GameStop (NYSE: GME) – Sell Put Options

Intro
There is probably no intro needed for Gamestop, the ultimate meme stock that ran from less than $20 to around $235 per share in no time this year. Disclaimer: At current trading levels, it is very unlikely that Gamestop will be able to show future results that will justify the very lofty valuation and buying the stock now is pure speculation. With the significant increase in its share price, volatility rose substantially as well – and this is where it may get interesting.
One, or probably the most, important parameter to calculate an option price is volatility. Volatility is measured in percentage and “boring”, mature stock usually show a volatility in the range of 15-20% and levels of above 50% are considered elevated volatility. Gamestop’s volatility is above 170% and therefore all Gamestop options outstanding are expensively priced by looking at the volatility.
As will be further described below, a possible strategy might be to sell deep out of the money put options and profit from a decrease in volatility or time decay.

Valuation
At the beginning of May, Gamestop’s equity amounted to around $880m which is approx. $12 per share (and of which $9 per share is cash and no financial debt). A few days ago, the company said that they may issue up to 5 million new shares which could increase its cash position by more than $1bn at current prices, which would further boost the equity and cash per share figures.
Regarding selling put options, it’s important to determine a stock price level where it is assumed the stock won’t drop. In this case, it is probably reasonable to say that a share should be worth at least approx. $10 (~cash value) – and more if they are able to sell additional shares to increase its liquidity position.

What’s next?
As outlined above, one possible way to profit from the high level of volatility is the sale of deep out of the money put options. Let’s look at one example:
Maturity: Jan 2023
Strike: $2
Price: $0.18
Implied volatility: 178%

By selling these options at $0.18 each, the seller immediately collects $0.18 with a maximum loss of $1.82 (strike of $2 minus $0.18 premium collected). In other words, as long as Gamestop trades above $2 in January 2023, the seller keeps the $0.18 and achieves a maximum return of ~9% (0.18/2). If volatility drops to, for example, 120% while the share price stays flat, the option will be worth only $0.01 and can be closed already ahead of expiration. If, for instance, the stock drops to $20 per share and the volatility to 70%, the options will also be worth around $0.01 and can be repurchased as well. It is evident that in all scenarios where either the stock doesn’t drop below $2 per share or volatility decreases (which will happen sooner or later), this will be a profitable trade. As a matter of fact, the situation is similar with strikes of $3, $4, $5 or $7 which show an excellent risk/reward situation.

Current Price
Jan23 2P @$0.18 per option (or 18$ per option contract)