Help! Should I Sell GameStop and AMC Stock Now or Hold for a Recovery?

Talk about unhelpful. As GameStop (NYSE:GME) and AMC Entertainment (NYSE:AMC) stock nosedived this week, the financial establishment has roundly given the “I told you so” treatment to Robinhood investors. Meanwhile, Reddit’s r/WallStreetBets remains buzzing with stock promoters trying to get investors to double-down on past mistakes. Few people are talking about what GME, AMC and other meme stocks are truly worth.

GME Stock On a Mobile Phone

Source: Shutterstock / mundissima

There’s some good news: many of these meme stocks are worth more than zero. Companies like Nokia (NYSE:NOK) and Palantir (NYSE:PLTR) have strong underlying franchises and will succeed for years to come. But when your business sells plastic discs in shopping malls or finds itself on the wrong side of the home-streaming industry, it’s time to start worrying.

My apologies, Reddit. Though the GME and AMC bubble might survive a bit longer, history tells us that stock squeezes don’t last.

GME and AMC Stock: Diamond Hands, Meet Market Bubble

Firstly, understand this: many of GME and AMC’s greatest fans are in it to make a point. Whether to bankrupt a hedge fund, help their favorite company, or show off massive paper gains, these investors happily hold on beyond peak prices. And with low enough entry prices, they will still make a profit; some of GameStop’s biggest fans on r/WallStreetBets bought in at single digits. For these folks, GME’s drop from $480 to $70 per share still means a tenfold gain from the start of 2020. Holding on could be a reasonable strategy.

But most individual investors don’t have that luxury. To them, these steep declines (whether paper or real) represents an actual loss to their net worth. With GME and AMC still at high levels, should investors who aren’t just in it to prove a point cut their losses before it’s too late?

What History Tells Us

In 2018, investors short-squeezed Tilray (NASDAQ:TLRY), a cannabis company, sending shares skyrocketing from $30 to $210 in less than a month. Prices then dipped to $100 before recovering halfway to $160. Most short squeezes tend to follow a similar pattern – 1) a massive spike, 2) a steep fall, 3) a partial recovery, and 4) slow sinking back to earth.

Graph of GME Stock vs Tilray Short Squeeze

Source: Data courtesy of Thompson Reuters

GameStop and AMC have mirrored this rise, but at a far faster pace. After reaching multi-year highs last week, these stocks quickly gave up their gains as short-sellers and options traders adjusted their positions. And though both companies will likely embark on a short-term recovery that could last 3-4 weeks, their stocks will probably sink back to fair value over the next 9-12 months.

Much can change; a new force drove both AMC and GME in investing: amateur investors banding together on social media. And these same Redditors could certainly force a second short squeeze. But with history as a guide, these companies will likely drift back to their long-term values over the long run. It’s hard to keep a short-squeeze going for long.

What’s GME Worth?

Between $13 and $20 per share. If you’ve ever walked through a GameStop and felt that its interiors look a little dated, you’d be right — GameStop’s management has been slowly liquidating the company, not investing in its locations.

It’s a strategy that many other retailers have done: milking a dying business for cash before eventually closing it down. It’s the same trick financier Eddie Lampert performed with Sears/K-Mart (OTCMKTS:SHLDQ) in the 2010s.

Though the company eventually disappears, its existing cash flows make the stock worthwhile for value investors. Applying this strategy to GameStop values shares around $11. After adding in the potential for a second-life in e-commerce, the amount might increase to $20. Wall Street analysts also agree — the median estimate for GameStop stock hovers at just $13.

What’s AMC Worth?

Between $0 and $5 per share. AMC investors have even more to worry about. Last September, the heavily indebted company held over $11 billion in loans and operating lease liabilities. And even after raising $506 million in new equity earlier this year, the company still faces a pile of debt that it has little chance of ever paying back.

Much of the damage was self-inflicted. In trying to overtake Regal Cinemas, AMC borrowed heavily to acquire Carmike, Odeon, and other theater chains in 2016-18. Some was also market-driven – a push towards expensive reclining seats and updated theaters saw major cash outflows. Regardless, these debts crippled AMC. Even before the pandemic, the company’s $300 million per year interest payments exceeded its operating income.

In other words, the company would likely have eventually gone bankrupt, even if the coronavirus pandemic never happened.

Debt holders have long sought to unload their AMC holdings. Last week, Silver Lake converted its entire $600 million debt to $713 million equity and immediately cashed out. Dalian Hexing, meanwhile, exchanged $547.3 million in debt for undisclosed majority interest in AMC, according to Reuters. That means AMC’s equity value is likely zero; if debt holders face a haircut, the company’s majority Chinese-based owners will likely wipe out minority shareholders before ceding control.

AMC could yet survive — a post-pandemic return could see the company’s value skyrocket. But given the risks, Wall Street has quite fairly pegged AMC’s value at a lowly $3.50.

Should You Cut Your Losses?

Whether you cut your losses on GME and AMC depends a great deal on your own investing strategy. Those looking to show off massive paper gains, stick it to hedge funds, or who choose to be in it for the community might feel like holding on. Why lose face when you have such a low entry price?

But for investors simply looking to make money, there are plenty of other meme companies that have far better long-term outlooks. And while companies like Nokia and Palantir might not show you the same crazy gains as GameStop did, they won’t take your savings down along with them either.

On the date of publication, Tom Yeung did not have (either directly or indirectly) any positions in the securities mentioned in this article.

Tom Yeung, CFA, is a registered investment advisor on a mission to bring simplicity to the world of investing.

Article printed from InvestorPlace Media,

©2022 InvestorPlace Media, LLC