Game On for Bears as Wal-Mart Threatens GameStop Sales: Options

By Sofia Horta e Costa

It’s never a good sign when Wal-Mart Stores Inc. (WMT) encroaches on your turf.
That’s what happened to GameStop Corp. (GME) earlier this year, when the world’s biggest retailer allowed customers to trade in used video games for store credit. As of last month, Wal-Mart began selling certified pre-owned games including Call of Duty: Advanced Warfare in 1,700 stores.
Projections for a 12 percent sales gain -- which would be GameStop’s best holiday period in six years -- are now looking too bullish, said Credit Suisse Group AG’s Seth Sigman. Options hedging against share declines in GameStop cost the most versus bullish wagers since at least 2005, according to data compiled by Bloomberg.
“There’s concern that this holiday will disappoint,” Sigman said by phone from New York. “We’ve had pretty choppy trends throughout this year, yet you have sales estimates at the high end of GameStop’s guidance. That leaves little room for error. If Wal-Mart continues to
price the trade-in and the resell more aggressively than GameStop, that’s something to monitor for sure.”
GameStop depends on used-game products for a quarter of revenue, while margins for used games are about double those of new software. The threat from Wal-Mart has helped fuel a more than 10 percent drop in GameStop shares this year, and short sellers are betting on even more pain.

Short Interest

Short interest for the game seller has climbed to 29 percent of shares outstanding, almost triple what it was last year, according to London-based Markit, a financial-data provider. That makes it the most-hated member of the Standard & Poor’s 500 Index.
GameStop reports third-quarter financial results on Nov. 20 and fourth-quarter earnings next year. Winter sales have not increased more than 5 percent since the 2009 fiscal year, according to data compiled by Bloomberg.
Joey Mooring, a spokesman for GameStop, declined to comment on the short interest and options trading.
Game sellers have reason to be optimistic. With consumer confidence at the highest level since 2007 and oil prices near a four-year low, Americans have cash to spare. The National Retail Federation predicts Americans will spend about $617 billion during November and December, up 4.1 percent from last year. Almost half of respondents in a NRF survey said they planned to buy video games, books, CDs or DVDs.

Holiday Season

“It will be a good holiday season for games,” said Mike Olson, a Piper Jaffray & Co. analyst in Minneapolis. “By the time we get to Christmas there will probably be at least 25 million next-generation consoles in the market, and gamers will want new software. GameStop has a solid loyalty program that encourages people to trade, as well as offering cash for both old games and consoles. Wal-Mart is not doing that.”
GameStop options with an exercise price 10 percent below the shares cost 14.2 points more than calls betting on a 10 percent jump on Nov. 6, according to one-month implied volatility data. That was the biggest difference since Bloomberg began compiling the figures almost a decade ago. The four most-owned contracts were bearish.
“Competition from other retailers indicates GME must work for this incremental share,” David A. Schick, an analyst at Stifel, Nicolaus & Co., wrote in a note. He has a hold rating on GameStop.