For companies such as GameStop and AMC, where traders on both sides are battling with extreme leverage (as high as 3,200X) fundamentals don’t matter one bit.
Recently GameStop was still 120% shorted, compared to 140% back in early January. Theoretically, if the stars aligned just right, this is a stock that could go up even faster than it did in January.
- in January just a handful of shorts buckled and closed out their positions
- if they were to all do it in February, Gamestop could potentially soar even faster and to levels that would be truly mind-blowing (over $200 billion market cap or even over $1 trillion if the gamma squeeze were big enough)
These aren’t high probability scenarios, and I sure as heck am NOT recommending anyone run out and start gambling with Gamestop, or any companies’ options.
- most options expire worthlessly and represent 100% losses
- you have to be right about direction, magnitude, and timing
- being wrong about any of these can result in 100% losses
AMC is in a similar boat as GME.
- S&P estimates a 65% chance that AMC will go bankrupt and its stock to zero
- S&P estimates Gamestop’s probability of bankruptcy at 45%
When the probability of a total loss on any given company is this high, I recommend avoiding it unless it’s part of a tiny portion of your speculative portfolio.
- the part of your portfolio where you are making the riskiest bets, not investments, outright gambling
- and are OK with 100% losses
- which are likely with naked options
- but especially so with GME and AMC
- whose business fundamentals are extremely weak according to analysts, rating agencies, and bond investors
So how can you maximize your profits when dealing with rampant speculation where the most likely outcome is a large or even complete loss?
The Only Way To Walk Away A Winner When This Craziness Finally Ends
About eight years ago I made $175K in a single day on Apple call options ahead of earnings.
- I spent a year studying Apple‘s earning history, how its price moved before and after results, etc.
It was a YOLO bet, just like what many on WallStreetBets are making now on AMC and GME.
My father begged me, the day before Apple reported earnings, to take the money and run. It was almost $200K in profits, all on paper of course. A 500% paper profit in a matter of two weeks.
The smart thing, of course, would have been to lock in enough profits so that if Apple missed expectations and tanked, I would still walkway a large winner.
BUT I was running “diamond hands YOLO mode” and greedy as heck. I had just made $200k in 2 weeks, and Apple’s average post-earnings pop was 5% over the last four years.
- If Apple beat as it had 100% of the time in the last 27 quarters, I could double my profits in a single day.
- If Apple popped as much as its largest single-day gain (10%) of the previous four years, I could have multiplied my gains by 10X.
- $200K in paper profits could then be sold for $2 million within 24 hours.
- 61X my money in 2 weeks
Those were the life-changing numbers flowing through my head when I decided to keep YOLOing my Apple option’s trade.
- the next day Apple missed earnings for the first time in 8 years
- the stock fell 13%
- I lost 90% of my life savings
- the low probability, long-tail event happened
- and I lost the chance to lock in $200K in profit because I was chasing $2 million
What are the lessons I learned from that soul-searing experience?
- if you’re going to speculate (and not everyone should) you have to do so responsibly
- only with money, you can safely afford to lose 100% of
- without losing a wink of sleep
- or reducing your standard of living
Regret minimization is the important lesson I learned from that experience, including locking in enough profits periodically to ensure that when the good times finally end, you walk away from a big winner.
- I was up 500% the day before Apple missed earnings
- had I sold half I would have been up 250%, $100K in realized profits
- and still had a long-but realistic shot at $1 million in additional profits
To those who have made out like bandits with AMC, or GME or both, learn from my mistake and don’t take “YOLO diamond hands” to the extreme I did.
When dealing with extreme speculative investments like this, luck is literally the only thing that’s driving returns.
- lady luck is fickle and can turn on you in a heartbeat
- what would you regret more? Locking in half your profits now and then letting the other half ride and making just half as much? Or ending up with nothing and having to live with the regret of having lost a potentially life-changing fortune because you pushed your greed just a little too far?
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SPY shares were trading at $384.64 per share on Thursday morning, up $2.79 (+0.73%). Year-to-date, SPY has gained 2.88%, versus a % rise in the benchmark S&P 500 index during the same period.
About the Author: Adam Galas
Adam has spent years as a writer for The Motley Fool, Simply Safe Dividends, Seeking Alpha, and Dividend Sensei. His goal is to help people learn how to harness the power of dividend growth investing. Learn more about Adam’s background, along with links to his most recent articles. More...
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