GameStop Corp. (NYSE: GME) stock price drops 25%, wiping out nearly $3 billion in market value

GameStop Corp. (NYSE: GME) experienced a sharp 25% drop in its stock price yesterday, wiping out nearly $3 billion in market value.

GameStop Corp (NYSE:GME) shares experienced a steep 25% decline on Friday, wiping out nearly $3 billion in market capitalization. The downturn follows a brief 16% rally on March 26, sparked by the company’s announcement to establish a Bitcoin treasury reserve.

Initially seen as a bullish move by investors, the news quickly soured as the market responded to an apparent instance of hedging-related selling pressure, setting the stage for a sharp reversal.

GameStop’s Bitcoin Gamble Sparks Volatility

GameStop’s decision to invest in Bitcoin and raise $1.3 billion through convertible senior notes drew immediate comparisons to MicroStrategy (NASDAQ:MSTR) and placed the retailer among corporations like Metaplanet that are adopting Bitcoin as a treasury asset.

At first glance, the move seemed promising, pushing the stock into double-digit gains. However, the stock quickly faced heavy selling pressure, leading to a substantial decline.

A closer look reveals that the sell-off was largely driven by a trading strategy known as convertible arbitrage, which created artificial downward pressure on the stock.

The Convertible Arbitrage Effect

According to financial analyst Han Akamatsu, the rapid decline in GameStop’s stock can be attributed to institutional investors engaging in convertible arbitrage.

This strategy, previously observed during MicroStrategy’s convertible note issuances, involves large players buying the convertible bonds and simultaneously shorting the stock to hedge their positions. In turn, this creates artificial short-selling pressure, causing the stock price to drop.

Akamatsu explained that a similar pattern emerged in 2021 when MicroStrategy issued $1.05 billion in 0% convertible notes. After the announcement, MSTR shares initially dipped due to the convertible arbitrage but later soared as Bitcoin rose, setting the stage for a substantial short squeeze.

He believes GameStop could follow the same blueprint:

Akamatsu stated that the pattern becomes clear when examining the timing of the convertible note issuance and the subsequent market reaction.

Risk and Reward: Investor Concerns Mount

Despite the potential for a future squeeze, some investors are critical of GameStop’s board for what appears to be self-inflicted selling pressure.

One X user questioned Ryan Cohen’s decision-making, highlighting the massive drop in market value: “Nearly $3 billion in market value was wiped out today. RC should really ask himself if it is worth it or if he miscalculated. The hedge is supposed to mitigate risk but has instead created much more.”

However, Akamatsu stood by his analysis, suggesting that the current volatility is part of the plan and that long-term investors could benefit if the stock follows MicroStrategy’s trajectory.

Technical Outlook and Potential Squeeze

Akamatsu also noted that volume-weighted average price (VWAP) pricing will influence the convertible notes’ conversion price. Institutional players may aim to keep GME’s stock price low during the VWAP pricing window (from 1:00 PM to 4:00 PM EDT on the pricing day) to secure a more favorable conversion price.

In a separate post, he compared GameStop’s current setup to Celsius Holdings (NASDAQ:CELH), which saw a massive breakout after a similar pattern. He referenced chart analyst Thomas Bulkowski’s wedge pattern theory, suggesting that if GME retraces after its recent breakout, it could present a prime buying opportunity.

While GameStop’s Bitcoin strategy has sparked short-term volatility, analysts believe it could lead to a highly volatile squeeze scenario if Bitcoin’s price surges or if GameStop’s stock rallies unexpectedly.

For now, the stock faces significant downside pressure. With convertible arbitrage exerting its influence and keeping the price down, GME could continue to weaken in the short term.

However, if Bitcoin experiences a substantial rally, swiftly unwinding short positions in GameStop’s stock could propel it into a rapid surge.