Are You Kidding Me?

Are you kidding me? That is what many investors are thinking as they watch names like Game Stop (GME), AMC (AMC), Express (EXPR) and others skyrocket in price and trade with extreme volatility. Adding to the bewilderment is the fact that COVID-19 has impacted these companies negatively and forced some of them to the brink of bankruptcy. So, what is going on here and, more importantly, what does this mean for you?

How Short Selling Works

The best place to start is with a description of how short selling works. It begins with someone borrowing a stock and selling it with the hope they can repurchase the shares later at a lower price and make a profit. The lower the repurchase price, the greater the profit for the short seller. However, if the price rises, the short seller loses money. The higher the price, the greater the loss. Since - in theory - stock prices can rise indefinitely, short selling losses can be unlimited. Not only is there a lot of risk, but there are also many costs and complications associated with short selling, which is why this strategy is mainly the domain of hedge funds.

What Happened Last Week

A Reddit forum for stock traders with over 5 million users called r/WallStreetBets entered the picture. For a variety of reasons, the r/WallStreetBets users began a coordinated buying of Game Stop shares which led to a meteoric rise in its price. Then short sellers (hedge funds) began buying shares to cut their losses which drove prices up even more. This cycle, repeating over and over, is known as a “short-squeeze”. AMC, Express and several other company stocks experienced a similar short squeeze.

Now for the Most Important Question

What does this mean for you as a CPC client? We reviewed our models and identified a holding that had increasing exposure to Game Stop and sold that position after the Investment Committee concluded that its financial fundamentals and outlook could in no way support the current price. Some of you may still have a tiny exposure to Game Stop and the other companies mentioned in this report through the broad stock market based mutual funds and ETFs in your portfolio, and we are content with that amount of exposure. The foundation of our investment process is diversification and avoiding undue concentration in any stock. The rise and fall of Game Stop or any other company should not have excessive influence on your portfolio’s performance. The CPC Investment Committee continually monitors market conditions and looks for sound investments to achieve your goals, but we will never chase fads.

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