GameStop GME analyst shares successfully detect attacks on short films that trigger 'meme stocks' - GameStop (GME) caught the attention of everyone in late January and early February when its stocks skyrocketed.

The video game company's spectacular rise came when a mob retail investors joined in various forums such as Reddit and bought their shares spectacularly. Hedge funds believed these values would fall as the company weakened like the defunct Blockbuster movie store.

The sudden purchase triggered a small attack in which the bears, who borrow shares from companies they consider overvalued in order to buy them back cheaper and make profits, decided to bail out their bets and buy securities to cover their losses.

A new interest has formed among the shorts as GameStop has moved further away from the fundamentals and the "apes", the term by which Reddit traders call themselves, were encouraged to keep the unlikely rally going.

GameStop values have continued to rise over the course of this year, to around $ 173 (about 147 euros), an increase of 820% so far in 2021.

GameStop GME analyst shares successfully detect attacks

"The thesis on which the short bet is based is that stocks will, over time, be traded at a fundamental value. That has always been true, but it is no longer true with 'apes'," explains Michael Pachter, an analyst at Wedbush Securities who has covered GameStop since 2002.

Like others on Wall Street, Pachter increased its target price on GameStop shares, as the company took advantage of its stock rebound by issuing new ones to raise capital and pay off its debt. But it still has a performance rating below the stock, and its target price of $ 50 (about 42 euros) implies a 71% drop.

After taking a close look at GameStop's rise, Pachter shared in a recent interview on how traders can spot a new case like GameStop.

GameStop GME analyst shares successfully detect attacks

The sudden increases in the actions of the so-called" memes " seem random, but the movements are quite the opposite.

"Reddit investors, like regular bearers, go from stock to stock, find a mismatch and exploit it," Pachter analyzes.

Reddit traders target shares of companies with small market capitalizations with a high short interest rate relative to their float, or the number of securities that are traded freely, according to Pachter. GameStop's short attack occurred because 140% of freely traded stocks were short, meaning short sellers could not close their positions without stocks skyrocketing once the attack began.

GameStop GME analyst shares successfully detect attacks

"The relatively recent phenomenon of what we're seeing at GameStop and AMC is that the stock supply is quite low and the demand for short stocks is very high," Pachter adds.

Other examples of values with a relatively low float are Blackberry and Newegg. On the contrary, the shares of large companies such as Amazon, Apple and Tesla are immune to this type of attack because their shares have a lot of liquidity.

Reddit traders tend to brag about how they have profited from meme stocks, not the stocks they have short-sold. However, there is an opportunity for individual investors, not just hedge funds, to sell overvalued stocks short, provided they choose targets wisely and manage risk carefully.

GameStop GME analyst shares successfully detect attacks

To win on short positions, you first have to look at the short interest of a stock, which shows the market sentiment and the probability of an attack like GameStop. A high short interest reflects a strong consensus that the stock is overvalued, but if the short interest is too high, Pachter warns that the bears should not continue with the trade.

"If everyone agrees with you, there's not much money to make," says Pachter.

Short investors should consider securities with a short interest ratio and a float of about 5% to 80%, in Pachter's opinion. Short interest rates above 80% are not sustainable and offer a small advantage, but a big downside risk. In contrast, long positions looking to capitalize on short attacks should target values with abnormally high short interest.

Pachter adds that the smartest short investors he knows use call options to hedge their bear bets. If the stocks that are selling short go up by 10%, they close the position instead of doubling. Profiting from the benefits of the opportunities they bought offsets some of their losses.

Investors can follow suit by identifying patterns on a stock chart and hedging themselves with options. But, as GameStop's torrid career has shown, the stock market is full of risks and surprises.

"The biggest mistake you can make is assuming that the other will make a rational decision," Pachter reflects.