster and Warkulat, 2021.)

Another aspect to take into consideration is the definition of personal gain, until now we have
assumed that agents engage in manipulation for the sake of personal financial gain. But there
are characteristics of the GameStop case that suggest that there are other motives outside that.
Keith Gill in his congress hearing, in his defense against claims of manipulation has highlighted
multiple times, that he has not sold his shares and that he “just likes the company” (CNBC,
2021) He has since doubled down on his dedication towards GameStop by exercising his call
options and buying additional shares. (Reddit, April 2021) In his study, Pedersen has therefore
characterized Gill as a fanatic agent, having a stubborn, overly bullish view on the company.
(Pedersen, 2021) But in the light of the rational behavior and understanding Gill has previously
34
presented, also considering his financial knowledge and experience as a security broker, and
that he previously valued the company within a reasonable range with no fundamentals chang-
ing since. An alternative explanation to his behavior other than being an actual fanatic agent is
being a rational agent with motives other than financial gain, in the form of demonstrating
against the way markets work and institutional investors, against which he expressed his dislike
multiple times involving his congress hearing. (CNBC, 2021) Having a non-financial investing
motive is no stranger to the market, with a lot of investors investing specifically in green com-
panies or avoiding investing in companies that they deem to be unethical or ecologically dam-
aging, although these investment decisions for the most part in case of established businesses,
does not have meaningful impact on the underlying businesses, and instead carry political or
moral weight.

Again, as the identity and motives of Reddit users participating in hyping the stock is difficult
to trace, the field of possible willful manipulation and participant motives requires further re-
search and here in this last segment could have only been demonstrated as valid alternative to
previous assumptions. In line with that, we propose need for further research into this question
as with the liberalization of investing and growing freedom and market share of retail investors,
which in the past year has doubled to over 20% of the overall market from 10%.(GmbH, 2021)
Meaning that the influence of naive agents is on a very dynamic rise.

35
 5. Conclusion
In this study we have examined the different aspects fueling a social movement induced bubble.
First, we have studied GameStop as a business and their future potential in terms of historical
performance, positioning among competitors, financial health and future prospects, upon
which we created a valuation model for the company. Our findings imply that, the company
faces a significant headwind in terms of market trends threatening its core business. We also
concluded that the company’s primary alternative market to its brick and mortar retail of phys-
ical gaming products, which is digital sales is a saturated market with high competition and
GameStop possesses no competitive advantage to enter in a red ocean type strategy, and there-
fore they require innovation and creation of a new market segment to succeed. Their future
prospects in line with the above findings depend on whether they can innovate and implement
these innovations in an effective and timely manner. GameStop’s current efforts primarily fo-
cus on the preservation and optimization of their core business model as opposed to a blue
ocean transition, giving no apparent reason for overwhelming optimism. On the other hand,
according to our analysis the company’s does not face direct financial threats on the short term,
further supported by the company’s debt reduction strategy. Overall our analysis and valuation
concludes that the company, while in the past might have been undervalued due to over pessi-
mism, the prices experienced early 2021 and with the second wave to the upside now are in no
way supported by company fundamentals, exceeding even most positive estimates.

Establishing that the valuation of GameStop cannot be supported by fundamentals, we have

looked at other possible ways to explain the price action, starting by taking under the lens of
classic bubble models. Our analysis found that the price increase GME stock experienced
closely resembles traditional bubbles, following Rodrigue’s four stage model. Our findings
propose that Reddit activity played a key role in both starting and fueling the bubble, with
increases in community engagement preceding waves in price increase. Due to the apparent
causal relationship between the activity of Reddit thought leaders in the initiation of the
GameStop hype we went to investigate how manipulation could have played a role. We have
also investigated the impact of the short-squeeze taking place which has been the flagship pro-
motion of speculators.

36
We have found that due to the overwhelmingly high liquidity speculators could not have gen-
erated positive aggregate returns from the triggered short-squeeze. As even daily trading vol-
umes have far exceeded the total number of outstanding shares sold short. Meaning that alt-
hough a short squeeze has happened, the price bubble in total terms left speculators with losses
,and those who have profited mostly done so, on the expense of other speculators to whom they
sold their shares.

Our research proposes that due to the “echo chamber” effect with optimal circumstances,
though leaders with limited initial exposure have the power to influence large masses, being
able to manipulate stock price. In the study we have examined the activity of Keith Gill to
determine to what degree his actions can be classified as manipulation. We found that his initial
behavior indicates no intention to manipulate stock prices, on the other hand his actions there-
after of promoting the stock when it was already well over ten times his high-end estimates and
was both willful and deceptive. Contrary to manipulation in general though the actions of Keith
Gill show motives other than financial profits, and lean in the direction of demonstration as he
has knowingly been buying and not selling the stock throughout the whole event, still promot-
ing it for purchase although it is still over his valuation and over the hype.

Based on these finding we propose the need for further research into the underlying motivations
of social media promotion of securities, for the purpose of public awareness, possible regula-
tory action.

37
 6. Appendices:

6.1. Appendix 1:
For an estimate valuation we are using a discounted cash flow model calculating the present
value of each year’s cash flow (per share) as 𝐹𝐶𝐹 ∗ (1 + 𝑟)−𝑛 . We estimate cash flows for the
next 10 years, at the end applying a terminal multiple based on the outlook and growth rate by
the ending point of the model. The sum of these discounted cash flows gives us the present
value of the company according to each scenario, providing an estimate range of the intrinsic
value of the company based on a 10% discount rate. Grounded in historical performance and
ability to execute among other factors, we give a probability to each scenario to get to final
estimate for the company’s present value.

Growth Rate Terminal Value

next 5 years -10% 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2030
5 to 10 years 0% 1,93 1,73 1,56 1,40 1,26 1,26 1,26 1,26 1,26 1,26 12,64
Discount rate 10% 1,75 1,43 1,17 0,96 0,78 0,71 0,65 0,59 0,54 0,49 4,87
Terminal multiple 10 13,95

Growth Rate Terminal Value

next 5 years 0% 2021,00 2022,00 2023,00 2024,00 2025,00 2026,00 2027,00 2028,00 2029,00 2030,00 2030,00
5 to 10 years 15% 2,14 2,14 2,14 2,14 2,14 2,46 2,83 3,25 3,74 4,30 112,29
Discount rate 10% 1,95 1,77 1,61 1,46 1,33 1,39 1,45 1,52 1,59 1,66 43,29
Terminal multiple 30 59,01

Growth Rate Terminal Value

next 5 years -20% 2021,00 2022,00 2023,00 2024,00 2025,00 2026,00 2027,00 2028,00 2029,00 2030,00 2030,00
5 to 10 years -20% 1,71 1,37 1,10 0,88 0,70 0,56 0,45 0,36 0,29 0,23 0,00
Discount rate 10% 1,56 1,13 0,82 0,60 0,44 0,32 0,23 0,17 0,12 0,09 0,00
Terminal multiple 0 5,47

Probability Presenmt Value

0,5 13,95 6,97
0,1 59,01 5,90
0,4 5,47 2,19
Sum 15,06

Using the same model, we estimate the required growth rate that would justify the current
valuation.
Growth Rate Terminal Value
next 5 years 25% 2021,00 2022,00 2023,00 2024,00 2025,00 2026,00 2027,00 2028,00 2029,00 2030,00 2030,00
5 to 10 years 15% 2,68 3,34 4,18 5,22 6,53 7,51 8,64 9,93 11,42 13,14 342,67
Discount rate 10% 2,43 2,76 3,14 3,57 4,06 4,24 4,43 4,63 4,84 5,06 132,11
Terminal multiple 30 171,29

6.2. Appendix 2:
The figure demonstrates the correlation between GME stock price and Reddit activity.
Reddit activity has been measured through the number of upvotes on the posts of the most well
known GME trader of wallstreetbet, Keith Gill (DFV) which has been paired with the stock

38
price of GameStop for each day respectively. Using Reddit upvote counts (Reddit, 2021) as
well as share price data from NasDaq (GME Historical Data, 2021).

Reddit activity and stock price

400 300000
350 250000
300
250 200000
200 150000
150 100000
100
50 50000
0 0
2020-10-15

2021-01-28
2019-07-01
2019-10-01
2019-12-05
2020-02-01
2020-05-01
2020-08-01
2020-09-22

2020-11-05
2020-11-25
2020-12-09
2020-12-23
2021-01-05
2021-01-14
2021-01-25

2021-02-02
2021-02-28
2021-03-24
2021-04-16
GME stock price Reddit activity

6.3. Appendix 3:
Bid Ask Distressed short
100 15 16 300
100 14
100 13
100 12
100 11
10 100
9 100
8 100
7 100
6 100

Scenario 1 Scenario 2
Participant Participant
Price 1 2 3 4 5 Total Price 1 2 3 4 5 Total
16 960 960 960 960 960 4800 16 1200 1200 1200 1200 4800
15 -300 -300 -300 -300 -300 -1500 15 1200 -675 -675 -675 -675 -1500
14 -280 -280 -280 -280 -280 -1400 14 -280 -280 -280 -280 -280 -1400
13 -260 -260 -260 -260 -260 -1300 13 -260 -260 -260 -260 -260 -1300
12 -240 -240 -240 -240 -240 -1200 12 -240 -240 -240 -240 -240 -1200
11 -220 -220 -220 -220 -220 -1100 11 -220 -220 -220 -220 -220 -1100
10 200 200 200 200 200 1000 10 250 250 250 250 1000
9 180 180 180 180 180 900 9 225 225 225 225 900
Profit 40 40 40 40 40 200 Profit 200 0 0 0 0 200

In scenario 3 preadators buy an additional 10 lot at the price of 15 selling them back at the price
of 8 as there is no additional liquidity coming in outside the mentioned parameters. Creating a
loss of (15-8)*10=70

39
6.4. Appendix 4:

6.5. Appendix 5:

40
6.6. Appendix 6:

41
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